Japan's inflation rate becomes a turning point for interest rate decisions

With the Bank of Japan’s next interest rate decision meeting approaching, the movement of Japan’s inflation rate has become the market’s primary focus. The upcoming release of the December Consumer Price Index (CPI) is a key data point that will significantly influence the central bank’s policy decisions. ING’s analysis team points out that a downward trend in inflation could prompt the Bank of Japan to reconsider its future rate hike strategies, increasing market attention on the policy direction.

December CPI Release as Market Focus

Japan’s inflation rate for December is expected to show a notable decline compared to the previous month. This data point serves as an important indicator of the central bank’s policy crossroads. If inflation decreases as expected, the Bank of Japan may be compelled to strategically review its current rate hike plans.

Market participants have already begun price adjustments ahead of this announcement, and volatility in the interest rate futures market has increased. ING’s analysis suggests that depending on the timing and content of the release, it could have ripple effects on the financial markets.

Why Core Inflation Above 2% Is Key

While Japan’s overall inflation trend shows a decline, the movement of core inflation (excluding food and energy) remains the most critical factor for policy decisions. Given that the Bank of Japan has set a 2% price stability target, whether core inflation continues to stay above this level is a decisive criterion.

Wage growth combined with government economic support measures is widely viewed as maintaining core inflation above the 2% line. These factors are expected to have a synergistic effect, providing a basis for the Bank of Japan to continue its monetary tightening.

Outlook for Rate Hikes in the Second Half of 2026

If the Bank of Japan confirms that core inflation remains persistently above 2%, the likelihood of additional rate hikes in some point during the second half of 2026 increases. Based on multiple scenario analyses, if inflation continues to stay above the 2% target, the central bank is likely to proceed with gradual monetary tightening.

This outlook is already reflected in market expectations, with preemptive adjustments observed in government bond yields and currency markets. The process by which Japan’s inflation rate influences policymakers’ judgments will continue to be closely monitored.