The Long way home: Japan's rate hike threatens global markets
The Monetary Policy Board of the Bank of Japan has announced another interest rate hike, raising it to 1% for short-term loans. This action was accompanied by harsh comments from the deputy head of the Japanese Central Bank: the growing inflation risks, magnified many times by uncertainty due to the war in the Middle East, leave Tokyo no room to maintain a soft monetary policy. The reasons for the decision are related to the domestic economic situation, but the fate of Japanese assets parked abroad is at stake. The scale of this canopy is estimated at about $7 trillion. Izvestia investigated what this threatens the global financial markets and whether there are prerequisites for a new global crisis.
Years of tightening
The Bank of Japan's path to current interest rates has been a long one. For two decades, the country has provided zero returns. The ice broke in March 2024, when the regulator raised the rate for the first time in 17 years, ending the policy of negative interest. In August of the same year, a move to 0.25% followed, which triggered the historic collapse of the Nikkei 225 index and panic on stock exchanges from New York to Seoul. At the end of 2025, the rate reached 0.75%.
The June 2026 decision is dictated by macroeconomic necessity. The Japanese economy, which imports the vast majority of consumed energy resources, is facing a supply shock. The blocking of the Strait of Hormuz has pushed global oil prices above $100 per barrel. The weak national currency, which tested 160 yen per dollar in the spring, makes purchases of raw materials prohibitively expensive, generating a trade deficit — an unprecedented thing for Japan, which has been a net exporter for many decades. The Ministry of Finance's foreign exchange interventions (direct sale of dollar reserves) have exhausted their effectiveness. Under these conditions, the rate increase remained the only working tool to protect the yen and suppress imported inflation.
The long period of zero interest rates has created two parallel financial flows emanating from Japan. The first of these is speculative carry-on trading. International hedge funds borrowed free yen and converted it into other currencies to buy high-yielding assets: US Treasury bonds, debt from developing countries (Mexican peso, Brazilian real), as well as shares of technology companies and cryptocurrencies.
The rate hike by the Bank of Japan makes these transactions impossible. The rise in the cost of yen funding, combined with the strengthening of the national currency itself, turns the carry trade into an unprofitable operation. Speculators are forced to urgently close positions: sell foreign assets and buy back Japanese currency to repay loans. It was this mechanism that caused the sharp drawdowns of the markets in 2024. The current rate hike is triggering a new wave of forced liquidations, draining liquidity from risky assets around the world.
The Great Repatriation
However, speculative transactions are just the tip of the iceberg. The main threat to the global financial system lies in the second stream — institutional capital. Japanese insurance corporations, banks, and the State Pension Investment Fund (GPIF, the world's largest retirement savings pool) have been withdrawing money abroad for decades due to zero returns at home. The capital that Japan received due to constant trade surpluses grew year after year and now stands at about $7 trillion.
The launch of the process of mass repatriation of these trillions is determined by the rules of investment. By investing in American or European government bonds, Japanese financial institutions are required to hedge currency risks. With a significant difference in interest rates between the US Federal Reserve and the Bank of Japan, the cost of such currency hedging eats up the lion's share of nominal profits.
The calculation is as follows. If 10-year US Treasury securities — treasuries — yield 5.2%, and the cost of a currency hedging instrument costs the Japanese fund 4-4.5% per annum, then the real net return on investment falls below 1%. In this configuration, the attractiveness of foreign markets tends to zero.
The trigger for the return of capital is the yield on long-term Japanese government bonds (JGB). Analysts believe that the point of no return is in the range of 1.5–2.0% for 10-year JGBs. If the policy of the Bank of Japan pushes the yield of domestic securities to the level of 2%, the local market will become mathematically more profitable than buying foreign bonds, taking into account hedging costs. It will no longer make sense for Japanese capital to bear geopolitical and market risks abroad if comparable or higher risk-free returns can be obtained at home. To implement such a scenario, the key rate of the Bank of Japan should be fixed in the range of 1.25–1.5%.
A ricochet across the West
The consequences of Japanese capital returning home will be a severe test for the economies of the United States and Europe. Japan has historically been the largest foreign holder of U.S. government debt, overtaking China. If Tokyo turns from a key buyer of treasuries into a net seller, Washington will face a massive refinancing problem. The US budget deficit is breaking records, and the Fed continues its quantitative tightening program, withdrawing liquidity from the system. The loss of the most important external creditor will inevitably lead to a further increase in yields on the US debt market, making servicing the US government debt even more expensive. In this situation, an increase in bond yields even to 7% would be a realistic scenario.
European borrowers will be in an even more vulnerable position. Japanese capital was actively present in the sovereign debt markets of France and Great Britain. The withdrawal of Japanese money will deprive these economies of critical external liquidity. Yields on French bonds and British gilts, which are already experiencing a period of explosive growth, will continue to move upward, exacerbating the fiscal problems of European governments.
The decision of the Bank of Japan fixes the transition to a new macroeconomic regime. A country that has been exporting deflation and supplying the world with cheap money for many years is starting to protect its own balance sheet and bring resources home. The process of dismantling the global carry trade and repatriating institutional portfolios will take several quarters. The end result will be a significant increase in the cost of borrowing for all Western economies. The global financial system may lose its last reliable source of cheap liquidity. There is no certainty that the central banks have any kind of "plan B" in this case.
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