Editor's note: Cai Guiquan is an associate research fellow at the Institute of Asian Studies, Chinese Academy of International Trade and Economic Cooperation under the Ministry of Commerce of China. The article reflects the author's opinions and not necessarily the views of CGTN. It has been translated from Chinese and edited for brevity and clarity.

Recently, Japan's monetary and fiscal policies have been moving onto sharply divergent paths. Governor of the Bank of Japan Kazuo Ueda has repeatedly signaled the possibility of interest-rate hikes, driving a sustained tightening of financial policies. By contrast, in the preliminary requests for the FY2026 budget, Japan's Ministry of Finance set "government bond expenditures", i.e., funds allocated to service principal and interest on government debt, at 32.38 trillion yen ($207.6 billion), a substantial increase from the 28.22 trillion yen initially budgeted for FY2025, marking an all-time high. This expansionary fiscal trajectory stands in stark opposition to the central bank's tightening stance.

As policy normalization advances, long-term interest rates have continued to climb. On December 17, the yield on newly issued 10-year Japanese government bonds in the Tokyo market briefly reached 1.978 percent, the highest level since June 2007. The clash between monetary tightening and fiscal expansion has not only tumbled the government bond market but, against the backdrop of already elevated government debt and a shaky economic recovery, also pushed Japan into a self-consuming policy impasse.

Behind this policy misalignment lie the dual predicaments confronting the Japanese economy and deep divisions among policymakers over strategic direction. The central bank's inclination toward rate hikes stems from persistently high inflationary pressures. In October, Japan's core CPI rose 3.0 percent year on year, remaining above the 2 percent policy target for 44 months in a row. Price increases for daily necessities such as food and energy have been particularly pronounced, severely eroding household purchasing power. Meanwhile, the yen has depreciated to around 157 per US dollar, approaching the threshold for intervention. Under these circumstances, raising interest rates has become a reluctant but essential measure to stabilize the exchange rate and curb imported inflation.

The Sanae Takaichi administration's pursuit of expansionary fiscal policy, while ostensibly aimed at countering economic downturn, has in fact exposed a serious disregard for fiscal sustainability. According to the second estimate released by Japan's Cabinet Office on December 8, the country's real GDP in the third quarter contracted at an annualized rate of 2.3 percent, with the quarter-on-quarter figure shrinking by 0.6 percent. This decline exceeded the average private-sector forecast and represented a further downward revision from the preliminary estimate of 1.8 percent. As the first instance of negative growth in six quarters, the economic downturn reflects simultaneous weakness in corporate investment and public spending. Business equipment investment was sharply revised down from an initial quarter-on-quarter increase of 1.0 percent to a decrease of 0.2 percent, while public investment also shifted from growth to a decline of 1.1 percent. Although private consumption was marginally revised to a 0.2 percent quarter-on-quarter increase, it remained subdued. The decline in private residential investment narrowed to 8.2 percent, but still stood at a relatively high level.

Confronted with mounting livelihood pressures and growing anxiety over growth, the government has rolled out a 21.3-trillion-yen economic stimulus package, financed through additional bond issuance to support price subsidies and strategic investments. However, this form of "debt-fueled life support" stimulus has plainly ignored Japan's already overstretched fiscal reality — government debt now totals 1,323.72 trillion yen, equivalent to 263 percent of its GDP, the highest ratio among major economies worldwide.

These conflicting policy moves are intensifying market turbulence and reinforcing a vicious cycle. The central bank's push toward policy normalization has directly driven up long-term interest rates, sharply increasing the government's debt-servicing costs. According to the estimates released by Japan's  Ministry of Finance in August, rising long-term rates would raise interest payments by 2.52 trillion yen. However, newly issued government bonds have already begun to encounter weak auction demand amid waning market confidence. Investor concerns over fiscal sustainability have further amplified market volatility, trapping the country in a deadlock in which "inflating interest rates increase debt-servicing costs, while weak demand for bond issuance exacerbates market panic". Such market anxiety is hardly exaggerated, given that Japan's fiscal condition has previously been described by former Finance Minister Katsunobu Kato as being at its worst level ever.

More troubling still, internal policy frictions are eroding the endogenous momentum for economic recovery. The Takaichi administration has allocated 7.2 trillion yen in stimulus funds to strategic sectors such as semiconductors and artificial intelligence, in an effort to spur growth through government-led investment. However, this model departs from market-based principles of resource allocation and risks crowding out livelihood spending. Meanwhile, expectations of interest-rate hikes have dampened corporate investment appetite, underscoring enterprises' lack of confidence in the economic outlook. Ordinary people are caught in a plight of stagnant incomes and surging prices, with shrinking consumption capacity that is insufficient to sustain economic recovery.

At its core, Japan's economic predicament represents the concentrated outbreak of long-standing structural contradictions. For more than three decades since the collapse of the bubble economy, Japan has relied on fiscal expansion and monetary easing to sustain growth, resulting in an entrenched debt burden while failing to resolve fundamental challenges such as population aging, a declining birthrate, and weakening productivity. The current policy clash exposes the rigidity of Japan's economic governance framework, forcing it to rely on fiscal stimulus while grappling with the consequences of prolonged monetary easing. More alarmingly, the Takaichi administration has entangled economic policymaking with political agendas. Erroneous statements concerning Taiwan have triggered diplomatic frictions, undermining China-Japan economic and trade cooperation and further amplifying the risk of economic downturn.

Japan's path out of its predicament has always lain in the deep waters of structural reform. However, the present short-sighted practice of binding economic policy to political issues such as Taiwan has only worsened its difficulties. On the one hand, the Takaichi administration has generated frictions with China, weakening the foundations of bilateral economic and trade cooperation. On the other hand, it has sought to paper over growth shortfalls through ever-expanding debt. This combination of policy incoherence and diplomatic adventurism will only make Japan's entrenched problems of high debt and weak growth increasingly intractable. If Japan continues to cling to the contradictory logic of "emergency rate hikes paired with debt-financed stimulus" while refusing to confront its deep-rooted structural ailments, the country's economy will inevitably sink further into a self-reinforcing downward spiral.