Bank Of Japan Raises Policy Interest Rate To 1.25%

Key Points

Bank of Japan raises key rate by 25 basis points to 1.25 per cent
Policy decision passes by 7-2 vote
Central bank signals further tightening as inflation approaches 2 per cent
Latest increase comes three months after previous rate hike

TOKYO: The Bank of Japan raised its key interest rate by 25 basis points to 1.25 per cent on Friday, taking borrowing costs to their highest level in more than 30 years in a bid to contain inflation driven by higher energy prices and a weak yen.

The BoJ board approved the decision by a 7-2 majority, according to the central bank. Market stakeholders were already anticipating the decision. It was also predictable following recent monetary tightening by the European Central Bank and the US Federal Reserve.

The Bank of Japan also indicated that further rate increases were likely, saying underlying consumer price inflation had been approaching its 2 per cent target while financial conditions remained accommodative.

“Given that underlying CPI inflation has been approaching two per cent and financial conditions have been accommodative, the bank will continue to raise the policy interest rate,” the central bank said.

The latest increase reflects heightened pressure on Japanese policymakers from rising energy costs.

Oil prices have remained above $100 a barrel in September as the Middle East conflict has disrupted energy markets and raised concerns about the security of crude supplies.

The rise in oil prices presents an additional challenge for Japan, which depends heavily on imported energy.

Higher crude prices increase the cost of fuel and other imported goods and can add to consumer-price pressures through transportation and production costs.

The weak yen has magnified the inflation challenge by making imported energy and other commodities more expensive in local currency terms. The yen fell to its weakest level against the dollar in 40 years in July, prompting a joint foreign-exchange market intervention by the United States and Japan.

Japan’s previous rate increase

The latest decision was three months after the Bank of Japan’s previous rate increase, when it raised the policy rate from 0.75 per cent to 1 per cent on June 16, 2026. The June increase was approved by a 7-1 vote and marked the first rate hike since December.

The June decision also brought the policy rate to a level not seen since 1995. At the time, the Bank of Japan said underlying consumer-price inflation was approaching its 2 per cent objective and that financial conditions remained accommodative, supporting further adjustment of monetary policy.

The central bank nevertheless highlighted the need to assess the timing and pace of further increases, particularly because the Middle East conflict posed risks to both Japan’s economic activity and prices.

Its June policy discussion noted that higher energy costs could raise inflation while the conflict could also weaken production and employment.

The June move followed the BOJ’s exit from negative interest rates in 2024 and a series of gradual increases, moving monetary policy away from the prolonged period of ultra-low borrowing costs.

Inflation and Yen

The central bank has faced increasing pressure to respond to persistent price pressures, particularly as energy costs rise and the yen remains weak against the US dollar.

A weaker yen increases the cost of imported goods and energy for Japanese consumers and businesses.

The central bank therefore has to balance the need to contain inflation against the risk that higher borrowing costs could weaken economic activity.

The latest decision suggests that policymakers believe underlying price pressures are sufficiently persistent to warrant another gradual withdrawal of monetary accommodation.

The Bank of Japan’s rate remains below borrowing costs in the United States and the Euro area. However, the policy shift represents a significant change from the negative-rate and ultra-loose monetary policies that defined the Japanese economy for many years.