The yen steadied on Monday following a sharp decline last week that sparked concerns about potential intervention, as investors weighed the global interest rate outlook after a wave of hikes and hawkish signals from major central banks this month. The currency traded at 157.04 against the dollar, having fallen 2% over the previous week. Thin liquidity, due to a three-day holiday in Japan, kept traders alert to the possibility of official action.

The Bank of Japan raised its policy rate to 1.25% on Friday, marking the highest level in 31 years, but the widely anticipated move failed to lift the yen. Two dissenting votes and a lack of clear hawkish guidance disappointed investors, triggering a sharp selloff. The drop was followed by reports that Japanese officials had conducted rate checks, a step often seen as a precursor to currency intervention.

Beyond the BOJ, both the Federal Reserve and the European Central Bank also raised rates this month, warning that further tightening may be needed to combat inflation as the Middle East conflict approaches its seventh month. Fred Neumann, chief Asia economist at HSBC, noted that the Fed's unanimous decision to hike has made the BOJ's communication task more difficult. He said the hurdle remains high for the BOJ to convince markets of its hawkish stance and anchor expectations on the yen, adding that investors may test the central bank's resolve to continue raising rates in line with the Fed in the coming weeks and months.

Yen bullish bets are now facing a critical test. In early September, the yen climbed to its strongest level in seven months, fueled by bets on faster BOJ tightening and early signs of capital repatriation by Japanese investors, but it has since given back some of those gains. Positioning data showed that investor sentiment toward the yen had turned more bullish heading into the BOJ meeting. Weekly data from US regulators indicated that speculative net long positions on the yen increased to $9.7 billion in the week through September 15, the largest since July 2025.

Thomas Mathews, head of Asia-Pacific markets at Capital Economics, said that despite the BOJ's hike, markets clearly view the Fed as the more hawkish of the two, at least relative to expectations at the start of the month. He noted that given the yen is still significantly stronger than before, it may need to weaken further before intervention returns to the agenda. In July, the yen fell to a 40-year low of 163.99 per dollar before rare coordinated intervention by the US and Japan helped boost the currency.

Attention is now shifting to the Fed's rate trajectory. The dollar index, which tracks the greenback against six major currencies, held steady at 100.23, having gained more than 1% last week after the Fed raised rates and signaled the possibility of further tightening. According to the CME FedWatch tool, traders now see a 55% probability of a rate hike at the Fed's next meeting in October, up from 42.5% a week earlier.

Thomas Simons, chief US economist at Jefferies, said he does not believe the midterm elections will constrain the Fed from raising rates again in October, while a December move will depend on data and geopolitical developments. Looking ahead to 2027, the rate path will hinge on labor market performance, with a potential for rate cuts in the second half of that year, he added.

The euro was little changed at $1.1474, after exit polls showed the far-right Alternative for Germany (AfD) finishing first in a state election in northeastern Germany, delivering a blow to Chancellor Friedrich Merz's conservative party.