By Megumi Fujikawa
TOKYO--Japan's economy accelerated during the first quarter of 2026, backing the case for another interest-rate increase as the Middle East conflict raises inflation risks.
Real gross domestic product grew 0.5% in the January-March period from the previous quarter, preliminary government data showed Tuesday.
That was faster than the 0.2% expansion recorded over the October-December quarter and economists' forecast for 0.4% growth.
The gains were driven by a recovery in exports as tariff concerns eased, as well as by government spending as Prime Minister Sanae Takaichi's stimulus measures kicked in.
In annualized terms, the economy grew 2.1% during the first quarter.
The solid results will likely boost hopes that a Bank of Japan rate hike is imminent as the prolonged standoff in the Middle East keeps oil prices high, stoking concerns that domestic inflation will speed up too much, too quickly.
Many economists and investors expect the central bank to raise its policy rate to 1.0% from 0.75% at its next meeting in June, despite the risk that price pressures could stymie household spending and squeeze corporate margins, slowing economic activity.
The central bank is in a tough spot. Holding rates steady to shield the economy could fuel further currency weakness and accelerate inflation. On the other hand, hiking more aggressively to control costs and protect the yen carries the risk of choking off economic growth.
BOJ Gov. Kazuo Ueda has said that if prices keep rising, the bank could tighten policy further, so long as the economy stays strong enough to avoid a major downturn.
Tuesday's data showed that the domestic demand recovery remained gradual and fragile at the start of the year. And prolonged geopolitical uncertainty and increased fuel costs could soon start to strain finances and hurt sentiment among households and businesses.
Private spending edged up 0.3% in the first quarter, following a flat reading in the previous three months. Capital expenditure grew 0.3%, much lower than the 1.4% expansion seen the prior quarter.
"Higher energy prices and elevated uncertainty will limit consumption and investment in the near term," said Norihiro Yamaguchi, an economist at Oxford Economics.
Consumers are already starting to cut back on purchases of non-essential items, and rising costs will dampen corporate earnings, weighing on investment, Yamaguchi said.
Without the large-scale fiscal stimulus the administration rolled out, the economy could have slowed in the first quarter due to the Middle East conflict, Credit Agricole economist Takuji Aida said.
The government is likely to be on alert for signs of a slowdown in growth that could derail Japan's progress in escaping a long era of economic stagnation, he added.
Takaichi said Monday that she is considering a supplementary budget and looking to resume energy subsidies.
"We will remain fully committed to sound economic and fiscal management and stand ready to respond flexibly, while continuing to closely monitor how the Middle East situation weighs on the economy and how price trends affect household and corporate activity," Minoru Kiuchi, minister in charge of the economy, said Tuesday.
More stimulus will help soften the blow from the oil price shock, but it is also fueling concerns on the fiscal front.
Japanese government bond yields have risen sharply in recent sessions due to fears about inflation and a worsening of the nation's debt conditions. The yield on 10-year government bond rose to 2.8% on Monday, its highest level since October 1996.
Write to Megumi Fujikawa at megumi.fujikawa@wsj.com
(END) Dow Jones Newswires
05-18-26 2233ET
