However, the same survey indicated that companies anticipate business conditions to deteriorate over the next three months, citing concerns over the impact of elevated U.S. tariffs and sluggish domestic consumption. This outlook highlights uncertainty regarding how aggressively the Bank of Japan (BOJ) might pursue future interest rate hikes.
The headline index measuring large manufacturers' confidence rose to +15 in December, according to the BOJ's quarterly Tankan survey. This marks a modest increase from +14 in September and aligns with median market forecasts.
This reading represents the third consecutive quarter of improvement and the highest level since December 2021, suggesting firms are managing the initial impact of higher U.S. tariffs.
The sentiment index for major non-manufacturers held steady at +34 in December, unchanged from the previous quarter and broadly in line with market expectations of +35.
"All in all, the Tankan backs up dominant market views the BOJ will raise rates in December. Unless a huge shock hits the economy or markets, it is likely to proceed with a hike," commented Masato Koike, senior economist at Sompo Institute Plus.
Large companies plan to increase capital expenditure by 12.6% in the current fiscal year ending March 2026, the survey showed. This exceeds the median market forecast of a 12% rise.
Sources familiar with the matter have told Reuters the BOJ is likely to raise its short-term policy rate to 0.75% from 0.5% at its two-day meeting concluding on December 19. This decision follows receding fears that President Donald Trump's tariffs would severely damage Japan's export-reliant economy.
The Tankan survey indicated that large firms raised sales prices in the fourth quarter and expect to continue doing so in the coming three months. This signals robust demand is allowing them to pass increased costs onto consumers.
Underscoring the uncertain outlook, however, the survey showed companies projecting business conditions to worsen in the first quarter of the new year.
While fading uncertainty over U.S. trade policy brightened the business mood, many firms remain worried that labor shortages and the negative impact of higher prices on consumption cloud the horizon, a BOJ official stated during a briefing.
A separate index measuring employment conditions revealed firms view the job market as its tightest since 1991, during Japan's asset-inflated bubble era. This suggests severe labor shortages could constrain growth in an economy facing a declining working-age population.
Analysts, however, interpret the tightening labor market as a catalyst for sustained wage growth—a key prerequisite the central bank has established for continuing its rate-hike cycle.
"With firms reporting acute labour shortages, the Board can rest assured that the virtuous cycle between higher wages and higher prices will remain intact," said Abhijit Surya, senior APAC economist at Capital Economics, who predicts the BOJ will push its policy rate to 1.75% by 2027.
Highlighting the BOJ's intense focus on wages, the central bank on Monday released results from a separate, rare poll conducted by its regional branches regarding next year's pay outlook.
This poll indicated that most of the BOJ's branches expect companies in their regions to offer wage increases in 2026 matching the scale of those seen in 2025.
Japan's economy contracted in the third quarter as exports faltered under U.S. tariffs. Nevertheless, analysts anticipate a rebound in the current quarter, with signs of recovery emerging in exports and factory output.
With inflation persistently exceeding the BOJ's 2% target for over three years, a growing number of board members have signaled readiness to vote for a rate hike to avoid falling behind the curve in addressing the risk of excessive inflation.
Finally, the Tankan survey showed companies expect inflation to reach 2.4% one, three, and five years ahead. This suggests corporate inflation expectations are becoming firmly anchored around the central bank's 2% target.
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Source: REUTERS