Tokyo: In the midst of mounting market volatility and on the eve of Japan’s national election, a senior former official has underscored that foreign exchange market intervention alone will not sustainably stabilize the weak yen unless it is paired with a credible path of interest rate increases by the Bank of Japan (BOJ).
Takehiko Nakao, who once served as vice finance minister for international affairs and now chairs the Center for International Economy and Strategy, told Reuters that Japan’s large foreign exchange reserves could provide an immediate shock to currency markets but that such action “will be more lasting” only if the BOJ also demonstrates a firm commitment to raising interest rates.
The Japanese yen has resumed a slide against major currencies just days before the scheduled Feb. 8 general election, heightening investor anxiety about the country’s economic direction. A weaker yen can benefit exporters by making their goods more competitive abroad, but it also increases the cost of imported energy and food, contributing to inflationary pressures that squeeze household budgets.
The government’s fiscal stance has added to market uncertainty. Prime Minister Sanae Takaichi has promoted measures such as temporary tax relief that have stirred debate over Japan’s fiscal health and its potential effects on bond yields. Analysts say that a decisive victory for Takaichi’s ruling Liberal Democratic Party could help calm markets by providing political clarity, though investor concerns about public debt and inflation remain palpable.
The Bank of Japan took the noteworthy step of raising its short-term policy rate to 0.75 % in December the first substantial rate increase in years and has signaled willingness to continue normalizing policy. Yet in real terms, borrowers still benefit from negative interest rates because inflation has consistently exceeded the BOJ’s 2 % target for nearly four years.
Nakao criticized this gradual pace of tightening, saying that the persistently accommodative policy has widened the gap between U.S. and Japanese interest rates. This differential has made U.S. assets more attractive to investors, further weighing on the yen. He further cautioned that this dynamic could worsen if Kevin Warsh widely expected to become the next Federal Reserve chair pursues policies supportive of a strong U.S. dollar.
Meanwhile, within the BOJ itself, policymakers have publicly debated the pace and timing of future rate increases. Board member Kazuyuki Masu has urged a “timely” approach to tightening to anchor inflation expectations and complete the normalization of decades-long loose monetary policy. At the same time, Masu stressed caution to avoid over-tightening, which could dampen nascent wage and price increases.
The ongoing policy conundrum highlights a core challenge facing Japanese authorities: how to balance the need to support the yen and contain inflation without undermining economic growth or destabilizing debt markets. The possibility of direct intervention in foreign exchange markets though politically sensitive has gained traction in financial circles as traders remain alert to any sign that authorities might step in should the yen approach critical levels against the dollar.
Economists warn that without a coordinated strategy that blends foreign exchange action with credible tightening of monetary policy, the yen’s volatility could persist, exacerbating import cost inflation and unsettling Japan’s broader economic recovery. Investors will watch closely for further signals from the BOJ’s upcoming policy deliberations and post-election fiscal direction from Tokyo.