• Japan's economy expanded faster than expected in Q3, with an annualized GDP growth of 1.2%.
• The Bank of Japan (BOJ) raised short-term interest rates earlier this year to manage rising inflation.
• Governor Kazuo Ueda is ready to implement more hikes if inflation trends persist, supported by strong wage growth.
• The future of Japan's economy depends on a balance of internal growth and external pressures, with the BOJ's decisions being closely watched.

Japan's economy has recently shown signs of resilience, expanding at a faster pace than initially anticipated in the third quarter of the year. The revised data highlighted an annualized GDP growth of 1.2%, surpassing initial estimates of 0.9%. This upward revision has kept alive market expectations for potential interest rate adjustments by the Bank of Japan (BOJ) during their upcoming meeting scheduled for December 18-19.

The economic optimism is underpinned by increased capital investment and exports, with many economists believing this data might just give the central bank the green light to proceed with tightening monetary policy. It does support the case for a December rate hike, though the weakness in consumption is a concern, remarked Takeshi Minami, chief economist at Norinchukin Research Institute.

The BOJ raised short-term interest rates to 0.25% earlier this year, marking the first time it raised rates since the pandemic began, reflecting Japan's shifting economic scene. This move was aimed at addressing rising inflation, which the BOJ is determined to manage sustainably.

Japan's Economic Outlook Amid Global Uncertainties

Governor Kazuo Ueda has shown readiness to implement more hikes if inflation trends persist, particularly if supported by strong wage growth. Many believe the pace of consumption will rebound next quarter due to promising wage increases. However, the upward revision still leaves third-quarter GDP growth much slower than an annualized 2.2% expansion in the April-June period.

This was largely in reaction to a contraction in the first quarter caused by output disruptions in some auto plants. The BOJ phased out a decade-long, radical stimulus in March and raised short-term interest rates to 0.25% in July on the view Japan was progressing towards sustainably achieving its 2% inflation target.

The revised numbers translate into a quarter-on-quarter expansion of 0.3% in price-adjusted terms, compared with a 0.2% growth in preliminary data released on Nov. 15. The upgrade was caused in part by a smaller-than-expected decline in capital expenditure, which fell 0.1% in the third quarter compared with a preliminary reading of a 0.2% drop.

Market Expectations and Future Projections

External demand, or exports minus imports, knocked 0.2 percentage point off growth, less than a 0.4 point drop in the preliminary reading, the revised GDP data showed. Private consumption, which accounts for more than half of the Japanese economy, rose 0.7%, less than the preliminary reading of 0.9% growth.

While the data isn't something that gives a huge boost to rate hike expectations, it won't be a hindrance to raising rates either, said Uichiro Nozaki, an economist at Nomura Securities. Nozaki at Nomura Securities expects consumption to have slowed in the current quarter, but to rebound in the January-March quarter on prospects of firm wage growth.

However, others are less optimistic about Japan's economy with overseas uncertainties, such as threats of higher tariffs by U.S. President-elect Donald Trump, clouding the outlook. While improvements in real wages will underpin consumption, the recovery in external demand will be muted as overseas growth stagnates, said Masato Koike, senior economist at Sompo Institute Plus.