Former BOJ Official: Terminal Rate Could Exceed 2%
N.R. Finch
Former BOJ official Tsutomu Watanabe sees the terminal rate reaching 2% or higher, well above the market consensus of 1.75%, and warns the pace of hikes could accelerate suddenly.
What does a 2% terminal rate mean?
The market consensus puts the peak at 1.75%. Watanabe's call is at least 25 basis points above that.
This means → if he is right, bond markets and rate derivatives are systematically underpriced and will need to recalibrate.
Japan's benchmark rate was just raised to 1% last month — a 31-year high. In plain terms = getting from 1% to 2% is another journey as long as the past two years of hikes.
Why could the pace of hikes accelerate suddenly?
Watanabe argues the BOJ has so far taken a "reactive" stance — inflation moves first, policy follows.
He warns: if this passive mode continues for another year, the BOJ could be forced into rapid-fire hikes.
This means → markets have grown used to Governor Ueda's "gradual and gentle" rhythm, but Watanabe believes that rhythm is not itself sustainable — the longer it drags, the sharper the catch-up.
Why are wages the hawks' trump card?
May nominal wages rose 3.2% year-on-year. Wage growth has stayed at or above 3% for four consecutive months — the longest streak since 1992.
Members of Japan's largest union federation secured pay rises exceeding 5% for a third straight year, a first since 1991.
This reflects a shift: Japanese wages are no longer a one-off correction but a self-reinforcing cycle. Using the Taylor Rule — a formula that derives a suitable rate from inflation and the output gap — Watanabe calculates underlying inflation could exceed 2% next year.
Why are inflation expectations the biggest wild card?
Unlike Europe or the US, Japan's inflation expectations are not yet anchored near 2%. In plain terms = businesses and households have not truly bought into sustained price increases, and pricing and wage-setting behavior could snap back at any time.
Watanabe therefore argues the terminal rate cannot be a pure math exercise on the "neutral rate" — the risk of inflation overshooting must be factored in.
So far, rate hikes have not dragged on the real economy: June bank lending grew at its fastest pace since the pandemic, and the BOJ's latest Tankan survey showed corporate financing conditions improved for the first time in a year. This means → the BOJ still has room to hike, but the window hinges on whether the wage–price cycle keeps strengthening into 2027.
Content is for reference only, not financial advice.