The Bank of Japan, under Kazuo Ueda, voted 7–2 to raise its key interest rate to 1.25%, just three months after the June move. This was the fastest pace of tightening since 1990. In theory, such decisiveness should have strengthened the yen. Instead, USD/JPY surged higher like a compressed spring, while the meeting summary disappointed investors who had been waiting for hints of another move as early as this month.

Central Bank Rate Dynamics

A negative factor for the yen remains the ambiguity in the BoJ meeting summary. Board members acknowledged the limited effect of monetary tightening measures already implemented and a neutral rate that was higher than expected. However, even the proposal to act preemptively failed to convince investors that a series of consecutive moves was on the way.

The overnight rate market reduced the probability of a rate hike by the end of October to almost 20% from more than 30% the previous day, although a December move is already fully priced in. Long-term Japanese bond yields are rising, signaling concern that the central bank may fail to keep pace with inflation. If USD/JPY rises above 159, currency intervention could come into play.

The Bank of Japan's caution is another unfavorable factor for the yen. Commonwealth Bank of Australia considers the threshold for a hawkish shift to be high, while the split on the board means that expectations alone will not be enough to support the yen without clear forward guidance.

Tokyo Inflation Dynamics

Accelerating inflation in Tokyo is a bullish factor for the yen. The core consumer price index rose 2.7% year-on-year in September, above the 2.3% forecast and significantly faster than the 1.8% recorded in August. For the first time since January, the indicator exceeded the 2% target, although Prime Minister Sanae Takaichi's energy subsidies are holding down the headline index by almost 0.4 percentage points.

Core inflation excluding energy and fresh food accelerated to 3% from 2% month-on-month, reinforcing the Bank of Japan's concerns. Bloomberg Economics expects a 25-basis-point rate hike in December, as the report strengthens the central bank's view that inflation is becoming firmly established around the target.

Signals from across the Pacific are also putting pressure on USD/JPY. Federal Reserve Vice Chair Philip Jefferson said the central bank needs more time to determine whether another increase in the federal funds rate is necessary. He supported New York Fed President John Williams, who said there is no need to rush into the next move following the September decision. The rate market reduced the probability of a Fed rate hike in October from 73% to 28%, weighing on the dollar.

The USD/JPY rally should not yet be considered over. The Bank of Japan still needs to demonstrate that it is prepared to act faster than its rhetoric suggests.

Technically, an inside bar may have formed on the daily USD/JPY chart. A decline below the fair value level of 157.4 would provide a basis for selling. A rebound from this level would allow long positions to be increased.