Our economic outlook for Japan

Japan’s economy remains resilient, although higher energy costs are weighing on activity. AI-related demand is supporting exports, corporate profits remain elevated, and business investment continues to trend upward. The third-quarter Tankan survey of Japanese businesses showed improving conditions among large manufacturers despite elevated energy costs and geopolitical uncertainty. Consumption has held up, although it will likely remain broadly flat in the near term as rising prices constrain purchasing power. Financial conditions remain accommodative, providing scope for continued, measured tightening.

Inflation is becoming more broad-based and increasingly demand-driven, which strengthens the case for monetary policy action. September’s national Consumer Price Index readings were firm, with all measures rebounding above 2%, pointing to renewed inflation momentum heading into the fourth quarter. More importantly, revised estimates by the Bank of Japan (BoJ) suggest the economy has been operating with greater demand pressure than previously recognized, consistent with persistent labor shortages, rising wages, and a gradual broadening of inflationary pressures. A continued increase in inflation expectations could introduce the risk of inflation overshooting the BoJ’s price-stability target.

Overall, corporate resilience and domestically generated inflationary pressures support further but measured BoJ tightening. After the BoJ’s tactical pause in October, attention will shift to the timing of the next increase. We maintain our forecast for a 25-basis-point hike in December, which would take the policy rate to 1.5% by year-end 2026, while recognizing that a January hike remains a plausible alternative.