On December 19, 2025, the Bank of Japan (BOJ) announced its decision to raise the policy rate (uncollateralized overnight call rate) by 25 basis points to 0.75%, marking the highest level in 30 years since 1995. This marks the BOJ’s second rate hike in 2025, following an earlier increase in January.
Key Observations: 1) The 25bp hike was in line with market expectations, with investors focusing more on future policy guidance. Prior to the announcement, markets had largely priced in the move, though disagreements remain over the timing and magnitude of potential rate hikes in 2026. Following the decision, market reactions were broadly neutral, with Japan’s 10-year government bond yield rising above 2.0%, the yen extending its decline amid volatile trading, and Japanese equities maintaining an upward trend.
2) This hike represents a significant step in the BOJ’s monetary policy normalization process. The decision was unanimously approved at the December meeting, reflecting reduced dissent compared to previous meetings. This signals that Japan’s monetary tightening cycle is likely to continue, reinforcing expectations of further rate hikes.
3) Recent inflation data has strengthened confidence in Japan’s price trends, with wages and inflation expected to rise moderately in tandem. November’s core CPI held steady at 3.0% year-on-year, remaining above the BOJ’s 2% target. This has alleviated some concerns about the sustainability of inflation, providing justification for further tightening.
4) The BOJ acknowledged that while Japan’s economy shows signs of weakness, it continues to recover moderately. Real interest rates are expected to remain significantly low, with accommodative monetary conditions supporting growth. If economic and price conditions evolve as projected, the central bank will continue raising policy rates. Governor Kazuo Ueda emphasized that the pace of policy adjustments depends on economic and inflation developments, noting that the neutral rate should be viewed as a broad range rather than a fixed level. He added that Japan remains below the lower bound of this range and has yet to see strong tightening effects from past hikes. The BOJ will assess the impact of the latest hike before deciding on further moves.
5) The BOJ has not yet initiated large-scale reductions in its stock ETF holdings, demonstrating caution. The central bank outlined principles for selling ETFs and J-REITs, including market-sensitive pricing, minimizing losses, and avoiding financial instability. ETF sales may begin as early as January 2026, but the process will likely be gradual to mitigate market disruptions. However, as the BOJ exits the ETF market, equity volatility could rise.
Risks: Escalating geopolitical tensions, historical precedents not guaranteeing future outcomes, U.S. tariffs impacting Japan’s growth, and inflation uncertainties.
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