Bank of Japan Raises Interest Rates to Highest Level Since 1995

The Bank of Japan raised its key interest rate to 0.75 per cent on Friday, taking borrowing costs to their highest level since 1995 and marking the first increase since January. The decision followed the release of fresh inflation data and was widely expected by markets. After the announcement, the yen weakened slightly against the US dollar.

Policymakers voted unanimously to lift the benchmark rate from 0.5 per cent, reflecting growing confidence that Japan's economy can withstand higher borrowing costs. The move came hours after official figures showed core inflation remained steady at three per cent in November, well above the central bank's two per cent target.

In its policy statement, the Bank of Japan said the economy had "recovered moderately", while noting that risks linked to the US economy and global trade policies had eased in recent months. Bond yields in Japan have risen in recent weeks as investors reacted to Prime Minister Sanae Takaichi's fiscal approach and continued weakness in the yen.

Price pressures remain a major concern for households. Core consumer inflation, which excludes fresh food, held at three per cent in November, matching October's reading and analysts' expectations. Data from the internal affairs ministry showed rice prices surged 37 per cent compared with a year earlier, driven by supply shortages following the unusually hot summer of 2023 and panic buying after a government-issued "megaquake" warning.

Prime Minister Takaichi, who took office in October, has placed the cost of living at the centre of her agenda. This week, parliament approved an additional 18.3 trillion yen in spending to fund a large stimulus package aimed at easing pressure on households and supporting growth. While Takaichi has historically supported loose monetary policy, she has emphasised that interest rate decisions remain the responsibility of the central bank.

The latest increase forms part of a gradual shift away from decades of ultra-loose monetary policy. The Bank of Japan began raising rates from below zero in March last year, as persistent price rises signalled an end to the long period of deflation and economic stagnation often referred to as Japan's "lost decades". Concerns over global growth and the impact of US trade measures had prompted policymakers to pause earlier this year after January's hike.

Japan's economy, however, remains fragile. Gross domestic product contracted by 0.6 per cent in the third quarter, raising questions about how higher interest rates may affect growth. Bank of Japan governor Kazuo Ueda said the impact of US tariffs on Japan had so far been smaller than expected, noting that American companies had largely absorbed the costs rather than passing them on to consumers.

While inflation remains above target and policymakers are signalling confidence in the recovery, the central bank continues to balance the need to control prices against the risk of slowing an already delicate economic rebound.