Our economic outlook for Japan
June 16, 2026
Rate-hike bias hinges on economic data, geopolitics
“The Bank of Japan is gaining more confidence about transitioning from a highly cautious posture to one that favors steady and incremental policy normalization.”
Grant Feng,
Vanguard Senior Economist
Despite the heightened uncertainty of the Middle East conflict, GDP sharply exceeded expectations in the first quarter, driven mainly by exports and consumption. Meanwhile, capital expenditures are holding firm, supported by strong corporate earnings and labor-saving investment demand.
The strong first-quarter results do not fully reflect the impact of the Middle East conflict, however, as higher energy prices are likely to weigh on consumption and capital spending. Should tensions in the Middle East begin to ease, we would expect companies to resume investment aimed at rebuilding supply chains in response to labor shortages, as well as consumption to recover, supported by wage hikes.
Beyond that, the upswinging AI cycle and energy subsidies will partly offset the growth drag from energy headwinds. Although inflation slowed sharply in April, partly due to institutional factors such as food-price controls, we expect the impact of higher oil prices and yen weakness to gradually emerge as upside pressure.
As the Bank of Japan (BoJ) has pointed out, firms are becoming more willing to pass on higher costs through higher prices. As a result, we expect core inflation to recover above 2%.
Amid sustained wage growth, the BoJ is laying the groundwork for a gradual resumption of policy tightening this year. We continue to expect two further rate hikes by the end of 2026, taking the policy rate to 1.25%. Timing will be data‑dependent, hinging on inflation, wage, and activity data, as well as the persistence of the energy shock.
Japan economic forecasts
Notes: GDP growth is defined as the annual change in real (inflation-adjusted) GDP in the forecast year compared with the previous year. Unemployment rate is as of December for each year. Core inflation is the year-over-year change in the Consumer Price Index, excluding volatile fresh food prices, as of December for each year. Monetary policy is the Bank of Japan’s year-end target for the overnight rate.
Source: Vanguard.
Sustained wage growth supports BoJ policy rate hikes
Notes: This scatter plot shows how wage dynamics reflect a growing labor shortage in Japan, as illustrated by a steepening Phillips curve in recent decades. (The Phillips curve, named for famed New Zealand economist A.W. Phillips, demonstrates the relationship between wage gains and labor supply.) The employment diffusion index measures labor surpluses or shortages as reported by Japanese companies.
Sources: Vanguard calculations, based on data from Bloomberg, as of December 31, 2025.
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