A senior executive at Citi in Japan stated that if the yen remains persistently weak, the Bank of Japan could potentially raise interest rates three times this year, which would double the current interest rate level.

Akira Hoshino indicated in an interview that if the USD/JPY exchange rate climbs above 160, the Bank of Japan might implement a 25-basis-point hike in April, bringing the rate to 1%. A hike of a similar magnitude could follow in July, and if the yen's exchange rate stays low, a third rate increase might even occur before the end of the year.

"In short, yen weakness is driven by negative real interest rates," Hoshino said, referring to the situation where yields are lower than the inflation rate. He pointed out that if the Bank of Japan aims to reverse the currency's trend, it has "no choice but to address this issue."

As a veteran with over three decades of experience in the markets, Hoshino's assessment underscores the growing importance of the exchange rate as a key factor in predicting Japan's monetary policy. With consumer dissatisfaction over rising prices increasing, Bank of Japan officials are paying closer attention to the potential inflationary impact of a weaker yen.

Market observers generally anticipate that the next rate hike from the Bank of Japan is still months away. However, some believe that if the yen experiences another significant decline, the central bank might be compelled to act sooner. A media survey of economists suggests the Bank of Japan will proceed with a pace of one rate hike every six months, with a majority expecting the next move in July. Pricing in the swaps market indicates traders are betting on one hike before July and see a 90% probability of another increase before December.

For the time being, Hoshino forecasts that the yen will trade within a range slightly below 150 to 165 against the dollar for the year. During early Tokyo trading on Tuesday, the yen was near 158.2 per dollar, after touching a 18-month low of 159.45 last week.

Hoshino noted that if key interest rates, such as the yield on the 10-year Japanese Government Bond, begin to exceed the inflation rate, Japanese institutional investors might consider repatriating their overseas investments and reallocating funds into domestic fixed-income assets. He highlighted that this would be highly beneficial for traders and sales staff at Citi's Tokyo operations, who could play a role in facilitating this capital回流.

"Even if investors want to bring money back to Japan, there aren't many investment products available to choose from," Hoshino said. "This is one of the key reasons for the yen's prolonged weakness."