Tokyo core inflation exceeds expectations, Japan moves one step closer to raising interest rates.

Tokyo's November core inflation data exceeded market expectations, combined with unexpectedly strong factory output and a persistently tight labor market, pushing the Bank of Japan towards a second rate hike.

On Friday, according to data released by Japan, Tokyo's core CPI in November rose 2.8% year-on-year, unchanged from October and slightly higher than the market expectation of 2.7%. This was mainly due to the accelerated rise in electricity prices in Japan, offsetting the impact of slower processed food price increases.

The index excluding fresh food and fuel also maintained a 2.8% increase. In addition, industrial output in October increased by 1.4% month-on-month, surpassing market expectations, with strong growth in automobile production as the main contributing factor. After the data release, the USD/JPY exchange rate showed little change.

These data will be a key reference for the Bank of Japan’s decision-making at the December 19 monetary policy meeting. Amid ongoing inflationary pressures and the recent weakening of the yen, the Bank of Japan is facing increasing pressure to make a difficult choice between maintaining economic growth and curbing inflation.

Strong inflation data, food prices remain the main driver

Although some price increases have moderated, the overall inflation in Tokyo remains notably sticky.

According to reports, the recent price rise has been mainly driven by food costs, with rice prices surging 38.5% year-on-year, and coffee beans and chocolate prices rising by 63.4% and 32.5% respectively.

Another report shows that the number of price increase categories at major Japanese food companies this year is expected to reach 20,609, up 64.6% from last year. Analysts believe this trend indicates that companies are still continuously passing the rising costs on to consumers.

In contrast, service sector inflation remains moderate, rising 1.5% year-on-year in November, basically unchanged from October’s 1.6%, and much lower than the 4.0% year-on-year increase in goods prices.

In Japan's labor market, the data shows that the job market remains tight. The unemployment rate in October was stable at 2.6%, with a job-to-applicant ratio of 1.18, meaning there were 118 job positions for every 100 job seekers.

Economic data diverges, manufacturing outlook uncertain

Beyond inflation data, other economic indicators released on Friday were mixed.

Japan’s industrial output for October unexpectedly grew 1.4% month-on-month, mainly due to a rebound in automobile production, better than the widely expected decline. Bloomberg economist Taro Kimura stated:

The data shows that manufacturing is recovering from the early hit by U.S. tariffs, reinforcing the Bank of Japan’s judgment at the October meeting that downside risks to the economy are easing.

However, the manufacturing outlook is not entirely positive.

A government survey shows that Japanese manufacturers expect industrial output to shrink by 1.2% and 2.0% in November and December respectively, suggesting that shocks from external demand could intensify over the coming months.

Rate hike window approaching, yen trends become key variable

The latest economic data will undoubtedly boost the Bank of Japan’s confidence in the economic outlook and may add fuel to speculation of a rate hike as early as December.

Since exiting large-scale stimulus and raising rates to 0.5% last year, the Bank of Japan has stood firm to assess the impact of external risks on the economy.

Market analysts generally believe that the rate hike window is approaching.

According to reports, Marcel Thieliant of Capital Economics said he expects the Bank of Japan “to resume the tightening cycle in the coming months.”

Former Bank of Japan policy chief Kazuo Momma said this week that, given the recent weakness in the yen, the likelihood of a rate hike in December is “quite high.”

The continued weakening of the yen has become a key variable driving the policy shift.

Bank of Japan Policy Board member Asahi Noguchi has recently warned of the risks of waiting too long to raise rates, and analysts have pointed out that a rate hike would help support the yen, thereby alleviating the pressure households face from rising import costs.

However, Japan's prime minister’s economic advisor has warned against raising rates too early, citing weak consumption and an economic contraction in the third quarter. The Japanese government launched a fiscal stimulus plan last week, aiming to ease the cost-of-living pressures on the public through subsidies and other measures, which may further complicate the timing of central bank decisions.

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