BOJ Set to Hike Rates to 0.75% as Inflation Stays Above Target

Japan's inflation held steady at 3% in November, according to government data released Friday, as core consumer prices, which exclude volatile fresh food prices, matched forecasts. This reading came just hours before the Bank of Japan (BOJ) concluded a two-day policy meeting, where a 25-basis-point rate hike is widely expected. The persistence of high food prices, driven by supply shortages and rising import costs, has kept inflation well above the central bank's 2% target, reinforcing expectations of tighter monetary policy.

The BOJ is poised to raise its short-term interest rate to 0.75% from 0.5%, marking the first increase since January and pushing rates to their highest level in 30 years. Governor Kazuo Ueda is set to address the media following the decision, with markets keen to assess whether he will signal further hikes. Analysts say the move reflects growing confidence that sustained wage gains will keep inflation near the BOJ's target.

Yields on U.S. Treasury bonds rose midday in Europe after Ueda's earlier comments about the possibility of a rate hike, as investors adjusted expectations for global monetary policy shifts. The remarks weighed on bond markets, with Ueda also hinting at an imminent Fed Chair appointment by U.S. President Trump, which could further influence market sentiment. Meanwhile, U.S. inflation data this week will be closely watched for clues on the trajectory of Fed policy (https://apnews.com/article/inflation-consumer-prices-economy-trump-tariffs-e26c4b6ee05533fd6686555e125b2e53).

Why the Rate Hike Is Expected

The BOJ's decision to raise rates is driven by continued inflationary pressures, particularly in the food sector, which has shown little sign of cooling. Headline CPI inflation fell slightly to 2.9% year-on-year from 3% in October, while core CPI inflation remained steady at 3%. The index excluding both fresh food and energy prices also held at 3%, reinforcing the central bank's view that underlying inflation remains too high.

Governor Ueda and other BOJ officials have increasingly signaled their readiness to hike rates to avoid being behind the curve in addressing inflation risks. The BOJ exited a decade-long stimulus program last year and has already raised rates twice since January 2025. With inflation above target for 44 consecutive months, the bank is now moving toward a more neutral stance.

Analysts at Evercore ISI said the hike brings the BOJ closer to its estimated neutral rate of 1%–2.5%, though the bank is unlikely to reveal updated estimates of that level this week. Ueda is expected to emphasize a commitment to further rate increases, even as the timing remains unclear.

How Markets Reacted

Japanese government bond yields have risen in recent weeks amid expectations of tighter policy, while the yen has weakened against major currencies. The yen's decline has added to inflationary pressures, as Japan is heavily reliant on imports. Higher BOJ rates also make Japanese bonds more attractive, pushing yields higher and prices lower.

Meanwhile, U.S. Treasury yields also rose in response to Ueda's comments, as investors factored in the likelihood of tighter global monetary conditions. Christopher Tahir of Exness said the U.S. economic data this week could shift expectations for Fed rate cuts, adding to market volatility.

In Asia, LG Energy Solution's shares fell sharply after Ford canceled a $6.5 billion battery supply contract, highlighting the fragility of corporate exposure to shifting demand and policy shifts in key markets. The stock dropped nearly 7% in early trading, underperforming regional benchmarks.

Risks to the Outlook

While a rate hike is expected to curb inflation, analysts have warned that it could also slow economic growth, particularly as personal spending remains weak. Japan's economy contracted 0.6% in the third quarter, though Ueda downplayed the impact of U.S. tariffs, saying corporations have absorbed much of the cost without passing it to consumers.

The BOJ's decision also comes amid a broader fiscal challenge, with Prime Minister Sanae Takaichi pushing for a stimulus package that will significantly increase government borrowing. Market anxiety over Japan's already high debt-to-GDP ratio has contributed to rising bond yields.

In a related move, the BOJ is expected to start selling its ETF holdings in January at a pace that will take decades to complete. The process aims to avoid market disruption while generating capital gains that could support fiscal policy.

As the BOJ prepares to finalize its decision, global markets will watch closely for signals on the central bank's path to normalization. The move could reshape the yen's role in global investment strategies and have broader implications for international capital flows.