The prospects for interest rate increases are no longer just a US issue. Traders are now betting that the Bank of Japan (BoJ) could also tighten its policies, as the resource-poor nation faces inflation risks due to the ongoing war with Iran.
Traders see a roughly 69% chance that the BoJ will raise its benchmark borrowing cost at its April 28 meeting, according to data tracked by Bloomberg. The action in options linked to US interest rates shows that traders expect the Federal Reserve to raise borrowing costs in the coming weeks.
The BoJ’s monetary policy meeting summary released on Monday showed one member calling for a further rate hike in response to the conflict in the Middle East and its inflationary impact on Japanese society. The comments also noted that any move would take into account incoming economic data and anecdotal market signals.
Fed tightening is a well-known headwind for risk assets, including bitcoin. The Bank of Japan can have the same impact. Years of ultra-low rates encouraged traders to borrow in yen and invest in higher-yielding markets (the so-called carry trade), keeping borrowing costs contained globally and fueling rallies in risk assets.
Therefore, a shift towards stricter policy in Tokyo could reverse these flows, sending ripples through the markets and potentially deepening the cryptocurrency bear market. The Bank of Japan has already raised its interest rate to 0.75% from -0.1% over the past two years and at the same time ended its massive asset purchase program. However, rates in Japan remain significantly lower than the 3.5% seen in the US.
Therefore, the bank has plenty of room to raise its rates if the Iran crisis worsens, which could lead to higher energy prices and imported inflation in Japan and other oil-dependent countries.
It’s easier said than done
However, raising rates will be a difficult task given Japan’s tense fiscal situation. The country’s debt-to-GDP ratio stands at a staggering 240%, meaning higher rates could dramatically increase borrowing costs and strain government finances.
Economists have said Japan is caught between a rock and a hard place. Raising rates and allowing government bond yields to rise could put Japan’s debt sustainability at risk. If it keeps rates low, the yen is likely to depreciate significantly, adding to inflation concerns.
Tensions are already evident in the currency market. The Japanese yen continues to weaken and is currently around 160 per US dollar, its weakest level since mid-2024. The yen has depreciated 54% since 2021.
