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Japan wants to bid farewell to the "cheap money" era, but why is the pace so slow?
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Hello everyone, today XM Forex will bring you "[XM Forex]: Japan wants to bid farewell to the era of "cheap money", but why is the pace so slow?". Hope this helps you! The original content is as follows:
As we enter 2026, Japan’s price trend has shown a clear turning point. The latest data shows that overall inflation fell to 2.0% year-on-year in December, which was not only lower than the previous value of 2.7%, but also lower than market expectations of 2.3%. There are three major driving forces behind this decline: the government has re-increased winter energy subsidies, rice prices continue to stabilize and decline, and international oil costs remain low. The www.xmtraders.combination of these three forces means that overall inflation in the first half of 2026 is likely to continue to hover around 2%, and may even briefly fall below this key threshold.
What is more noteworthy is that core inflation excluding fresh food and energy also showed signs of slowing down - it was recorded at 2.6% in December, down from 2.8% in November, although it was in line with market expectations. Structurally, weak www.xmtraders.commodity prices were the main cause, while private services and housing-related prices continued to rise moderately. Looking forward, due to the base effect, core inflation will gradually move closer to 2%. This cooling trend of "internal and external attacks" makes it difficult for the Bank of Japan to easily accelerate the pace of tightening.
If interest rates are raised rashly at this time, it may lead to rising financing costs and falling inflation at the same time, causing a double squeeze on household consumption and corporate investment. Therefore, policymakers prefer to observe the lagging effects of previous interest rate hikes and wait for clearer signals—especially whether core inflation can stabilize above 2% and be significantly stronger than overall inflation. Against this background, the first half of 2026 is more like an "observation window" than a time for "quick catch-up interest rate hikes."
Wages and fiscal support are not enough to promote radical tightening
Despite the short-term pressure on inflation, Japan's domestic demand has not www.xmtraders.completely stalled. The main forces supporting the economic chassis www.xmtraders.come from two aspects:Topics: Strong wage growth and expansionary fiscal policy. In annual labor negotiations, major labor unions have proposed a salary increase target of more than 5%, and the www.xmtraders.company's good profitability also provides room to fulfill these demands. At the same time, the government directly supports residents' consumption by issuing shopping vouchers, cash subsidies, etc. Especially in the context of high energy and food expenditures, such measures have effectively alleviated people's pressure.
These factors do provide a certain bottom support for inflation and help prevent core inflation from falling below 2% too quickly. However, judging from the decision-making logic of the Bank of Japan, "anti-fall" alone is not enough to constitute a reason to accelerate interest rate increases. What the central bank is really concerned about is the sustainability and widespread spread of inflation. When energy subsidies, oil price fluctuations and food price changes continue to drag down overall data, policymakers are more willing to adopt a "step by step" strategy to avoid unnecessary economic shocks caused by too fast a pace.
In other words, the current www.xmtraders.combination of wages and finance is more like putting on a "warm coat" for the economy to prevent it from immediately losing temperature when the external environment changes. However, this does not mean that the "old coat" of loose monetary policy can be immediately taken off. The Bank of Japan needs to see more solid evidence of endogenous momentum before it will consider taking the next step.
There are twists and turns in the recovery of growth, and the policy choice is biased towards "moderate forward movement"
From the perspective of economic growth, the Japanese economy showed rebound momentum in the fourth quarter after experiencing contraction in the third quarter. Industrial production fell by 2.6% month-on-month in November, exceeding market expectations of -2.0%. Automobile production fell 7.2% month-on-month, the first decline in four months, showing that there are still fluctuations on the supply side. However, the previous consecutive months of growth have laid the foundation for subsequent repairs, and this fall is more like a phased adjustment.
In contrast, the demand side performed more robustly. Retail sales increased by 0.6% month-on-month in December, achieving a rebound for three consecutive months, with improvements in various categories such as merchandise, clothing, food and beverages. Although auto sales fell 2.6% that month, considering that October saw a sharp increase of 9.6%, the correction is more likely to be a short-term fluctuation rather than a trend reversal. Analysts predict that the fourth-quarter GDP annualized rate will reach 1.6%, mainly driven by private consumption and investment.
In addition, winter bonuses are expected to increase significantly, which is expected to further boost consumer confidence; in terms of investment, the transportation, semiconductor equipment and construction fields are also expected to resume growth after one-time factors such as safety rectification subside. However, even if growth recovers, the Bank of Japan will not take it as a signal to raise interest rates immediately. For them, the real test is: Can the economy remain resilient in an environment of gradually rising interest rates? The current data is more like a "blip in repair" than a solid recovery. Therefore, the most reasonable path is still to arrange the interest rate hike at a clearer time point to reduce the risk of misjudgment.
The "dovish rhythm" under the hawkish stance: The most likely time to raise interest rates in 2026 is October
From the Bank of JapanJudging from the minutes of the Bank’s December meeting, the tone within decision-makers is getting stronger. Some members clearly pointed out that the real interest rate is still at an extremely low level and it is necessary to further adjust the degree of monetary easing; some even suggested that policy adjustments should be made "at intervals of several months." These remarks send a clear signal: the Bank of Japan is no longer satisfied with the status quo, and the consensus for exiting ultra-easing is growing.
But having a hawkish attitude does not mean acting quickly. Realistic constraints are still obvious: inflation faces downward pressure, industrial production has not yet fully stabilized, and the exchange rate market is highly sensitive to external shocks. If the interest rate is forcibly raised when conditions are not mature, it may trigger a violent reaction in the financial market and even backfire on the economy itself. Therefore, although the direction is clear - to continue to withdraw from easing, the speed is destined to be gradual.
Based on factors such as inflation, growth, fiscal and market expectations, analysts generally believe that the next Bank of Japan interest rate hike is most likely to occur in October 2026, with a high probability of 25 basis points. Thereafter, the policy rate will rise at a slow pace and is expected to reach a neutral range of approximately 1.50% by the end of 2027. This process will not be accomplished overnight, but emphasizes "controllable" and "predictable".
At the same time, the Treasury market is also reflecting this path. Short-term government bond yields are more sensitive to policy changes. In addition, the government plans to increase the issuance of 2-year and 5-year government bonds and reduce ultra-long-term varieties. The upward pressure on short-term yields is significantly greater than the long-term. In the foreign exchange market, the US dollar against the yen closed at 156.85 at the end of 2025. Although it once hit a low and triggered an intervention warning, it temporarily stabilized under the hawkish minutes and official statements. Looking forward to 2026, if the Federal Reserve starts a rate cut cycle, the narrowing of interest rate spreads may push the yen back to around 150, further reducing the external pressure on the Bank of Japan.
Overall, the Bank of Japan does not lack reasons to raise interest rates - real interest rates are low, wage growth is supported, and core inflation is still resilient, all are strong evidence. But it also does not meet the conditions for "continuous rapid acceleration". Facing the www.xmtraders.complex internal and external environment, it has chosen a cautious and determined path: it will not jump ahead when the data is unclear, nor will it stop before the trend becomes clear. The protagonist in 2026 is not speed, but patience.
The above content is all about "[XM Foreign Exchange]: Japan wants to bid farewell to the era of "cheap money", but why is the pace so slow?" It was carefully www.xmtraders.compiled and edited by the editor of XM Foreign Exchange. I hope it will be helpful to your trading! Thanks for the support!
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