The core inflation rate, which excludes the volatile prices of fresh food, held steady at 3%—consistent with the average predictions made by economists surveyed by Reuters. This stability in core inflation underscores the challenges faced by Japan’s policymakers in managing economic growth and price levels.

As the Bank of Japan wraps up its two-day policy meeting, it stands on the brink of potentially raising interest rates to levels not seen since 1995. This move is anticipated as a response to the enduring inflationary pressures that the country faces.

Furthermore, the “core-core” inflation rate, which further excludes energy prices in addition to food, showed a slight decrease, falling to 3% from the previous 3.1%. This nuanced metric provides deeper insight into the underlying inflationary trends that continue to shape Japan’s economic landscape.

The so-called “core-core” inflation rate, which excludes food and energy prices, fell to 3% from 3.1%.

Rice inflation slowed for a sixth straight month, coming in at 37.1%. In May, rice prices had more than doubled year on year, marking the commodity’s highest price growth in over 50 years.

“Core-core” inflation will slow and stabilize at 2% by mid-2026 as supply-driven food inflation gradually fades, Shigeto Nagai, head of Japan economics at Oxford Economics, told CNBC.

Nagai though warned that prolonged cost-push inflation due to additional supply shocks or yen depreciation poses a “major risk.”

A rate hike by the BOJ will likely rein in inflation, bringing it closer to the bank’s target. The BOJ, however, has to tread a fine line, as raising rates could crimp an already weak Japanese economy.

Revised GDP numbers for the third quarter showed that Japan’s economy shrank more than initially estimated, contracting 0.6% quarter on quarter, and 2.3% on an annualized basis.

Prime Minister Sanae Takaichi reportedly said to a business lobby on Wednesday that Japan must pursue proactive spending, rather than excessive fiscal tightening in order to boost growth and tax revenues. She has also been a proponent of a looser monetary policy, and has been critical of BOJ’s rate hikes.

Bank of Japan Deputy Governor Masazumi Wakatabe told the same business lobby that the government must raise Japan’s neutral rate of interest by boosting the economy’s potential growth through fiscal spending and a growth strategy. The neutral rate refers to a policy rate that balances economic growth and inflation.

“If Japan’s neutral rate rises as a result, it would be natural for the BOJ to raise interest rates,” Wakatabe said, adding that “The BOJ, however, must avoid raising rates prematurely or withdrawing monetary support too much.”

The BOJ does not have an official neutral rate forecast, with Governor Kazuo Ueda reportedly saying earlier this month that it was difficult to estimate the terminal rate, and the central bank pegging it at 1% to 2.5%.

“The yen could remain under pressure if fiscal concerns and the perception of an overly-dovish BOJ prevail over the impact of the yield gap,” Nagai said. Japanese government bond yields have been hovering at multi-decade highs, narrowing the gap with their global counterparts.

The yen strengthened marginally to trade at 155.53 against the dollar after the data release, while the benchmark Nikkei 225 gained 0.69%. Yield on 10-year JGBs was marginally lower at 1.957%.

— CNBC’s Asriel Chua contributed to this story.