Japan’s core inflation hit 3.7% and interest rates might increase

Japan just logged its highest core inflation since early 2023, and it’s now looking more likely that the Bank of Japan will have to hike interest rates again.

The latest government data, published Friday, showed that core CPI rose 3.7% year-on-year in May, outpacing forecasts of 3.6% and speeding up from April’s 3.5%. Inflation has now gone over the BOJ’s 2% target for more than three straight years.

That makes it harder for the central bank to delay its next move, even with Donald Trump’s trade threats clouding the economic outlook.

This jump in prices isn’t being driven by fuel or fresh vegetables, it is all about food that people actually eat every day. Prices for essentials like rice have doubled since May 2024. A rice ball now costs nearly 20% more, and a simple bar of chocolate is up 27%, based on the official figures.

And it doesn’t stop at goods. Inflation in services—like restaurants, haircuts, and healthcare—also ticked up to 1.4% from April’s 1.3%, showing that businesses are slowly pushing more of their labor costs onto customers.

BOJ faces tariff risk as prices rise across the board

The situation is messy. The BOJ already ended its huge stimulus program last year and raised short-term rates to 0.5% in January because it believed Japan was close to sustainably hitting the 2% inflation target. But now things have changed.

Global risks are back on the table. Trump is back in the White House, and his renewed tariff agenda is making Japan’s export-heavy economy look fragile again. That’s why the BOJ is holding off … for now.

Ryosuke Katagi, market economist at Mizuho Securities, said the central bank is being cautious: “Given heightened uncertainty over US tariff policy, the BOJ is taking a wait-and-see approach to scrutinize developments in bilateral trade talks. When looking just at price moves, conditions for additional rate hikes will likely stay in place throughout 2025.”

That’s supported by a different inflation measure, one that cuts out fuel and fresh food, which climbed 3.3% in May compared to 3.0% in April. That’s the fastest increase since January 2024, when it hit 3.5%. The BOJ watches that specific number closely, since it gives a better sense of whether inflation is being driven by strong demand or just external costs.

The same pattern is showing up in Tokyo. Analysts surveyed by Reuters expect the capital’s core inflation to slow to 3.3% in June, down from 3.6% in May. Tokyo’s numbers tend to be early signals for the whole country, but the drop isn’t big enough to calm the central bank. Especially not with non-fresh food prices up 7.7% from a year earlier, higher than April’s 7.0%.

BOJ split on timing while economists warn of price spiral

Inside the central bank, the debate is heating up. Minutes from the BOJ’s April 30–May 1 meeting showed a divided board. Some members are worried inflation will keep climbing past projections. The idea of a wage-price spiral is also being taken seriously now.

A research paper published by the bank said that raising rates slowly, while raw materials stay expensive, could trigger an upward loop between wages and consumer prices.

Yoshiki Shinke, chief economist at Dai-ichi Life Research Institute, said, “Inflation is overshooting expectations. The rise in food costs is particularly big and re-accelerating this year.” He also added that “firms seem keen to raise prices further.” Yoshiki expects core inflation to go below 3% in August and possibly under 2% by early 2026, but warned the slowdown might be weaker than expected.

The BOJ still claims that cost-push pressure will ease later this year, and with expected wage growth, they hope to see more domestic consumption. That’s the logic they’re using to avoid another hike for now. They want inflation to hit 2% because of demand, not just because food prices are out of control.

Still, patience is running out. A Reuters poll of economists found that a slight majority expect the next 25-basis-point rate hike to happen in early 2026. But with this latest CPI report, that timeline could easily get pulled forward—especially if inflation keeps jumping and Trump’s tariff agenda starts to damage exports even more.

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