Peter HoskinsEconomic journalist
AFP via Getty Images
Japan’s central bank raised its main interest rate to a new 31-year high after a surge in global energy prices.
On Tuesday, the Bank of Japan (BOJ) raised its key rate from 0.75% to 1%, a level not seen since 1995.
The move comes as other central banks have raised interest rates this year as the U.S.-Iran war pushes up the cost of living.
Japan’s interest rates were cut aggressively in the 1990s to combat the consequences of collapsing asset prices such as real estate and stocks. They had been near zero for two decades, as prices fell and growth stagnated.
The bank has been gradually increasing its interest rate since March 2024 – the country’s first increase in 17 years.
“After twenty years of deflation, Japan now finds itself in an inflationary cycle,” Japanese economist Jesper Koll told the BBC.
“An emergency/crisis management monetary policy is no longer necessary and the BoJ wants to return to normal monetary policy,” he added.
The BoJ is under pressure to rein in inflation, which was extremely low in the country until relatively recently.
Rising energy prices have fueled inflation, increasing pressure on countries like Japan, which rely heavily on Middle Eastern oil and gas.
Wholesale prices in Japan soared more than 6% in May from a year earlier, rising at the fastest pace in three years.
But the country’s overall inflation rate, which was 1.4% in April, is currently below the BoJ’s 2% target.
The risk of a sharp deterioration in Japan’s economy due to the war in Iran is less likely due to government measures, including to ease the impact on households of high fuel costs, the bank said on Tuesday.
But he adds: “Given the fact that medium- and long-term inflation expectations have also continued to rise, there is a risk that core inflation will deviate above our price target.”
The BoJ faces a delicate trade-off: Raising interest rates could help reduce inflation, but higher rates also make borrowing more expensive, increasing government and business spending.
The bank’s governor, Kazuo Ueda, a central figure in the interest rate decision, missed this week’s meeting because he was hospitalized with an infected liver cyst.
But, alongside other BoJ policymakers, he has expressed an increasingly positive stance in favor of raising rates in recent months.
“Even though the situation remains unclear, if it turns out that the upside risks to prices outweigh the downside risks to economic activity, it will be necessary to discuss in depth the pros and cons of an increase in the key interest rate,” Ueda said earlier this month.
Prime Minister Sanae Takaichi, known for her support of increased spending in the country, has previously rejected the idea of raising interest rates, even though she is under pressure to bring down inflation in Japan.
However, she has not publicly criticized the BoJ’s push to raise rates since taking office last year.
The latest rate hike is the second since Takaichi took office and was expected since the BoJ raised its key rate to “around 0.75%” in December.
The decision to raise rates also comes as the bank aims to stabilize the yen, which is under pressure from other major currencies like the US dollar and the euro.
“There has been a feeling that the yen is too cheap and that increasing its currency won’t do any harm,” said Ulrike Schaede, a business professor at the University of California, San Diego.
Even with this increase, Japan’s interest rate remains low compared to other major economies.
The US and UK, for example, currently have interest rates above 3%, although both central banks are expected to keep rates unchanged when they meet this week.
Meanwhile, the Reserve Bank of Australia kept rates at 4.35% on Tuesday, but said it could raise them again if necessary to control inflation.
But what we’re seeing could signal “a slow global realignment,” Schaede said.
Additional reporting by Osmond Chia
