Bank of Japan faces dilemma as inflation returns after decades of deflation

For the better part of three decades, Japan’s central bank had one overriding problem: prices wouldn’t go up. Now it has the opposite problem, and the policy toolkit that worked for deflation is proving awkward in reverse. The Bank of Japan held its short-term policy rate at 1% following its July 30-31 meeting, keeping borrowing costs at their highest level in over 31 years. That rate had been bumped up from 0.75% just weeks earlier in June. The central bank is now projecting average consumer inflation of 2.5% through March 2027, with core inflation expected to breach the 2% target in the second half of fiscal 2026. The growth side of the ledger looks considerably less impressive: just 0.6% for the current business year. That mismatch, rising prices against a near-stagnant economy, is the central tension facing Governor Kazuo Ueda and his board. The numbers behind the squeeze Japan’s headline inflation came in at 1.7% year-on-year in June 2026, ticking up from 1.5% in May. Japan spent roughly 25 years fighting deflation with every monetary tool imaginable: zero interest rates, negative interest rates, massive asset purchases, yield curve control. The entire economic architecture wa...