Japan Lifts Interest Rates From Zero and Tries to Forget 'lost Decade' of Stagnation

The Bank of Japan raised interest rates from zero yesterday for the first time in six years, in a move that reflected growing confidence in the country's economic recovery.

The nine members of the central bank's board voted unanimously in favour of a modest rise of a quarter of a percentage point. The bank said in a statement: "Today's decision will contribute to ensuring price stability and achieving sustainable growth in the medium and long term."

The rate rise, which takes immediate effect, came after months of speculation over whether Japan had truly beaten deflation and warnings from senior politicians that ending cheap credit too soon could stifle the country's comeback from 10 years of recession.

Japan had kept interest rates at near zero since 2001 in an attempt to end falling prices and the resulting lower corporate earnings and shrinking salaries that characterised Japan's so-called "lost decade".

The bank governor, Toshihiko Fukui, said the decision had been taken with Japan's long-term economic interests in mind. "We are finally entering a period of having interest rates," he said at a press conference. "That is a delightful moment for the future of the Japanese economy ... This is an important step toward normalisation of monetary policy in line with economic conditions that have become normal."

Yesterday's decision brings Japan's monetary policy into line with the US and Europe. Last month the European Central Bank raised its key interest rate to 2.75% and the US Federal Reserve has increased rates 17 times in a row to 5.25%.

The bank's board appears to have been swayed by recent data showing that, after several false dawns, Japan appears at last to have pulled itself out of recession. Last month the bank's Tankan survey of business sentiment showed that large firms were planning to increase investment in plant and equipment this year by more than 11%, the biggest rise since 1990. Japan's economy has expanded for five quarters in a row and growth of up to 3% has been forecast for this year. The consumer price index, meanwhile, rose 0.6% in May, its seventh monthly gain.

The bank was confident the economy would continue to grow and deflation had ended. Now that it has made a clean break with zero rates and quantitative easing - its policy of printing money to buy back government bonds and thus put more cash into the financial system - speculation is mounting over the size and timing of subsequent rate rises. Acknowledging fears that higher borrowing costs could stifle recovery, the bank said: "Very low interest rates will probably be maintained for some time."

Most analysts had predicted the rate rise, which they saw as crucial to normalising Japan's monetary policy. "Zero rates were a necessary emergency policy," said Jesper Koll, chief economist at Merrill Lynch in Tokyo. "But ... normality means money isn't free."

The central bank's independence has been severely tested in recent weeks, with senior government figures, including the finance minister Sadakazu Tanigaki, urging it not to move too soon and stifle the recovery, as it was accused of doing when it raised borrowing rates in August 2000.

Despite his buoyant mood yesterday, question marks still hang over the governor's integrity after he said last month that he had invested ¥10m (£47,000) in an equity fund run by Yoshiaki Murakami, a prominent shareholder activist who is awaiting trial on insider trading charges. Mr Fukui invested the money in 1999 while head of a private think-tank, but held on to it after becoming Bank of Japan governor in 2003. The revelation that his investment had more than doubled to ¥22m angered the public at a time when people were earning virtually no interest on their savings.

Yesterday Mr Fukui, who donated his liquidated investment to charity, said he was determined to see out his term as governor. "I have caused a fuss and made some people worried," he said. "I have reflected upon what I have done. But there are still a lot of duties I need to take responsibility for."

Observers welcomed the interest rate decision. "It's high time that interest rates started moving again," Noriko Hama, professor at Doshisha University in Kyoto, told the Guardian. "It is fair to say that the economy as a whole is out of the deepest pit of recession, but the Bank of Japan shouldn't put too much emphasis on the bright picture of a robust Japan and raise interest rates. The whole point is that monetary policy is normalised."

Bank of Japan

0.25%

European Central Bank

2.75%

US Federal Reserve

5.25%