Japan Raises Rates to Highest Level Since 1995 as BOJ Moves Toward Normalization

The Bank of Japan raised its policy rate on Tuesday from 0.75% to 1%, the highest level since 1995. The move marks another step away from years of near-zero, and at times negative, rates as Japan continues to unwind an era of cheap money and normalize monetary policy.

The central bank also said it will keep monthly government bond purchases steady at about 2 trillion yen, or $12.5 billion, from April 2027. It has been gradually reducing its bond buying from much higher levels as part of its effort to return to a more neutral policy stance after years of heavy stimulus.

The meeting was held without Governor Kazuo Ueda, who was hospitalized last week for treatment of a liver cyst infection. It was the first time since an emergency meeting in 2010 that the board met without a governor present. The decision passed 7-1, with Toichiro Asada dissenting on the grounds that the risk of slower growth outweighed inflation risks. Asada joined the board only two months ago and is known as a dovish policymaker. He is also Prime Minister Sanae Takaichi’s first appointment to the bank, and she has supported loose policy and previously opposed rate hikes.

Inflation pressures remain a key concern. The Middle East conflict has added complexity by pushing up oil prices, which is especially painful for Japan because it relies heavily on imported fuel. Although the peace agreement between the U.S. and Iran and the expected reopening of the Strait of Hormuz have eased market fears somewhat, hundreds of merchant ships are still waiting for safe passage. The weak yen is also adding to price pressure, while wholesale inflation rose in May to a three-year high of 6.3%, suggesting companies have already passed on higher energy costs.

Analysts expect core consumer inflation to rise back above the BOJ’s 2% target later this year, after dipping below it because of government subsidies for utilities such as electricity and gas. Harumi Taguchi, chief economist at S&P Global Market Intelligence, said, “I believe the Bank of Japan’s stance remains unchanged, in that it will continue to make gradual rate increases about every six months. Another rate hike by the end of the year is also possible.” She added that although crude prices have eased slightly, inflationary pressures are likely to continue. Global markets are watching Japan closely because higher rates could weaken the carry trade, raise funding costs, and trigger heavy selling in Wall Street assets.