The International Monetary Fund (IMF) has urged Japan to maintain its efforts to normalise monetary policy, warning that the Bank of Japan (BOJ) may need to raise interest rates more quickly if inflation accelerates beyond expectations.
Krishna Srinivasan, director of the IMF’s Asia and Pacific Department, told Reuters on Friday that the Japanese central bank was moving in the right direction by gradually adjusting interest rates towards levels considered neutral for economic activity.
“I would say that they are doing the right thing at this point,” Srinivasan said, expressing support for the BOJ’s approach to monetary policy normalisation.
He, however, cautioned that policymakers must remain responsive to changing economic conditions to prevent inflation expectations from becoming entrenched.
“If inflation rises faster than expected, you have to start tightening faster because you don't want inflation expectations to get un-anchored. It's data dependent,” he said in an interview.
The comments came ahead of the BOJ’s next major monetary policy meeting later this month, where the central bank is expected by some market participants to leave interest rates unchanged while signalling the possibility of another increase in December.
Inflationary pressures arising from the conflict in the Middle East, alongside strong demand linked to artificial intelligence, have featured prominently in discussions among policymakers attending the IMF’s annual meetings in Bangkok.
BOJ Governor Kazuo Ueda, who also participated in the meetings, reiterated on Friday that the central bank remained committed to bringing underlying inflation towards its two per cent target and would not tolerate an overshoot.
His remarks reinforced expectations that the BOJ could continue raising borrowing costs as it seeks to manage price pressures without unnecessarily undermining economic growth.
A weakening yen has added to Japan’s inflation challenges by increasing the cost of imported raw materials and other goods. The currency’s depreciation has intensified concerns about the impact of exchange-rate movements on domestic prices.
Against this backdrop, the BOJ raised its policy rate to 1.25 per cent in September, a 31-year high, following another increase in June. Many analysts expect the central bank to deliver another rate hike before the end of the year.
Japanese authorities also carried out a rare coordinated intervention with the United States on July 31 to support the yen and prevent its slide towards levels close to a 40-year low from destabilising financial markets.
IMF defends Japan’s currency policy
The IMF’s assessment of Japan’s monetary policy comes as authorities continue to navigate the relationship between interest rates, currency movements and inflation.
In a staff analysis accompanying its report on the Asian economy, the fund said a substantial portion of the yen’s movements since mid-2025 had been weakly linked to traditional economic fundamentals, including interest-rate differentials.
Instead, the analysis found that the currency had moved in tandem with speculative positions in yen futures, suggesting that market positioning had played a significant role in its fluctuations.
Srinivasan said Japanese authorities had generally allowed market forces to determine the currency’s value, describing the foreign exchange market as sufficiently deep to accommodate movements without immediate intervention.
“Japan has a deep foreign exchange market, so as a first line of defense, they have allowed the exchange rate to move,” he said.
Addressing questions about the justification for the recent intervention, Srinivasan said he had no doubt about Japan’s commitment to a floating exchange-rate system.
“Bottom line, I would say that the Japanese authorities are fully committed to a freely floating exchange rate. I've had many discussions with them. So I don't doubt that at all,” he said.
Japan urged to strengthen fiscal framework
Beyond monetary policy, the IMF official called on Japan to provide greater clarity on how it intends to finance its proposed spending programmes and tax reductions, warning that uncertainty over the country’s fiscal direction could heighten market concerns.
Rising global bond yields have drawn renewed attention to the debt burdens of advanced economies, including Japan, where public debt has expanded following years of substantial government spending.
Investors are concerned that the administration’s latest spending commitments, combined with a proposed two-year reduction in the consumption tax beginning in April next year, could add to the country’s already substantial debt burden.
Srinivasan acknowledged that Japan had made significant progress in consolidating its public finances since the COVID-19 pandemic, partly because of stronger tax revenues.
According to the IMF official, Japan had achieved greater fiscal consolidation than any other Group of Seven economy over the period.
Nevertheless, he said the absence of clear information on how the government would fund its new spending and tax-cut proposals remained a source of uncertainty for financial markets.
“Markets are concerned about the fiscal risks because of the uncertainty” surrounding the financing of the new spending and tax-cut plans, he said.
He added that Japan would benefit from establishing a medium-term fiscal framework to demonstrate how the government intended to balance its policy priorities with debt sustainability.
“Japan also would benefit from having a medium-term fiscal framework,” Srinivasan said.
The IMF’s position highlights the challenge facing Japanese policymakers as they seek to contain inflation, stabilise the yen and sustain economic activity while reassuring investors that new fiscal commitments will not undermine confidence in the country’s public finances.