The Bank of Japan headquarters in Chuo Ward, Tokyo.
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Economist Sayuri Shirai says mixed messaging from the BOJ and the Takaichi government on rate hikes and fiscal financing is leaving investors guessing about Japan's policy direction.
"It's hard to understand what they're trying to do," said Sayuri Shirai, a former Bank of Japan (BOJ) Policy Board member and one of Japan's foremost monetary economists, describing the central bank's recent decisions in an interview with Japan Forward.
Start with interest rates. When the BOJ raises its policy rate, it becomes more expensive to borrow money throughout the economy—for mortgages, business loans, and, crucially, for the government itself. A higher rate also tends to strengthen the yen, since it becomes more attractive for investors to hold yen-denominated assets.
The BOJ spent months suggesting a hike was coming, then backed off, only to raise rates anyway once the yen looked ready to weaken sharply.
Its June 17 hike was approved 7-1, and Shirai said the deciding factor was the yen's slide past ¥160 to the dollar. "If the BOJ did nothing there, the yen could have weakened even further. I think that risk was what pushed them to hike as planned."
A weaker yen matters for ordinary households because Japan imports much of its food and energy—so when the yen falls, prices at the supermarket and the gas pump tend to rise. That's the mechanism the BOJ is trying to manage.
Tokyo's Own Contradiction
The government has sent a similarly mixed message. Prime Minister Sanae Takaichi has generally favored keeping rates low to support growth, even at the cost of a weaker yen.
But the government's Basic Policy on Economic and Fiscal Management and Reform—known domestically by its nickname "honebuto"—was updated on June 30 with new language stressing that "appropriate monetary policy management" was essential to a strong economy.
"Markets read that as a signal to the BOJ not to raise rates further," Shirai said. In response, long-term government borrowing costs rose, and the yen weakened again, past ¥162 to the dollar.
Tokyo then tried to talk the market back down: Minister of State for Economic and Fiscal Policy Minoru Kiuchi denied any attempt to influence BOJ policy, while Finance Minister Satsuki Katayama floated the idea of shifting more of Japan's public pension fund investments into domestic assets—a move aimed at supporting the yen and the bond market.
Shirai questioned whether the Takaichi government is simply comfortable with low rates and a weaker yen as a result—and if so, why Katayama keeps stepping in through rate checks and other Finance Ministry interventions to hold the currency up.
"There's already a mismatch between Takaichi's low-rate thinking and what her own Finance Ministry is doing to hold back the weak yen."
How Strong Is Inflation?
Underlying all of this is a dispute over how much of a problem inflation really is.
Japan's overall inflation rate has stayed below the BOJ's 2% target since January—"probably around 1.5%," Shirai said—partly because government subsidies are keeping down the price of gasoline, school lunches, and high school tuition.
She also challenged the BOJ's preferred measure of "underlying" inflation, which strips out only fresh food, like vegetables and fruit. Every other major central bank's core measure excludes all food and energy, she noted.
Using that more standard method, she calculates Japan's underlying inflation at closer to 1.4%—well short of target. "So when the BOJ says it's approaching 2%, the data doesn't back that up." Given that gap, she doesn't expect a hike at the BOJ's next meeting, on July 30-31.
What the Bond Market Is Pricing In
That skepticism carries over into how she reads the bond market. Japan's 10-year government bond yield—essentially the interest rate the government pays to borrow for a decade, and a benchmark that also influences mortgage and corporate borrowing costs—has climbed to levels last seen in the late 1990s.
Shirai attributes this less to the BOJ falling behind and more to uncertainty about how Takaichi's spending promises will be paid for.
Five months after taking office, she explained, the government has not explained how it will fund a consumption tax cut on food, higher defense spending, or its headline ¥370 trillion ($2.5 trillion) growth-investment package.
"The figure is just designed to look impressive," she said—a large number attached to no funding source, which she called "a contradiction that investors are struggling to make sense of."
She suggested a way to tell which explanation is right: watch where along the yield curve the pressure shows up.
If investors are worried about the government's ability to pay its debts, that fiscal doubt should push up longer-dated bonds—the 30- and 40-year—faster than shorter ones.
If the rise is instead about the BOJ looking unable to raise rates, it should show up more through yen weakness and higher import prices than at the long end of the curve.
For now, Shirai said, markets are guessing rather than reacting to real information, because the government still hasn't spelled out how its spending plans will be financed. "There's no way this drags on for another year or two without more clarity," she said.
Whichever direction Takaichi ultimately takes—more borrowing or genuine restraint—Shirai expects long-term interest rates to move sharply once the details finally become clear.
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Author: Daniel Manning
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