Economic and social pressures are driving Japan to reform its mental health services. Traditionally, psychiatric services in Japan have been custodial. Reimbursement has been principally fee-for-service, with incentives that encourage hospital-based care. Reform measures are beginning to promote the concept of "normalization," in which the mentally ill are seen to be disabled, like persons with physical disabilities. New practices including deinstitutionalization, differentiation of services, revisions in payment, and quality assessment are being introduced. This article provides an overview of the current status of Japanese mental health services, summarizes policy dilemmas, and identifies priority areas for intervention.