Bank of Japan set to hike rates to 31-year high, signal further increases

The Bank of Japan is poised to implement a significant interest rate hike next week, pushing its policy rate to 1%, a level not seen in 31 years. This decision signals a decisive shift towards tighter monetary policy, aligning Japan with global trends as central banks worldwide prioritize combating inflation. The move comes as the European Central Bank also delivered a much-anticipated rate increase.

Governor Kazuo Ueda will be absent from the crucial two-day meeting concluding on June 16, as he is currently hospitalized for treatment of an infected liver cyst. Despite his absence, the remaining eight board members, many of whom have voiced concerns about rising price pressures, are widely expected to approve the rate increase from the current 0.75%. This would mark the first rate hike since December and signifies a departure from the bank's previous cautious approach, moving away from the remnants of radical stimulus policies.

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Ueda's absence won't affect the BOJ's institutional decision to focus on mounting inflation risks rather than risks to growth from the Middle East conflict.

With the rate hike largely priced into the market, attention is now shifting to the Bank of Japan's forward guidance regarding future increases. Economists surveyed by Reuters project further hikes, anticipating the policy rate to reach 1.25% by the fourth quarter. A key focus for investors will be the language used by Deputy Governor Shinichi Uchida, who will conduct the post-meeting briefing in Ueda's stead. They will be scrutinizing Uchida's remarks for clues on whether persistent inflation signs could prompt a faster pace of rate hikes.

The central bank is expected to emphasize its commitment to further rate increases, driven by factors such as the energy shock, rising import costs due to a weak yen, and a tight labor market. However, sources indicate that the BOJ may not see an immediate need for aggressive or consecutive hikes, citing uncertainties surrounding the economic impact of the ongoing Middle East conflict. The dilemma for the BOJ lies in balancing the need to control inflation without triggering an unwelcome depreciation of the yen, which could exacerbate price pressures.

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While Uchida is seen as among the more dovish members of the board, he'll probably try to sound fairly hawkish to avoid triggering unwelcome yen falls.