BoJ set to keep rates on hold as markets look for clues on further hike

• The Bank of Japan is expected to keep its policy rate unchanged.
• Investors’ focus should remain on the path of the bank rate for the next few months.
• BoJ Governor Kazuo Ueda is seen sticking to the recent narrative.

The Bank of Japan (BoJ) is expected to keep its short-term interest rate target between 0.15% and 0.25% on Friday after concluding its two-day monetary policy review.

The decision is to be announced at the start of the Asian session. Notably, in March the BoJ raised interest rates for the first time in 17 years, ending the negative interest rate policy that had been in place since 2016. On July 31, the central bank further surprised markets by raising the policy interest rate by 15. points to 0.25%.

What can we expect from the BoJ interest rate decision?

As the meeting approaches, most expect a steady policy stance, but market participants will be watching closely for any changes in the policy statement that could provide clues as to when the bank plans to raise interest rates next.

Money markets currently anticipate a rise of around 25 basis points by the end of the year, which would bring the bank’s policy rate to a maximum of 0.50% at the December 19 meeting.

On the consumer front, real wage growth turned positive in June (1.1% YoY) and July (0.4% YoY), which could encourage more spending and lead to higher inflation. For now, inflation remains above the 2% target.

These factors make it difficult for the central bank to decide when to raise interest rates. If rising prices driven by cost pressures start to weigh on consumer spending, it could prevent the demand-driven inflation the Bank of Japan is targeting before it can consider tapering off stimulus.

Sanae Takaichi, a potential successor to Japanese Prime Minister Fumio Kishida, suggested the BoJ should avoid raising interest rates further as it could dampen consumer sentiment and hamper capital spending.

At the BoJ, policymaker Naoki Tamura believed the central bank must raise interest rates to at least 1 percent by the second half of the next fiscal year, underscoring the bank’s commitment to tightening steady monetary tightening. In addition, board member Junko Nakagawa said the BoJ would continue to raise interest rates if inflation aligns with its forecasts, but stressed the need to consider the effects of market movements on the broader economic outlook and prices before deciding to raise rates. In addition, his colleague Hajime Takata warned that interest rate hikes should be cautious to avoid significant damage to businesses.

Meanwhile, it’s worth remembering that BoJ Governor Kazuo Ueda spoke before the Japanese Parliament at the end of August. In his testimony, he reiterated his commitment to raise interest rates if inflation continues to move towards the 2% target, indicating that recent market volatility will not disrupt the BoJ’s long-term rate hike plan. However, Ueda warned that markets remain volatile, which could influence the central bank’s inflation forecasts.

Ueda’s comments suggested the central bank may take longer than initially expected to decide on the next interest rate hike, but remained on track to gradually raise borrowing costs from current ultra-low levels .

According to a Reuters poll published last week, economists unanimously agreed the BoJ would not raise interest rates at its September policy meeting, although most expect a hike at some point by the end of the year.

As we approach the interest rate decision, analysts at Standard Chartered Global Research noted: “We now expect the Bank of Japan (BoJ) to raise the base rate by 25 bps in December (from 15 bps in Q2 and 10 bps in Q3). -2025 forward) to 0.50% by the end of 2024 (0.25% previously) on stronger than expected inflation that has remained above the 2% target for the past 21 months. Wages rose in real terms in June for the first time since March 2022, adding to concerns about demand-side inflation. The BoJ may rise earlier to avoid losing the opportunity to normalize policy before dovish pressures emerge due to possible Fed rate cuts of 75bp by the end of 2024, the risk of a global recession and China’s slowdown.”

How could the Bank of Japan decision affect the USD/JPY interest rate?

The BoJ is largely expected to refrain from action on the policy rate. However, Governor Ueda is seen sticking to his dovish narrative, leaving the door open for continued “normalization” of monetary policy over the next few months.

A look at the bigger picture shows that the Fed-BoJ policy divergence remains at center stage. Following the recent 50 basis point interest rate cut by the Federal Reserve (Fed) in September and the prospect of a further 50 basis point cut later in the year, a further decline in USD/JPY appears to be the most favorable scenario for now.

Analyzing the technology around USD/JPY, FXStreet senior analyst Pablo Piovano suggests that “the resumption of bid bias in the Japanese yen has the potential to drag the pair to its 2024 low of 139.57 (September 16). A deeper pullback could see the spot return to the July 2023 low of 137.23 (July 14) before the March 2023 low of 129.63 (March 24)”.

Additionally, “there are initial barriers at the September high of 147.20 (September 3) and the weekly high of 149.39 (August 15),” adds Pablo.