The International Monetary Fund (IMF) has urged Japan to continue raising interest rates and refrain from loosening fiscal policy further. The IMF cautioned that reducing the consumption tax would diminish Japan’s capacity to respond to future economic shocks. This recommendation comes as Prime Minister Sanae Takaichi’s recent election victory has heightened market focus on potential resistance to further rate hikes by the Bank of Japan (BOJ). Takaichi has also pledged to suspend the 8% consumption tax on food sales for two years. The International Monetary Fund is an international financial institution that works to foster global monetary cooperation, secure financial stability, facilitate international trade, promote high employment and sustainable economic growth, and reduce poverty around the world. The BOJ is Japan’s central bank and is responsible for maintaining price stability and financial system stability.
The IMF emphasised the importance of the BOJ’s continued independence and credibility in maintaining well-anchored inflation expectations, advising the government against excessive interference in monetary policy. According to the IMF’s preliminary policy recommendation, the BOJ should continue its gradual withdrawal of monetary accommodation and move the policy rate toward a neutral stance by 2027. The BOJ ended its massive stimulus programme in 2024 and has since raised interest rates several times, including pushing its policy rate to a 30-year high of 0.75% in December.
The IMF anticipates the central bank to raise rates twice this year and once more in 2027. Higher borrowing costs could complicate Takaichi’s tax cut and spending plans, which previously triggered bond and yen selloffs due to concerns about Japan’s worsening financial situation. The IMF stated that Japan should avoid cutting the consumption tax, as it would “erode fiscal space and add to fiscal risks.” The proposed temporary suspension of the food levy would help to contain fiscal costs, although the IMF awaits further clarity on funding details to fully assess the impact on Japan’s finances.
The IMF also called for a credible medium-term fiscal framework with a clearly defined fiscal anchor, warning that high and persistent debt levels, coupled with a deteriorating fiscal balance, expose Japan’s economy to various shocks. Interest rate payments are projected to double between 2025 and 2031 as debt is rolled over at higher yields. The IMF welcomed Japan’s commitment to a flexible exchange rate regime, noting that exchange-rate flexibility should help absorb external shocks and support monetary policy’s focus on price stability.
