BOJ Rate Hike and Market Reaction

The Bank of Japan (BOJ) has decided to raise its policy rate by 25 basis points to 0.75%. This was expected, and the BOJ plans to keep tightening monetary policy because real interest rates are low. Following the announcement, the USD/JPY exchange rate jumped over 1% to about 157.40. This was partly due to the BOJ maintaining its estimate for the neutral rate between 1% and 2.5%. The BOJ also indicated ongoing wage and inflation pressures, hinting at potential future rate hikes. Governor Ueda pointed out that the current policy rate remains below the lower end of the neutral rate range. Market estimates suggest that the BOJ might raise rates by 75 basis points within the next two years. Meanwhile, the Fed may lower rates by 50 basis points. This could bring the USD/JPY closer to a two-year implied policy rate of around 140.00. Today, when the BOJ raised its policy rate to 0.75%, the market saw this as dovish. This pushed the USD/JPY pair above 1% to nearly 157.40 because the central bank did not tighten its broad estimate for the neutral interest rate. We think traders should reconsider the idea that the BOJ will maintain its accommodative stance for a long time. Governor Ueda noted that the current policy rate is still well below their neutral rate estimate of 1.0%. This indicates a clear plan to continue raising rates in the coming months.

Japan’s Economic Indicators and USD/JPY Outlook

This perspective is reinforced by Japan’s ongoing inflation, with the nationwide core CPI for November 2025 at 2.7%, marking the 20th month above the BOJ’s 2% target. The central bank also indicated strong wage-setting behavior, meaning inflation is likely to persist. These factors create an environment conducive to further rate hikes in early 2026. In contrast, the US economy appears to be slowing, which makes Fed rate cuts more likely next year. The latest jobs report from November 2025 shows a significant slowdown in hiring, while US core inflation has decreased to 2.5%. This difference in policy between a rate-hiking BOJ and a rate-cutting Fed is a key reason for our outlook. Traders in derivatives should consider positioning for a notable drop in USD/JPY. The recent rise to 157.40 has increased implied volatility, making options more expensive, but strategies like put options or put spreads could profit from a downward shift. This situation is reminiscent of late 2023, when the market began to anticipate the end of the Fed’s hiking cycle while the BOJ’s stance was shifting. The swaps market currently anticipates 75 basis points of BOJ hikes over the next two years, while also expecting 50 basis points of Fed cuts. This significant gap in the expected interest rate paths between the two countries isn’t reflected in the current exchange rate. Therefore, we believe the USD/JPY pair has ample room to decline, moving toward our target of 140.00. Create your live VT Markets account and start trading now.

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