A sharp sell-off in European government bond markets on Friday prompted traders to favor German debt, which is considered a safe haven, over the debt of more risky countries such as France, ahead of the release of inflation data in the euro zone, although the level of volatility was much lower than what the markets witnessed the previous day.
Yields varied sharply on Thursday, especially on short-term bonds; Two-year German bond yields fell by about 14 basis points, their largest daily decline since April, while two-year Dutch bond yields fell by about 13 basis points, while French and Italian two-year bond yields rose, according to Reuters.
German and Dutch government bonds are usually considered safe havens, while bonds of other countries, such as France and Italy, are viewed as riskier, given the size of their debt burdens compared to the size of their economies. Government bonds around the world have been under pressure recently amid concerns about debt levels and financial conditions, rising energy prices, and concerns related to inflation.
This discrepancy continued on Friday, but at a less severe pace. German two-year bond yields fell by 5.4 basis points to 3.0005 percent, while French two-year bond yields fell less than one basis point to 3.6848 percent, while Italian two-year bond yields settled at 3.6178 percent.
In general, short-term government bond yields are more sensitive to interest rate expectations. On Thursday and Friday, financial markets reduced their pricing of the possibilities of an additional increase in interest rates by the European Central Bank, and no longer fully expect, according to the latest data, the bank to make another increase in interest rates.
Eurozone inflation data is due later today, which investors will be watching closely for clues on the future path of ECB interest rates. Inflation is expected to have rebounded across the region in September, driven by higher energy prices, but traders will also assess whether the data reveals any signs of “second-round” inflationary effects, i.e. spillover of higher prices to wages and other prices.
Yields on 10-year government bonds were mixed again on Friday; German 10-year bond yields fell by 5.4 basis points to 3.4651 percent, while comparable French bond yields settled at 4.9299 percent. The difference between the two returns reached about 146 basis points, which is the widest margin since 2012.
French bonds are facing particularly severe pressure, as high debt levels and emerging political risks, ahead of the presidential elections scheduled for 2027, have contributed to exacerbating the factors pressuring government bonds in general, including expectations of raising key interest rates.
On Thursday, France presented its draft budget for 2027, seeking to implement unpopular austerity measures with the aim of reducing the fiscal deficit.
Meanwhile, the Italian 10-year government bond yield fell by 1.5 basis points to 4.6989 percent, bringing the spread between German and Italian 10-year bond yields to about 120 basis points.
The Japanese government announced the end of the phase in which the economy needed an excessively easy monetary policy to push inflation to rise, in a remarkable shift from the economic legacy known as “Abenomics,” coinciding with the acceleration of core inflation in Tokyo during September at the fastest pace in ten months, which strengthens the justifications for the Bank of Japan to continue raising interest rates.
Economy Minister Minoru Kiyuchi said on Friday that Japan “has emerged from the era in which it needed the type of inflation-boosting policies that were followed within the framework of (Abenomics),” referring to the large-scale fiscal and monetary stimulus program launched by the late Prime Minister Shinzo Abe in 2013.
Kiyoshi explained that Japan is no longer in a deflationary phase, and therefore “does not need an excessively easy policy that seeks to achieve inflation,” stressing at the same time that decisions related to monetary policy fall within the jurisdiction of the Bank of Japan. He declined to say whether the government opposes the bank implementing additional interest increases.
His statements add to a series of government messages aimed at denying that Prime Minister Sanae Takaichi's administration is adopting "recovery" policies that rely on fiscal and monetary expansion to stimulate demand.
Finance Minister Satsuki Katayama said this week that she had made it clear to US Treasury Secretary Scott Besent that Takaichi is not a supporter of this approach, at a time when the government is trying to allay market fears that spending plans will weaken the yen and increase bond yields.
Kiyoshi's statements gain additional importance because he was previously seen as a supporter of recovery policies, due to his reservations about raising interest rates and his association with a group of lawmakers calling for increased spending.
Inflation exceeds expectations
The announcement of the end of the need for excessive easing came in conjunction with data showing inflation in Tokyo returning strongly above the Bank of Japan's target.
The capital's core CPI, which excludes fresh food but includes energy, rose 2.7 percent in September, compared to the previous year, compared to 1.8 percent in August, exceeding market expectations of 2.4 percent.
This was the fastest pace since the index rose 2.8 percent last November, and core inflation exceeded the Bank of Japan's 2 percent target for the first time since January.
The Tokyo data receives special attention because it is an early indicator of the inflation trend at the national level, and will be among the data that the Bank of Japan studies before issuing its new quarterly forecasts for the economy and prices at its meeting on October 29 and 30.
The strongest signal in the data was coming from an index that excludes fresh food and energy together, which is a measure that the Bank of Japan monitors to determine the direction of inflation away from temporary fluctuations. This index jumped 3 percent year-on-year in September, from 2 percent in August, recording the fastest rise since August 2025.
Although part of the jump came as a result of the gradual end of subsidies on water bills, the rise in prices included a wide range of goods and services, from food and transportation to hotel costs.
Price pressures extend to services
Among the most notable developments, service sector inflation accelerated to 2.3 percent from 1.4 percent in August, indicating that companies are becoming more able to pass on higher wage costs resulting from a tight labor market to consumers.
This type of inflation is more important to the Bank of Japan than rises resulting solely from energy or imports, because it may indicate the establishment of a sustainable cycle between wages and prices within the economy.
Masato Koike, chief economist at Sompo Institute Plus, said that the general trend of core inflation will continue to accelerate as a result of rising energy costs related to the conflict in the Middle East and its subsequent effects on prices, expecting the Bank of Japan to raise interest rates again in December.
The bank raised the interest rate last month to 1.25 percent, the highest level in 31 years, while Governor Kazuo Ueda indicated that monetary policy has entered a new phase that focuses more on preventing inflation from exceeding the target.
The summary of the September meeting showed that a number of policy makers saw the need to continue tightening, and some of them even called for accelerating interest hikes if there were signs of inflation skewing upward.
A shift away from the legacy of “Abenomics”
Kiyoshi's statements represent an important shift in Japanese economic discourse. For years, the main challenge for the authorities has been to eliminate deflation and convince businesses and households that prices and wages can rise again. Now, the debate is about how quickly to withdraw stimulus to prevent inflation from exceeding desired levels.
This does not mean that the October rate hike is a foregone conclusion. The recent Tankan survey showed that the confidence of major manufacturers rose to the highest level in eight years, compared to a decline in the confidence of non-industrial companies, while consumption still represents a weak point in the economy.
The government also called on the Bank of Japan to study the cumulative effects of previous rate hikes, reflecting continued concern that rapid tightening will put pressure on households and businesses.
But the general picture has become clearly different from previous years: inflation exceeded the bank’s target again, price pressures spread to the services sector, and monetary policy makers are discussing additional increases, while the government itself declares that the economy no longer needs excessive easing.
Thus, Japan is entering a new phase in managing its economy, in which the focus shifts from how to create inflation to how to contain it without weakening growth. The timing of the next interest rate increase will be the most prominent test of the Bank of Japan's ability to manage this historic transformation.
Japanese stocks fell, on Friday, from their highest levels in more than six weeks, with investors turning to take profits after the strong jump in the previous session, while long-term government bond yields rose close to historical levels, after the acceleration of inflation in Tokyo reinforced expectations that the Bank of Japan would continue to tighten its monetary policy.
The Nikkei 225 index fell by 0.94 percent to close at 68,309.46 points, after it had jumped 3.3 percent on Thursday to the highest close since mid-August. The decline reduced the index's weekly gains to 2.9 percent, while the broader Topix index fell by about 1 percent to 4,091 points.
The sales came despite the rise in US stocks during the previous session and the decline in Treasury bond yields from high levels not seen in decades. Investor sentiment remained cautious with focus on the path of US interest rates and inflation, along with geopolitical risks and turmoil in energy markets.
In Japan, data on Friday showed that core inflation in Tokyo accelerated during September at the fastest pace in ten months, which strengthened the justification for further interest rate increases from the Bank of Japan.
Tensions in the Middle East and turmoil in global energy markets also affected risk appetite, especially after China suspended exports of petroleum products to markets outside Hong Kong and Macau, amid fears of shrinking global supplies.
Yuta Okamoto, an analyst at Tokai Tokyo Intelligence Laboratory, said that fears of the market rising excessively in the short term after Thursday's strong gains are likely to push investors to take profits.
However, Okamoto saw that the outlook for Japanese stocks remains positive, supported by the results of the Bank of Japan's quarterly Tankan survey, which showed that the confidence of major manufacturers rose for the sixth consecutive quarter. He added that expectations of a rise in Japanese stocks based on corporate earnings prospects are still high.
The decline was widespread, as 173 Nikkei component stocks fell, compared to only 51 stocks that rose.
SoftBank Group topped the losses, falling 5.83 percent, after it was one of the most prominent winners in the previous session thanks to the boom in artificial intelligence stocks. Nissan Motor shares fell 4.97 percent, recording the lowest close since February 2009, while Terumo fell 4.59 percent.
On the other hand, “Resunak Holdings” shares jumped 8.71 percent, “Furukawa Electric” rose 7.68 percent, while “BayKarnet” rose 6.15 percent.
In the debt market, the yield on 10-year Japanese government bonds returned to the rise after falling at the beginning of the session, rising 0.5 basis points to 3.10 percent, approaching the 30-year peak of 3.115 percent recorded last week.
Global bond markets continue their volatile movements, after US Treasury bond yields jumped this week to their highest levels in decades, amid fears of inflation related to the conflict in the Middle East and expectations of continued tightening of monetary policies.
Japanese inflation data increased pressure on bonds, as investors continued to evaluate the shift adopted by the Bank of Japan towards dealing more proactively with price risks, after it raised the interest rate last month to 1.25 percent, the highest level in 31 years.
However, market pricing currently indicates that the next rate hike is likely in December rather than October, following mixed Tankan data and government signals calling for caution about the impact of higher borrowing costs.
Takayuki Miyajima, chief economist at Sony Financial Group, said that the continued upside risks to inflation as a result of rising oil and food prices mean that expectations of the Bank of Japan accelerating the pace of raising interest rates “have not completely disappeared.”
The pressures were more evident at longer terms, as the 20-year bond yield rose 1.5 basis points to 3.955 percent, close to the highest level during trading in three decades recorded on Thursday.
The 30-year bond yield rose 4 basis points to 4.21 percent, on its way to the highest close ever, while the 40-year bond yield jumped 5.5 basis points to 4.275 percent, on its way to the highest close since May.
In contrast, short-term yields fell, causing the yield curve to steepen. The two-year yield, which is most sensitive to the Bank of Japan's movements, fell 1.5 basis points to 1.92 percent, and the five-year yield fell by the same amount to 2.365 percent.
Friday's movements reflect a state of disparity in Japanese markets, as stocks are still benefiting from strong expectations for corporate profits and an investment boom in artificial intelligence, but high inflation, rising bond yields, and geopolitical risks increase caution. In the debt market, it seems that the question is no longer about the possibility of the Bank of Japan raising interest rates again, as much as it is about the timing of the next step and the speed of tightening in the coming months.
