The Bank of Japan has raised interest rates to a 31-year high, lifting its policy rate to 1% from 0.75% in a bid to tame inflationary pressures from the Iran war. The quarter-point increase, announced on Tuesday, pushed borrowing costs to levels not seen since 1995, when the central bank was midway through cutting rates after a property and asset bubble burst.
The decision comes as companies pass on rising oil costs to each other at a “relatively fast pace”, the BoJ warned. Higher energy prices have fuelled inflation in Japan, which depends heavily on oil and gas from the Middle East. Wholesale prices climbed by more than 6% in May from a year earlier, the fastest pace in three years.
“Bank of Japan raises rate to 1%, highest since 1995, to curb Iran war inflation.”
Despite the urgency, Japan’s overall inflation rate was 1.4% in April, below the BoJ’s 2% target. Governor Kazuo Ueda missed this week’s meeting due to hospital treatment for an infected liver cyst. The press conference was led by Shinichi Uchida, who told reporters that the US-Iran memorandum to end the conflict was “a welcome move” but cautioned that uncertainty over oil supply remained.
“With underlying inflation approaching 2%, it’s important to ensure we achieve our target stably,” Uchida said. The BoJ’s own statement noted that the risk of a sharp economic deterioration from the Middle East conflict had diminished, partly thanks to government relief on fuel costs, but “there is a risk of underlying inflation deviating above our price target.”
The rate rise marks a dramatic shift for Japan, which has battled deflation for decades. After two decades of near-zero rates, the BoJ began hiking in March 2024 – its first increase in 17 years. “After twenty years of deflation, Japan is now in an inflationary upcycle,” said Jesper Koll, an economist. “Emergency/crisis management monetary policy is no longer needed.” The central bank faces a tricky trade-off: higher rates could lower inflation but also make borrowing costlier for the government and businesses.
Tokyo’s stock market closed at a record high, with the Nikkei hitting 70,000 points for the first time during Tuesday’s session. Susannah Streeter of Wealth Club said the move was “widely expected” but added that “there was some relief that the move wasn’t more hawkish, with even a 50-basis-point hike having been mooted.”
As Japan normalises policy, the risk remains that underlying inflation could overshoot – a challenge Uchida acknowledged. “Compared with the previous meeting, the risk of a sharp deterioration in the economy has diminished. On the other hand, price rises are broadening,” he said.