Citi Warns of Potential Bank of Japan Rate Hikes Amid Yen Weakness

Citi has issued a caution that if the yen keeps declining, the Bank of Japan may increase interest rates for a third time.

The firm emphasizes that the USD/JPY exchange rate is pivotal to the Bank of Japan’s decision-making process, suggesting that a figure above 160 yen could hinder any imminent rate hike.

Summary

• Citi’s Akira Hoshino acknowledges the possibility of the Bank of Japan raising rates three times if the yen remains weak.
• If USD/JPY exceeds 160, there could be a 1% increase in rates in April.
• Another rate hike is anticipated in July, with a potential third increase by year-end.
• The reasoning: Negative real interest rates are exerting pressure on the yen.
• The BOJ’s aggressive stance contrasts with a more gradual consensus approach.

Akira Hoshino, who leads Japan markets at Citigroup, indicated that if the yen does not strengthen, the Bank of Japan could implement three rate hikes in 2026, essentially doubling the current rates. He pointed out that exchange rates are becoming increasingly influential in Japan’s policy discussions.

In an interview with Bloomberg, Hoshino explained that the yen’s depreciation is largely due to negative real interest rates, with current yields lagging behind inflation. He believes the Bank of Japan may need to take action to alter the currency’s trajectory. He laid out a scenario where if USD/JPY stays above 160, an increase of 25 basis points to a 1% overnight rate could occur in April, followed by another 25 basis point hike in July, and possibly a third hike by year’s end if yen weakness persists.

This outlook is notably more aggressive than the prevailing consensus, which typically anticipates that the BOJ’s next steps are still months away, often leaning towards mid-year rather than an April change. A Reuters report noted that some policymakers think there could be an opportunity for earlier action if the weaker yen risks elevating inflation, suggesting that an April delay could still be “effective,” despite the expectation that the BOJ will keep rates steady in their next meeting.

Hoshino also highlighted potential channels for market flow. If Japanese yields, particularly in the 10-year range, rise above inflation, local institutions might consider pulling funds from overseas to invest in Japanese bonds. He suggested that the lack of appealing domestic yield options is contributing to the yen’s weakness.

In conclusion, Citi’s analysis positions USD/JPY levels, especially those surpassing 160, as significant catalysts for the acceleration of BOJ normalization, even if their baseline remains moderate.