BOJ Rate Hike Bets Rise as Japan's Inflation Hits 19-Month High

Japan's core consumer inflation surged to a 19-month high of 3.2% in January, Reuters reports, bolstering expectations that the Bank of Japan (BOJ) will continue raising interest rates. The inflation data, released on Friday, exceeded a median market forecast of 3.1% and followed December's 3.0% increase.

"While services inflation isn't accelerating that much, goods inflation isn't slowing either," said Ryosuke Katagi, market economist at Mizuho Securities, to Reuters. "The BOJ will likely see scope to raise interest rates on the view price conditions are moving in line with its forecast."

Bond yields rose on the news, reflecting the market's growing confidence in a more aggressive BOJ approach to tackling inflation. The year-on-year increase in the core consumer price index (CPI), which excludes fresh food prices, marked the fastest pace since March 2024.

A separate index excluding both fresh food and fuel costs, closely watched by the BOJ as a gauge of demand-driven inflation, climbed 2.5% year-on-year in January. This represents the fastest pace since March 2024, when the index reached 2.9%.

The BOJ has been grappling with inflation exceeding its 2% target for nearly three years, prompting hawkish comments from board members like Hajime Takata. The central bank raised its short-term interest rate to 0.5% from 0.25% in January, citing progress towards its inflation goal.

Governor Kazuo Ueda has indicated a willingness to continue raising rates if wage growth sustains consumption and allows firms to raise pay. The BOJ's theory is that robust wage growth will prompt service sector firms to pass on rising labor costs, shifting the inflation driver from rising raw material prices to increased wages.

However, persistently high fuel and food prices raise concerns about whether cost-push inflation will subside. In January, households continued to grapple with soaring prices for rice, vegetables, and other food items, as well as a 10.8% increase in energy costs.

Headline consumer inflation, including fresh food prices, reached 4.0% in January, accelerating from 3.6% the previous month and hitting a two-year high. Conversely, services inflation slowed to 1.4% year-on-year in January, down from 1.6% in December.

Japan's economy expanded by an annualized 2.8% in the last quarter of 2022, driven by strong business expenditure and consumption, further bolstering the BOJ's case for additional rate hikes.

A majority of economists surveyed by Reuters anticipate one more rate hike this year, most likely in the third quarter, bringing the rate to 0.75%.