Financial Stability and Monetary Policy Autonomy in Japan. Should Japan Peg the Yen to the Dollar?

Abstract Given rising inflation the Bank of Japan has come under pressure to tighten monetary policy. The paper examines the risks of an interest rate hike for the sustainability of Japanese government debt, the Bank of Japan and the Japanese financial sector and derives possible repercussions for national and international financial stability. It finds significant valuation and currency risks in the private financial sector that limit the Bank of Japan’s room for manoeuvre. Pegging the yen to the dollar would eliminate appreciation expectations and reduce inflation risk. The loss of freedom in monetary policy making would be small.