A potential peace framework between the United States and Iran is not expected to disrupt the Bank of Japan's planned monetary tightening cycle, according to Seisaku Kameda, a former top economist at the central bank. Despite a recent agreement to halt hostilities and reopen the Strait of Hormuz, which has lowered oil prices, Kameda maintains that the BOJ will proceed with its scheduled interest rate hikes to combat inflation and normalize policy.
The BOJ is anticipated to raise its short-term policy rate from 0.75% to 1% on Tuesday, marking a significant step in its long-awaited policy shift. This move, initially projected for April before the Middle East war, underscores the central bank's commitment to addressing domestic price pressures. With real borrowing costs still low, the BOJ aims to incrementally increase rates, targeting approximately two hikes per year.
"But it won't change the BOJ's plan to push up still low real borrowing costs and normalise monetary policy by raising its policy rate at a pace of about twice a year," said Kameda, who remains in close contact with incumbent policymakers. After the June meeting, the BOJ holds policy meetings in July then in September. A Reuters poll showed economists projecting the BOJ to raise rates to 1.25% in the fourth quarter after a hike in June to 1%.
After a June rate hike, the BOJ is likely to raise rates again in October or December, he added. Deputy Governor Shinichi Uchida will hold a press briefing on June 16 after the two-day meeting, which Governor Kazuo Ueda will miss as he is being treated in hospital for an infected liver cyst. Uchida is likely to reiterate the BOJ's resolve to continue raising interest rates, but avoid giving explicit hints on the next rate-hike timing given lingering uncertainty over the Middle East, Kameda said.
Uchida is good at communicating with constructive ambiguity. With so much uncertainty over the outlook, he will signal the BOJ's readiness to respond nimbly, he added. Kameda, who was involved in drafting the BOJ's forecasts from 2020 to 2022, is now executive economist at Japan's Sompo Institute Plus.
The BOJ is set to raise interest rates to a 31-year high on Tuesday, marking another landmark step in normalising monetary policy as it focuses on spillover price pressures from the Iran war-induced energy shock. A Reuters poll showed economists projecting the BOJ to raise rates to 1.25% in the fourth quarter after a hike in June to 1%. Deputy Governor Shinichi Uchida will hold a press briefing on June 16 after the two-day meeting, which Governor Kazuo Ueda will miss as he is being treated in hospital for an infected liver cyst.
If a peace agreement leads to a smooth re-opening of the strait, it may take some pressure off the BOJ to escalate its efforts to tame inflation through faster-than-expected rate hikes, he said. However, the broader trajectory remains intact as the central bank navigates a complex macroeconomic landscape characterized by persistent inflation and geopolitical volatility.
The implications of these rate adjustments extend beyond domestic monetary policy, influencing global capital flows and investor sentiment. As the BOJ moves toward normalization, markets will closely monitor subsequent policy meetings for signals regarding the pace and magnitude of future rate increases. The interplay between inflation dynamics, energy prices, and geopolitical developments will continue to shape the central bank's decision-making process in the coming months.
Key Economic and Market Impacts
- Monetary Policy Normalization: The BOJ's anticipated rate hikes represent a critical phase in ending decades of ultra-loose monetary policy, aiming to stabilize the yen and curb imported inflation.
- Global Capital Allocation: As real yields in Japan rise, foreign investors may reassess their exposure to Japanese assets, potentially impacting bond markets and currency valuations.
- Corporate Financing Costs: Incremental rate increases will raise borrowing costs for Japanese corporations, affecting investment decisions and profitability, particularly in interest-sensitive sectors like real estate and manufacturing.
Risks and Uncertainties
- Geopolitical Volatility: Lingering uncertainty over the Middle East could delay or alter the pace of rate hikes, as the BOJ monitors potential disruptions to global energy supplies and inflation dynamics.
- Inflation Persistence: Spillover price pressures from the Iran war-induced energy shock may necessitate a more aggressive tightening cycle if inflation remains entrenched above target.
- Domestic Economic Weakness: