In December, the global financial markets were pushed to the forefront by three major monetary policy events. In addition to the high expectations of a Fed rate cut (the market bets that a 25 basis point rate cut is highly likely in December) and the Bank of Japan's hawkish tone (Bank of America warned of a December rate hike to 0.75%, a new high since 1995), there was another key change that many people overlooked: the Fed officially stopped shrinking its balance sheet on December 1, marking the end of three years of quantitative tightening.

The policy combination of "interest rate cuts + halting tightening" and "interest rate hikes" has completely rewritten the global liquidity landscape: the Federal Reserve is both stopping its "draining" of liquidity and preparing to "flood" the market with liquidity, while the Bank of Japan is tightening its monetary policy accordingly. This shift in policy could reverse the $5 trillion yen carry trade, accelerate the restructuring of global interest rate differentials, and potentially completely rewrite the pricing logic of US stocks, cryptocurrencies, and US bonds. Today, we'll dissect the impact of this event to understand where the money will go and where the risks lie.

First, key points: Japan's interest rate hike was not a "surprise attack"; there's an 80% chance it contained these signals.

Rather than whether the rate hike will occur, the market is now more concerned with how it will be implemented and what the consequences will be. According to sources, Bank of Japan officials are prepared to raise interest rates at the policy meeting ending on December 19, provided that the economy and financial markets are not significantly impacted. Data from the US forecasting platform Polymarket shows that the market's bet on a 25 basis point rate hike by the Bank of Japan in December has surged from 50% to 85%, essentially locking in a "high-probability event."

There are two key reasons for this interest rate hike:

First, domestic inflationary pressures remain high . Tokyo's core CPI rose 3% year-on-year in November, marking the 43rd consecutive month above the 2% target. The depreciation of the yen has further pushed up the prices of imported goods.

Secondly, the economy has found support . This year, Japanese companies have raised average wages by more than 5%, a high increase unseen in decades, giving the central bank a basis for the economy to withstand interest rate hikes. More importantly, Bank of Japan Governor Kazuo Ueda released a clear signal as early as December 1st. This "advance warning" is itself part of the policy—preparing the market in advance to avoid a repeat of the scenario in August last year where "an unexpected interest rate hike triggered a global stock market crash."

Key Impacts: The interplay of policy responses and the flow of funds hold the key answers.

1. Policy Sequence Breakdown: The Underlying Logic Behind the Fed's "Easing First" and the Bank of Japan's "Tightening Later"

From a timeline perspective, the Federal Reserve is highly likely to cut interest rates by 25 basis points at its December policy meeting, while the Bank of Japan plans to follow suit with a rate hike at its December 19 meeting. This "loose first, tight later" policy combination is not accidental, but rather a rational choice made by both sides based on their own economic needs, underpinned by two core logics:

For the Federal Reserve, the combination of "stopping quantitative tightening first, then cutting interest rates" is a "double defense" against slowing economic growth. In terms of policy pace, stopping balance sheet reduction on December 1st was the first step—this move ended the quantitative tightening process that began in 2022. As of November, the Fed's balance sheet had shrunk from a peak of $9 trillion to $6.6 trillion, but it was still $2.5 trillion higher than before the pandemic. Stopping the "draining" was intended to alleviate liquidity tensions in the money market and avoid interest rate fluctuations caused by insufficient bank reserves. On this basis, cutting interest rates was the second step of "proactive stimulus": In November, the US ISM Manufacturing PMI fell to 47.8, remaining below the expansion/contraction threshold for three consecutive months. Although core PCE inflation fell to 2.8%, the consumer confidence index declined by 2.7 percentage points month-on-month. Coupled with the interest pressure of $38 trillion in federal debt, the Fed needed to reduce financing costs and stabilize economic expectations through interest rate cuts. Choosing to "act first" not only allows the Fed to seize policy initiative but also leaves room for potential subsequent economic fluctuations.

For the Bank of Japan, "delayed interest rate hikes" are a form of "offensive adjustment" to mitigate risk. Zhang Ze'en, an analyst at Western Securities, points out that the Bank of Japan deliberately chose to raise interest rates after the Federal Reserve's rate cut. On the one hand, this allows it to take advantage of the window of opportunity presented by the loose dollar liquidity to reduce the impact of its own rate hikes on the domestic economy. On the other hand, the Fed's rate cuts have led to a decline in US Treasury yields, allowing Japan to narrow the US-Japan interest rate differential more quickly, enhancing the attractiveness of yen assets and accelerating the repatriation of overseas funds. This "opportunistic" approach gives Japan greater initiative in the process of normalizing its monetary policy.

2. Suspicion of fund absorption: Does Japan's interest rate hike become a "natural reservoir" for the Federal Reserve's rate cuts?

Based on US M2 data and capital flow characteristics, there is a very high probability that Japan will raise interest rates to absorb the funds injected by the Federal Reserve. This judgment is based on three key facts:

First, the US M2 money supply and policy mix reveal a "double increase" in liquidity . As of November 2025, the US M2 money supply was $22.3 trillion, an increase of $0.13 trillion from October, with the year-on-year growth rate rising to 1.4% in November—a rebound that already reflects the impact of halting balance sheet reduction. The combined effect of these two policies will further amplify the scale of liquidity: halting balance sheet reduction means a reduction of approximately $95 billion in liquidity withdrawal each month, while a 25 basis point interest rate cut is expected to release $550 billion in new funds. With both factors working together, the US market will see a "liquidity dividend window" in December. However, the problem lies in the continued decline in domestic investment returns in the US. The average ROE (Return on Equity) of S&P 500 constituent stocks has fallen from 21% last year to 18.7%, and a large amount of incremental funds urgently needs to find new outlets for returns.

Secondly, Japan's interest rate hike has created a "yield haven effect." With Japan raising its interest rate to 0.75%, the yield on 10-year Japanese government bonds has risen to 1.910%, narrowing the spread with the yield on 10-year US Treasury bonds (currently 3.72%) to 1.81 percentage points, the lowest level since 2015. For global capital, the attractiveness of yen-denominated assets has significantly increased, especially given Japan's status as the world's largest net creditor nation, with domestic investors holding $1.189 trillion in US Treasury bonds. As domestic asset yields rise, these funds are flowing back at an accelerated pace; in November alone, Japan net sold $12.7 billion in US Treasury bonds.

Finally, the reversal of carry trades and the increase in liquidity create a "precise fit." Over the past two decades, carry trades involving "borrowing yen to buy US Treasury bonds" have exceeded $5 trillion. The increase in liquidity brought about by the Fed's "pause in quantitative tightening + interest rate cuts," coupled with the attractive returns of Japan's interest rate hikes, will completely reverse this trading logic. Capital Economics estimates that if the US-Japan interest rate differential narrows to 1.5 percentage points, it will trigger the unwinding of at least $1.2 trillion in carry trades, of which about $600 billion will flow back to Japan. This amount can not only absorb the $550 billion released by interest rate cuts, but also absorb some of the liquidity remaining from the cessation of quantitative tightening. From this perspective, Japan's interest rate hikes have become a timely "natural reservoir" for the Fed's "easing package": helping the US absorb excess liquidity and alleviate inflationary pressures, while also preventing asset bubbles caused by disorderly global capital flows. This "implicit coordination" between policies deserves close attention.

3. Global Interest Rate Spread Restructuring: A "Repricing Storm" in Asset Prices

Changes in policy timing and capital flows are driving global asset prices into a repricing cycle, with the divergence among different assets becoming increasingly pronounced.

- US Stocks : Short-term pressure, but long-term earnings resilience. The Fed's rate cut should have benefited US stocks, but the withdrawal of carry trade funds triggered by Japan's rate hike offset this. After Kazuo Ueda signaled a rate hike on December 1st, the Nasdaq fell 1.2% that day, with tech giants like Apple and Microsoft falling by more than 2%, mainly because these companies are heavily invested in by carry trade funds. However, Capital Economics points out that if the rise in US stocks stems from improved corporate earnings (S&P 500 component earnings grew 7.3% year-on-year in the third quarter) rather than a valuation bubble, the subsequent decline will be limited.

Cryptocurrencies : High Leverage Makes Them a "Disaster Zone" Cryptocurrencies are a major destination for carry trade funds, and the liquidity contraction triggered by Japan's interest rate hikes has had the most direct impact on them. Data shows that Bitcoin has fallen by more than 23% in the past month, and Bitcoin ETFs saw a net outflow of $3.45 billion in November, with Japanese investors accounting for 38% of the net redemptions. As carry trades continue to be unwound, the volatility of cryptocurrencies will further intensify.

- US Treasuries : A Tug-of-War Between Selling Pressure and the Benefits of Rate Cuts. Capital outflows from Japan have led to selling pressure on US Treasuries, with the yield on the 10-year US Treasury note rising from 3.5% to 3.72% in November. However, the Fed's rate cuts are expected to boost demand in the bond market. Overall, US Treasury yields are expected to maintain a fluctuating upward trend in the short term, likely fluctuating between 3.7% and 3.9% by the end of the year.

Key questions: Is 0.75% an easing or tightening policy? Where is the "end" of Japan's interest rate hikes?

Many fans have asked: Does Japan's interest rate hike to 0.75% constitute a tightening of monetary policy? Here, it's important to clarify a core concept—the "loose" or "tight" nature of monetary policy depends on whether the interest rate is higher than the "neutral interest rate" (the interest rate level that neither stimulates nor inhibits the economy) .

Kazuo Ueda has explicitly stated that Japan's neutral interest rate range is 1%-2.5%. Even if interest rates are raised to 0.75%, it will still be below the lower limit of the neutral interest rate, meaning that current policy remains in an "easing range." This also explains why the Bank of Japan emphasizes that "interest rate hikes will not suppress the economy"—for Japan, this is merely an adjustment from "extremely loose" to "moderately loose." True tightening requires interest rates to break through 1% and sustained support from economic fundamentals.

Looking at the future path, Bank of America predicts that the Bank of Japan will raise interest rates "once every six months." However, considering that Japan's government debt ratio is as high as 229.6% (the highest among developed economies), raising interest rates too quickly would push up government interest expenditures. Therefore, a gradual increase in interest rates is the most likely scenario, with 1-2 increases per year, each by 25 basis points, being the mainstream pace.

Concluding Reflections: Why is Japan's interest rate hike the "biggest variable" in December? Key signals from policy roadshows.

Many fans have asked why we keep saying that Japan's interest rate hike is the "biggest variable" in the global market in December?

This is not because the probability of an interest rate hike is low, but because it is underpinned by three "contradictions," keeping the policy direction in a gray area of "both advancing and retreating"—until recently when the central bank released clear signals, this "variable" gradually came under control. Looking back now, the entire process of the Bank of Japan, from Kazuo Ueda's speech to the government's tacit approval of the interest rate hike, was more like a "policy roadshow," essentially aimed at mitigating the impact of this variable.

The first contradiction is the "hedge between inflationary pressures and economic weakness." Japan's core CPI in Tokyo rose 3% year-on-year in November, exceeding the target for the 43rd consecutive month, forcing interest rate hikes due to inflation; however, third-quarter GDP plummeted by 1.8% year-on-year, and personal consumption growth slowed from 0.4% to 0.1%, indicating that the economic fundamentals could not support aggressive tightening. This dilemma of "controlling inflation while fearing to cripple the economy" left the market uncertain about the central bank's priorities until signals emerged of wage increases exceeding 5%, finally providing an "economic support point" for interest rate hikes.

The second contradiction is the conflict between high debt pressure and policy shift . Japan's government debt ratio is as high as 229.6%, the highest among developed economies. For the past two decades, it has relied on zero or even negative interest rates to keep the cost of issuing debt low. If interest rates are raised to 0.75%, the government's annual interest payments will increase by more than 8 trillion yen, equivalent to 1.5% of GDP. This dilemma of "raising interest rates will aggravate debt risks, while not raising interest rates will allow inflation to run rampant" has made policy decisions volatile. It was not until the Federal Reserve opened the window for interest rate cuts that Japan found a buffer to "take advantage of the situation to raise interest rates."

The third contradiction is the "balance between global responsibility and domestic demands." As the world's third-largest economy and a core hub for the $5 trillion carry trade, Japan's policy changes can directly trigger a global capital tsunami—last August's unexpected interest rate hike caused the Nasdaq index to plummet by 2.3% in a single day. The central bank needs to stabilize the yen's exchange rate and alleviate import inflation through interest rate hikes, while also avoiding becoming a "black swan" event in the global market. This pressure of "balancing internal and external factors" keeps policy releases "cautiously ambiguous," leaving the market full of speculation about the timing and magnitude of interest rate hikes.

Because of these three contradictions, the probability of a Japanese interest rate hike has risen from "50%" in early November to "85% certainty" now, making it the most difficult variable for the market to predict in December. The so-called "policy roadshow" is to allow the market to gradually digest this variable through Kazuo Ueda's gradual statements and the release of information from informed sources. So far, the sell-off of Japanese bonds, the slight appreciation of the yen, and the stock market volatility have all been within a controllable range, indicating that this "preventative measure" has begun to show results.

With an over 80% probability of interest rate hikes, the uncertainty of "whether or not interest rates will be raised" has been largely eliminated, but new variables have emerged—which is the core issue we continue to focus on.

For investors, the real variables lie in two areas:

First, there's the policy guidance after the interest rate hike —will the Bank of Japan clarify the pace of "raising interest rates once every six months," or continue to use vague statements like "it depends on economic data"?

Secondly, Kazuo Ueda's statements —if he mentions the "spring labor-management negotiations of 2026" as a key reference, it means that subsequent interest rate hikes may slow down; conversely, they may accelerate. These details are the core clues determining the flow of funds.

On December 19th, the Bank of Japan's policy decision and the Federal Reserve's interest rate cut decision will be announced one after another. The overlap of these two major events will cause global capital to "realign." For us, instead of getting caught up in short-term fluctuations, it's better to focus on the core logic of assets: be wary of overvalued assets that rely on low-cost funding, while assets with solid fundamentals and low valuations may find opportunities in this massive capital shift.