Quora Answer: Has the Bank of Japan Been Too Cautious about Raising Interest Rates?

The Bank of Japan has not been choosing caution.  It has been managing a set of structural contradictions so severe that any significant rate hike would trigger consequences most policymakers would prefer not to see in their lifetimes.  This is not a defence of the Bank of Japan.  It is an autopsy of the decisions that put it here.

Thirty Years of Self-Inflicted Anaesthesia

Japan’s “Lost Decade” came about because the medicine kept changing but the patient refused to change its habits.  The asset bubble burst in 1991.  Property values collapsed.  Equity markets followed.  The policy response was to cut rates — and keep cutting.  The Bank of Japan took the policy rate to zero in 1999.  It introduced quantitative easing in 2001.  It went to negative rates in 2016.  It launched yield curve control in the same year, capping ten-year Japanese Government Bond yields at 0.1 per cent, then 0.25 per cent, then 0.5 per cent, in an escalating series of interventions designed to keep borrowing costs low while stimulating inflation it conspicuously failed to generate.

For two decades, Japan fought deflation with increasing desperation.  Consumers, expecting prices to fall, deferred spending.  Firms, uncertain of demand, deferred investment.  Banks, sitting on mountains of zombie-company debt, deferred lending.  The entire economy learned to wait.  The Bank of Japan enabled all of it.

Explaining the Paralysis

Japan’s national debt stood at ¥1,342 trillion at the end of December 2025 — a new record.  The International Monetary Fund places Japan’s debt-to-GDP ratio at 230 per cent, the highest among developed economies.  The Ministry of Finance projects debt will reach ¥1,473 trillion by March 2026.  Now consider what happens when interest rates rise.  Japan’s Finance Ministry projects interest payments on government bonds will reach ¥16.1 trillion in fiscal 2028 — 1.5 times the fiscal 2025 level.  Debt-servicing costs, including principal repayment, are projected to hit ¥35.3 trillion, which is nearly 30 per cent of total government spending.  A developed economy spending nearly one yen in three on debt service is not pursuing monetary policy.  It is managing a slow fiscal haemorrhage.  Every percentage point the Bank of Japan raises its policy rate tightens the tourniquet on the government’s budget.  The government that sets the Bank of Japan's mandate is the same government bleeding from that tourniquet.  The institutional independence of the Bank of Japan is, in this context, a politely maintained fiction.

Professor Kazuo Ueda became Governor of the Bank of Japan in April 2023, succeeding Haruhiko Kuroda, who had spent ten years building the most aggressive monetary stimulus programme in modern central banking history.  Kuroda left Ueda a US$5.7 trillion balance sheet, a policy rate of negative 0.1 per cent, yield curve control that was actively distorting the Japanese government bond market, and a yen that had collapsed to its weakest level in thirty-two years.  The yen hit 151 against the US dollar in October 2022.  It was the currency’s lowest point since 1990.  The Bank of Japan did not raise rates.  It intervened in the foreign exchange market instead, spending trillions of yen defending a currency level that the market regarded as absurd given the interest rate differential between Japan and everywhere else.  Intervention is expensive.  It is also temporary.  It does not fix the underlying problem.

The underlying problem was this: while the US Federal Reserve raised rates from near zero to over five per cent between March 2022 and July 2023, the Bank of Japan held its rate at negative 0.1 per cent.  The interest rate differential made the yen carry trade — borrow cheaply in yen, invest at higher yields elsewhere — one of the most crowded positions in global markets.  In August 2024, when the Bank of Japan finally raised its rate to 0.25 per cent and signalled further tightening, the carry trade unwound with notable violence.  Japanese equities fell 12 per cent in a single session on 5 August 2024 — the Nikkei’s worst day since the 1987 crash.  Global markets followed.  The Bank of Japan, rattled by the reaction, rapidly softened its language.  A central bank that raises its rate by 25 basis points and triggers a global market event is not operating from a position of strength.  It is demonstrating how much leverage has been built on the assumption of its perpetual inaction.

The Bank of Japan’s defenders argue that Japan needs low rates to stimulate the economy.  This argument has a fundamental problem: three decades of near-zero rates produced none of the stimulation promised.  Real GDP growth was below 1 per cent in 2024.  GDP contracted at a 0.2 per cent annualised rate in the first quarter of 2025.  Japan’s labour productivity ranks last among G7 economies, at 60 per cent of US levels.  Private consumption, 55 per cent of GDP, has grown at a pace that statisticians generously describe as modest.  The economy’s structural problems are demographic, not monetary.  Japan’s population peaked near 128 million and stood at 124 million in 2023.  The fertility rate is 1.3 against a replacement level of 2.1.  Nearly one third of the population is over 65.  The working-age population is shrinking.  Potential GDP growth is estimated near 0.5 per cent per annum.

You cannot cut your way to a younger population.  You cannot QE your way out of a demographic collapse.  Low interest rates do not produce children.  What low rates did produce was asset price inflation that benefited existing wealth holders, a zombie-company ecosystem that prevented capital from being redeployed to productive uses, and a currency so weak that real wages — already thin — were further compressed by import costs.  Real wages in Japan fell 3 per cent in the year to mid-2025, even as headline inflation ran above 3 per cent.  Rice prices rose over 100 per cent year-on-year as of May 2025.  The Bank of Japan spent thirty years fighting deflation.  It arrived on the other side to find that the inflation it created was the imported, cost-push variety — the kind that squeezes households without generating the demand-pull growth the stimulus was meant to produce.

The spring 2024 wage negotiations — Shunto — delivered pay increases of 5.2 per cent, the highest in three decades, which the Bank of Japan cited as a green light for its March 2024 decision to end negative rates.  Total wages then rose 1 per cent in the year to May 2025.  Nominal gains do not survive the translation to real terms when inflation is above 3 per cent.

What “Caution” Looks Like

The Bank of Japan ended negative rates in March 2024.  It raised its policy rate to 0.1 per cent.  Then to 0.25 per cent.  Then to 0.5 per cent by the end of 2025.  As of January 2026, the rate held at 0.75 per cent, with one board member, Hajime Takata, proposing a further hike and finding no support among his colleagues.  Governor Ueda, asked about the pace of future increases, replied that “there is uncertainty on how far we can eventually raise interest rates.”  He is correct.  The uncertainty is structural.  A government bond market that requires the central bank as a permanent buyer cannot absorb a rate normalisation at the pace that inflation would otherwise warrant.  A government spending nearly 30 per cent of its budget on debt service cannot absorb a significant increase in borrowing costs without cutting the social security, public works, and education spending that the ageing population demands.

The Bank of Japan is not being cautious.  It is navigating a set of constraints that thirty years of prior policy choices made inescapable.  The question “has the Bank of Japan been too cautious?” is the wrong question.  The right question is: who created the conditions in which decisive action became impossible?  The answer is the Bank of Japan itself, through two decades of yield curve control, asset purchases, and negative rates that trained markets, government, and industry to depend on cheap money as a permanent operating condition.  Ueda did not build this trap.  He inherited it.  He is, by all accounts, trying to exit it without triggering the crisis that a faster exit would produce.  Whether he succeeds is another matter.  Japan's government bond yields surged in early 2026, reflecting precisely the fiscal tension that any rate normalisation makes visible.  The market is doing the work the Bank of Japan will not.  Markets are less patient than central bankers.  They are also less polite.

The Assessment

Japan needs low rates the way a man with a broken leg needs crutches: not because crutches fix the leg, but because removing them before the leg heals causes the patient to collapse.  The leg has not healed.  It may not heal.  The structural reforms that would allow Japan to normalise rates — immigration policy, labour market flexibility, corporate governance, fiscal consolidation — have been discussed for thirty years and implemented at a pace that suggests nobody in authority is particularly serious about them.

The Bank of Japan is the last institution standing between Japan’s current trajectory and a fiscal crisis of uncomfortable proportions.  It is performing that function by keeping rates low enough that the government’s debt-servicing bill remains manageable.  This is not monetary policy.  It is fiscal support dressed in monetary clothing.  Too cautious?  No.  Too late to have many good options left?  That is the more accurate assessment.  The policy choices that created this situation were made between 1999 and 2023.  The bill arrives on Ueda’s desk.  History will record the caution.  It should also record what made it necessary.

---

Terence Nunis | Executive Chairman, Equinox Zenith | Author, The 1% Playbook: The Billionaire Cheat Code