Bank of Japan Raises Rate to 1.25%, Highest in 31 Years

The Bank of Japan has raised its benchmark interest rate to 1.25% from 1%, taking borrowing costs to their highest level in 31 years as policymakers respond to continuing inflation pressures.

The decision was reached by a 7-2 vote at the central bank’s two-day monetary policy meeting, which ended on Friday, September 18, 2026. Two board members, Toichiro Asada and Ayano Sato, opposed the increase.

The move marks another step away from the ultra-low interest-rate policy that defined Japan’s monetary system for decades.

Why did the BOJ raise rates?

The central bank has been moving gradually towards tighter monetary policy as inflation becomes more persistent.

The BOJ said underlying inflation was approaching its 2% target, while higher business-to-business prices were beginning to pass through to consumer prices. Companies have also continued to transfer higher wage and other costs to consumers.

Japan’s core consumer inflation remained close to the central bank’s target in August. Reuters reported that core consumer prices increased 1.7% year on year, compared with 1.8% in July.

The BOJ’s concern is not simply whether inflation reaches 2%. It also wants to prevent underlying price growth from moving significantly above that level.

BOJ signals a change in policy focus

Governor Kazuo Ueda said the central bank’s policy phase had changed.

Ueda indicated that policymakers were moving from trying to lift inflation towards the target to preventing inflation from overshooting it. He said an overshoot could have negative consequences for Japan’s economy.

That shift could have implications for the pace of future interest-rate increases.

Ueda did not rule out further increases at consecutive meetings or even a 50-basis-point increase if economic and inflation conditions require it. He also said the BOJ wanted to act early enough to avoid being forced into unusually large adjustments later.

That does not mean another increase has been scheduled. The timing and size of future moves will depend on economic and price developments.

Rate reaches a level closer to neutral

The increase takes the BOJ’s policy rate closer to what economists estimate could be a neutral level for Japan’s economy.

Reuters reported that the BOJ’s estimated neutral-rate range is between 1.1% and 2.5%. A neutral rate is generally understood as a level that neither significantly stimulates nor restricts economic activity.

The 1.25% rate therefore puts Japanese monetary policy in a different position from the period when rates were kept extremely low to support economic activity and inflation.

The BOJ ended its decade-long negative-rate and other extraordinary monetary stimulus policies in 2024 and has since raised rates several times.

Japan still has lower rates than major peers

Even after the latest increase, Japan’s policy rate remains below those of several other major central banks.

Reuters reported that the European Central Bank’s key rate is 2.5%, while the US Federal Reserve’s target range is 3.75% to 4.00%.

The difference matters for financial markets because interest-rate gaps can influence currency flows and borrowing decisions.

Japan’s relatively low rates have also historically contributed to the yen’s role as a funding currency in global markets.

Why the yen did not strengthen

The yen did not gain as much as might normally be expected after the rate increase.

Reuters reported that the currency weakened after investors focused on the two dissenting votes and interpreted the BOJ’s overall message as leaving considerable uncertainty over how quickly rates will rise.

The rate decision had largely been anticipated by financial markets before the meeting.

That meant the immediate market reaction depended less on the increase itself and more on what Governor Ueda said about future policy.

Inflation remains a concern

Japan’s inflation picture has become more complicated as energy and import costs have risen.

A weaker yen can make imported goods and raw materials more expensive, while higher fuel prices can increase costs throughout the economy.

Reuters reported that August core inflation remained below 2% but that a separate measure excluding fresh food and fuel increased 1.9%, suggesting that price pressures were not limited to energy.

The BOJ is therefore watching both headline inflation and measures that provide clues about underlying price trends.

What the decision means for borrowers and savers

Higher interest rates can increase borrowing costs for households and businesses.

In Japan, the effect will depend on the type of loan involved, the speed at which banks adjust lending rates and how financial institutions respond to the BOJ’s decision.

Savers can potentially benefit from higher deposit rates, although the effect may take time to reach ordinary bank accounts.

For businesses, higher financing costs can affect investment decisions, while stronger interest rates may also influence the value of the yen and the cost of imported goods.

Global markets are watching Japan

The BOJ’s decision comes during a period when major central banks are dealing with renewed inflation risks.

Higher energy costs linked to geopolitical tensions have complicated monetary policy decisions in several economies. Reuters reported that the BOJ’s move followed rate increases by other major central banks and came as policymakers assessed energy costs, fiscal policy and strong demand for artificial-intelligence investment.

Japan’s decision is particularly important for global investors because the yen has long played a role in international borrowing and investment strategies.

Changes in Japanese interest rates can therefore affect currency markets, bond markets and global capital flows beyond Japan.

What happens next?

The BOJ has not committed to a specific timetable for its next rate increase.

Governor Ueda’s comments indicate that further increases remain possible, but the central bank will assess inflation, wages, economic activity and financial conditions before making additional decisions.

The BOJ’s next major signals will come through future policy meetings, economic data and communications from its policymakers.

For now, the September decision establishes a 1.25% policy rate and confirms that Japan’s central bank is increasingly focused on managing the risk of inflation rising beyond its 2% objective.

The change marks another significant step in Japan’s move away from the ultra-low-rate environment that shaped its economy and global financial markets for decades.