Japanese government bond prices declined on Monday, driven by heightened fiscal concerns and growing market expectations for further interest rate hikes from the Bank of Japan (BOJ). The yield on the 10-year benchmark note surged 5.5 basis points to 2.93%, marking its highest level since 1996. Simultaneously, the 30-year bond yield climbed to 4.06%, nearing the record high set in May.

Sources indicated last week that the administration led by Prime Minister Shigeru Ishiba supports the BOJ's recent tightening moves, with the next potential rate increase coming as soon as September or October. Adding to the pressure on bonds, the government has yet to clarify how it will fund a two-year food tax relief program, stoking fiscal sustainability worries.

Ryutaro Kimura, senior bond strategist at BNP Paribas Asset Management, noted that as investors return from holidays, improved market liquidity is allowing bonds to once again price in an accelerated pace of BOJ rate hikes. "Unless the Ishiba government abandons its expansionary fiscal policy, any decline in yields will likely be gradual, meaning investors need not fear missing a buying opportunity," he said.

The 10-year yield hitting its highest level in nearly three decades reflects a broader global trend of tightening monetary policy expectations, which threatens bond markets worldwide. Central banks face multiple pressures, including rising oil prices stemming from the Iran conflict, significant increases in government spending, and economic growth fueled by an AI investment boom.

Meanwhile, data released Monday showed Japan's real GDP grew 0.3% quarter-on-quarter in the second quarter, or 1.1% on an annualized basis, significantly below market forecasts. This weak economic performance could complicate the BOJ's policy communication as it weighs the timing of its next rate move. However, the data is unlikely to derail the central bank's tightening trajectory.

Overnight swap pricing indicates that traders see an 80% probability of a rate hike at the BOJ's next policy meeting on September 18. Following the GDP release, the yen strengthened slightly, moving from around 159.21 to 159.04 against the U.S. dollar. Yet, the yen's gains have narrowed since the joint U.S.-Japan intervention in late July, leaving it well below its 10-year average of 126.09.

Naoki Hattori, chief Japan economist at Mizuho Research Institute, commented, "Following the coordinated U.S.-Japan intervention in July, I believe the external environment is also pressuring the BOJ to raise rates. Considering all these factors, I continue to see a September rate hike as the base case scenario."