Japan’s Monetary Base Shrinks for First Time Since 2007 as BOJ Unwinds Stimulus

For the first time in 18 years, the amount of money circulating at the heart of Japan’s financial system has shrunk, underscoring how far the country has moved from the era of negative interest rates and massive bond buying.

The Bank of Japan (BOJ) said its monetary base fell 4.9% in 2025 from the previous year, the first annual decline since 2007. The average balance in December dropped 9.8% from a year earlier to ¥594.19 trillion, slipping below ¥600 trillion for the first time since September 2020.

A key gauge of stimulus begins to contract

The monetary base—defined by the central bank as banknotes and coins in circulation plus current account balances held by financial institutions at the BOJ—has long served as the main gauge of its aggressive stimulus. After more than a decade of unconventional easing, the contraction signals that the central bank is no longer expanding its balance sheet and is instead beginning to withdraw some of the extraordinary liquidity it created.

The shift follows a landmark policy change in March 2024, when the BOJ ended its negative interest rate policy and scrapped its yield curve control framework, which had capped 10‑year Japanese government bond (JGB) yields near zero. At the same meeting, the central bank halted new purchases of exchange‑traded funds and real estate investment trusts and set out a timetable to phase out its purchases of commercial paper and corporate bonds.

In its statement at the time, the Policy Board said it had become “in sight that the price stability target of 2 percent would be achieved in a sustainable and stable manner,” and declared that its previous tools of quantitative and qualitative easing with yield curve control and negative rates had “fulfilled their roles.”

Why the monetary base is falling

Much of the recent decline reflects changes in banks’ deposits at the central bank rather than a sudden drop in cash held by the public. For years, the BOJ’s huge purchases of JGBs and special lending programs flooded financial institutions with reserves, swelling their current account balances. As the bank tapers those purchases and winds down special funding schemes, those excess reserves have begun to fall.

Governor Kazuo Ueda, an academic economist who took office in April 2023, has repeatedly signaled that shrinking the BOJ’s balance sheet is now part of the medium‑term agenda.

“Our balance sheet has become too big,” Ueda told lawmakers in March 2025, noting that total assets were around ¥745 trillion, larger than Japan’s annual economic output. He outlined a plan to gradually cut the central bank’s monthly government bond purchases and said policymakers would reassess the pace of that reduction based on market conditions.

Higher rates, but a cautious path

Since ending negative rates in 2024, the BOJ has raised its short‑term policy rate in stages to around 0.75% by December 2025, the highest level in roughly three decades. Long‑term interest rates have climbed as well: the benchmark 10‑year JGB yield has traded above 2%, levels not seen in about 27 years, as investors brace for further tightening and heavier bond issuance.

Even so, the BOJ has moved cautiously. Officials say they will continue buying government bonds, albeit at a slower pace, in order to smooth excessive swings in yields.

In an address in early January, Ueda said the bank would “continue to raise interest rates if economic and price trends align with projections,” but stressed that any moves would be gradual and data‑dependent.

From extraordinary easing to normalization

Japan’s exit from ultra‑easy money comes after more than a decade in which the country stood out among major economies for keeping rates near or below zero even as the U.S. Federal Reserve and European Central Bank tightened. Under former Governor Haruhiko Kuroda, the BOJ launched unprecedented easing in 2013 under the banner of “quantitative and qualitative monetary easing,” pledging to double the monetary base through large‑scale bond and asset purchases to end entrenched deflation.

The monetary base surged from levels in the ¥100 trillion range in the mid‑2000s to an all‑time high around ¥678 trillion in April 2022. The BOJ at one point came to own roughly half of all outstanding JGBs, and its balance sheet ballooned to more than 100% of gross domestic product—far above most other major central banks relative to their economies.

The last time Japan attempted a similar exit was in the mid‑2000s, when the BOJ unwound an earlier round of quantitative easing. The monetary base shrank in 2007 after the bank drained excess reserves from financial institutions and nudged up interest rates. Not long afterward, the global financial crisis and renewed economic weakness pushed Japan back toward deflation and ultra‑low rates.

Inflation near target, but debt risks rising

Today’s backdrop is different. Core inflation has hovered around or above the BOJ’s 2% target, boosted by higher import costs and, more recently, by rising wages. Large companies have granted their strongest pay increases in decades, and the central bank’s forecasts point to inflation remaining near 2% over the next few years as wage growth catches up.

At the same time, the risks around normalization are higher. Japan’s government debt is estimated at roughly 230% of GDP, the highest among advanced economies. Years of near‑zero borrowing costs kept the state’s interest bill manageable. As yields rise, that calculation is changing.

The Finance Ministry projects that annual interest payments on government bonds will increase sharply over the next several fiscal years. In recent budget documents, officials raised the assumed interest rate on new government borrowing to 3%, the highest assumption in nearly three decades—a move that pushes projected debt‑service costs to new records.

Masazumi Wakatabe, a former BOJ deputy governor who now sits on a government advisory panel, has warned that Japan must prepare for “inflation‑era risks like rising interest rates” and has urged policymakers to maintain “market trust in government finances” while keeping inflation expectations anchored around 2%.

Spillovers to banks, households, the yen and global markets

Higher rates are already reshaping parts of the economy. Japanese banks, which struggled for years with razor‑thin lending margins, stand to benefit from a steeper yield curve, though they also face valuation losses on bond portfolios as yields climb. Households with floating‑rate mortgages and other variable‑rate loans could see monthly payments increase, even as depositors and retirees finally get modestly better returns on savings.

The currency has not yet delivered the kind of strength some officials had hoped tighter policy might bring. Despite the end of negative rates and the start of balance‑sheet reduction, the yen remained weak against the dollar through late 2025, at times trading around ¥150 to ¥157. That has supported exporters’ profits but kept pressure on import prices for energy and food, complicating the inflation outlook.

For global markets, Japan’s shift away from flood‑the‑system stimulus could have wider repercussions. As domestic yields rise, Japanese institutional investors such as insurers and pension funds may find domestic bonds more attractive relative to U.S. Treasuries and European debt, potentially affecting international capital flows and borrowing costs.

So far, the BOJ has sought to avoid a “taper tantrum” in its own bond market, dialing back the pace of purchase reductions when volatility flares and reiterating that it will act to prevent disorderly moves. Market participants are watching closely to see how quickly the bank is willing to let its holdings of government bonds roll off.

A new phase for Japan’s long experiment

The monetary base is still far larger than it was before the experiment with massive easing began, and the BOJ has not set a numerical target for how much it wants to shrink its balance sheet. But the direction has clearly changed. After nearly two decades in which base money almost relentlessly expanded, it is now edging lower.

Whether Japan can maintain stable inflation, safeguard financial markets and manage the burden of its public debt while that base contracts will be one of the central economic questions of the coming years. The latest figures show that the world’s longest‑running experiment with ultra‑easy money has entered a new phase, with less liquidity, higher rates and little margin for error.