Japan's Service Sector Growth Slows in December, PMI Shows

Japan's service sector expanded at its slowest pace in seven months in December, with the S&P Global final Japan Services PMI falling to 51.6 from 53.2 in November. The index remained above 50, indicating growth for a ninth consecutive month, but the slowdown suggests weakening demand. Foreign demand for Japanese services returned to expansion for the first time since June, but overall new orders grew at a slower rate.

Input costs for service providers rose at the fastest pace since May 2025, driven by higher prices for raw materials, labor, and fuel. This cost pressure has become a major concern for businesses, as noted by S&P Global Market Intelligence. Companies are struggling to balance cost increases with the need to stay competitive and maintain sales.

Despite the cost challenges, staff numbers in the service sector rose at the fastest rate in over two-and-a-half years. Firms cited higher sales and the filling of long-held vacancies as key drivers of the employment growth. Business confidence for the next 12 months remained strong, with firms optimistic about new product launches, store openings, and improved demand, especially in transport and information technology sectors.

The final S&P Global Japan Composite PMI, which includes both services and manufacturing, dropped to 51.1 in December from 52.0 in November. The slowdown in the services sector offset a stabilizing manufacturing sector, reflecting the broader weakening of private-sector activity. While manufacturing output stabilized after a period of decline, the service sector accounted for the majority of the slowdown.

Why Did This Happen?

The slowdown in the service sector is attributed to a combination of weaker overall demand and rising costs. Although export-related activity showed some improvement, it was not enough to offset the broader softness in domestic demand. The cost pressures are linked to higher prices for raw materials, labor, and fuel, as well as construction costs. These rising input costs have forced businesses to raise their prices, potentially affecting consumer demand.

Businesses are also grappling with the challenge of maintaining margins while remaining competitive in a price-sensitive market. Analysts at S&P Global note that firms are seeking to pass on costs to clients where possible, but this strategy carries the risk of reducing sales if prices become too burdensome.

How Did Markets React?

The slowdown in Japan's service sector has implications for global investors, particularly those with exposure to the Japanese economy. The service sector is a significant component of Japan's economy, and a moderation in growth could affect related industries and supply chains. The Composite PMI decline also highlights the broader softness in private-sector activity, which could influence policy decisions, particularly if the slowdown persists.

Investor sentiment has been cautious, with the data reinforcing concerns about inflation and economic momentum. While business confidence remains strong, the combination of higher costs and slower demand may affect short-term performance in the sector. Analysts are monitoring whether the slowdown will lead to further monetary policy adjustments or if the BoJ will maintain its current stance.