Bank of Japan to hold rates, signal further hikes

TOKYO, Oct 30 : The Bank of Japan is set to keep interest rates steady on Friday but stress its focus on preventing underlying inflation from overshooting its 2 per cent target, suggesting scope to hike borrowing costs as soon as December.

Such guidance would reinforce the central bank's message last month that it has entered a new, more hawkish policy phase and is open to raising rates once every few months, analysts said.

The pivot would also align the BOJ with its US and European counterparts eyeing near-term rate hikes to battle inflationary risks from the AI boom and the Iran war-induced energy shock.

"Global price pressures from AI investment are quite strong, which means the recent inflation is partly demand driven," said Kazuo Momma, a former BOJ executive who is currently executive economist at Mizuho Research Institute.

"By declaring that its policy phase has changed, the BOJ is essentially telling markets it will hike rates once a quarter," he said, predicting rate hikes in December and March next year.

At the two-day meeting ending on Friday, the BOJ is set to maintain its policy rate at 1.25 per cent, forgoing a back-to-back hike to spend more time scrutinising the effect of past rate hikes on lending conditions.

In a quarterly report, the BOJ is likely to slightly revise up next fiscal year's price forecast and signal that underlying inflation has roughly achieved its 2 per cent target, people familiar with the matter have told Reuters.

With wage gains becoming embedded and inflation expectations hovering around 2 per cent, the central bank will likely stress that it will now focus on anchoring inflation around its target by raising rates toward levels deemed neutral to the economy.

Markets will scrutinise comments from Governor Kazuo Ueda's post-meeting news conference for hints on the pace and timing of further rate hikes.

"If the BOJ were to say underlying inflation reached levels consistent with its 2 per cent price target, that would have important policy implications," said former BOJ official Nobuyasu Atago, who is currently chief economist at Rakuten Securities Economic Research Institute.

"It would be a show of resolve the BOJ won't tolerate any further overshoot in inflation," and signal the chance of more nimble rate hikes next year, he said.

With stubbornly high energy costs and rising import prices from a weak yen adding to inflationary pressures, the BOJ raised rates in September after delivering a hike in June - a shorter interval than the roughly twice-a-year hikes in 2024 and 2025.

Most analysts polled by Reuters expect the BOJ to raise its policy rate to 1.5 per cent in December, followed by further hikes next year. Their terminal rate projection centres around 1.75 per cent to 2 per cent.

Annual core inflation in Tokyo, seen as a leading indicator of nationwide price trends, well exceeded the central bank's 2 per cent target in October, data showed on Friday, highlighting mounting price pressure.

Rising prices could weigh on consumption as they prod Japanese households, many of whom have never experienced widespread price gains in their lifetime, to seek discounts.

In current quarterly projections made in July, the BOJ expects consumer inflation to accelerate in coming months as firms continue to pass on rising costs.