The Bank of Japan resumed its monetary policy normalization with a widely expected rate hike decision on Dec. 19 that will prove a shot in the arm for the nation's commercial banks.
Lenders will likely be able to pass the higher rates to their customers, helping improve their net interest margins and profitability after the central bank announced it will raise its benchmark policy rate by 25 basis points to 0.75% in a unanimous decision after its two-day review meeting. With this increase, the benchmark rate has crossed 0.5% for the first time since 1995.
The rate hike "will provide a tailwind to banks," said Toyoki Sameshima, a senior analyst at SBI Securities Co. "They will get a further momentum in actual profits from several months later" after they raise lending rates, Sameshima said.
The first rate hike in almost a year was aimed at arresting rising inflation, driven partly by the yen's depreciation against the dollar. The BOJ is seeking to normalize its monetary policy after it abandoned negative rates in 2024. Still, the central bank faces a global environment where its major peers are easing policy. The US Federal Reserve cut interest rates earlier this month, while several other central banks in the Asia-Pacific, including in India, Thailand and the Philippines, also lowered their rates. The Japanese central bank, in contrast, may raise rates further in 2026.
More hikes
"I think the BOJ will continue to raise rates, possibly one time each in 2026, 2027 and 2028, to a terminal rate of 1.5%," said Tsuyoshi Ueno, a senior economist at NLI Research Institute.
Economists are interested in where interest rates will ultimately top out. Most expect the central bank to continue to raise rates, possibly another 25% points, in the middle of 2026 after the BOJ confirms that wages are on an uptrend. The terminal rate, which neither stimulates nor chills the economy, may fall between 1.25% and 1.5% over the next few years, economists said.
"Looking at the background conditions of wage developments, labor market conditions have continued to be tight, and corporate profits are expected to remain at high levels on the whole," the BOJ said in its Dec. 19 statement. "It is highly likely that firms will continue to raise wages steadily next year, following the solid wage increases this year," it said.
"The downside risks to the economy have receded and we expect a steady continued wage growth in the spring [of next year]," BOJ Governor Kazuo Ueda said during at Dec. 19 press conference after the rate decision.
Margin boost
Major banks typically provide loans at floating rates to large companies in Japan, and higher policy rates will allow them to charge more for their bigger customers. Higher rates would boost net interest income for banks, particularly for Japan's three megabanks that have revised up their earnings targets for the fiscal year ending in March of 2026 in November when they reported their first-half results, as companies perform well, also upgrading their full-year income estimates.
Credit demand is growing as Sanae Takaichi, who took as Japan's prime minister in October, aims to pursue economic measures, including tax cuts, to incentivize capital investments. Business sentiment among large Japanese manufacturers improved for a third consecutive quarter in the October-December period, according to BOJ's latest Tankan survey released on Dec. 15. The closely watched survey, considered a key indicator for the state of Japan's economy, also showed that large companies across all industries anticipate a 12.6% year-over-year rise in capital spending for the current fiscal year through March 2026.
Among Japan's so-called three megabanks, Mitsubishi UFJ Financial Group Inc. and Sumitomo Mitsui Financial Group Inc. each anticipate that a 25-basis point hike in the policy rate will contribute an additional ¥100 billion in net interest income per year. Mizuho Financial Group Inc. forecasts to generate an additional ￥120 billion, mainly from its domestic lending portfolio, which accounts for 60% or more of its total loans.
Bonds drag
However, the rate hike may hurt regional banks holding government bonds with long-term maturity as they may experience wider latent losses on their portfolios, SBI's Sameshima said.
The 10-year yields of Japanese government bonds climbed above 2% on Dec. 19, the first time in more than 19 years. Yields move inversely to prices.
Japanese regional banks have in the past relied on their holdings of long-term bonds for as an additional income source in a low interest-rate environment. Major banks were better insulated as they have more diversified income sources, including from overseas operations.
