Yen resumes decline, analysts expect Bank of Japan to "pause rate hikes" next week

According to Zhitong Finance, the Bank of Japan will announce its latest interest rate decision next week. The market generally expects the Bank of Japan to maintain the short-term interest rate at the level of 0.25%. However, due to diminishing concerns about the US economic recession and the need to prevent speculators from excessively pushing down the yen, this may indicate that the central bank's policy outlook is not so dovish.

Since ending its aggressive easing policy that lasted for 10 years in March this year, the Bank of Japan has hinted at its intention to continue raising interest rates from extremely low levels. However, after the rate hike in July was blamed for triggering a market crash, the Bank of Japan was forced to soften its stance and promised a slow pace of rate hikes, or even a pause in rate hikes.

Analysts suggest that although the Bank of Japan does not seem eager to raise interest rates, leaning towards a less dovish stance would highlight its desire to leave room for maneuver in the timing of the next steps. This may also help prevent further depreciation of the yen, as the yen's devaluation has pushed up the costs of fuel and food imports, thereby affecting already weak consumption.

The yen has recently resumed its decline. Ryutaro Kono, Chief Japan Economist at BNP Paribas in Paris, said, "As the yen falls again, the Bank of Japan may try to avoid sending out overly mild signals."

In a quarterly report to be released after this meeting, the Bank of Japan is expected to maintain its expectation that the inflation rate will remain around 2% by early 2027. Recent domestic data in Japan mostly support the Bank of Japan's view that rising wages and the prospect of sustained wage growth are supporting consumption, prompting more companies to not only raise prices of goods but also service prices.

Three sources familiar with the Bank of Japan's thinking said that labor shortages are exacerbating expectations for continued wage increases by companies next year. One of the sources stated that the Japanese economy is on the path to recovery. Another source indicated that prices may continue to rise as many companies have not fully passed on the increased costs. The Bank of Japan may reflect these developments in wages and prices in the report, highlighting signals that the prerequisites for further rate hikes are forming.

However, the market will pay more attention to the Bank of Japan's view on risks, as Bank of Japan Governor Haruhiko Kuroda emphasized that market instability and concerns about the US economic recession are the main reasons for the Bank of Japan to slow down the pace of rate hikes.

After meeting with finance ministers from major economies in Washington this week, Kuroda expressed a cautiously optimistic view of the global economic outlook. He stated on Thursday, "Optimism about the US economic outlook seems to be expanding," but whether this optimism will continue needs further observation.

The Bank of Japan may also guide expectations by modifying the section on future policy guidance in the report. In the latest report released in July, the Bank of Japan stated that it would continue to raise interest rates if economic and price conditions met its forecasts Sources say the board may discuss whether to add additional wording on risk or policy shift trigger factors in the guidance.

The Bank of Japan ended negative interest rates in March and raised short-term rates to 0.25% in July, citing progress in sustainable achievement of the 2% inflation target in Japan. Governor Haruhiko Kuroda has repeatedly stated that if the economic outlook meets expectations, the Bank of Japan will continue to raise interest rates. However, he also mentioned that due to mild inflation, there is no rush to take action.

Most analysts expect that the Bank of Japan will not raise interest rates again this year, but most anticipate a rate hike before March next year. The International Monetary Fund (IMF) welcomed the Bank of Japan's rate hike in July and called for a gradual increase in interest rates.

However, political uncertainties and the yen's renewed decline have complicated the Bank of Japan's communication. While the Japanese government hopes to proceed cautiously to avoid market disruptions, an overly dovish tone may provide speculators with an excuse to sell the yen - a dilemma acknowledged by Governor Kuroda in Washington.

Speaking to a group at the IMF on Wednesday, Governor Kuroda said, "When there is great uncertainty, you usually want to proceed cautiously and gradually. But the issue here is that if you move forward at a very, very slow pace and create expectations that interest rates will remain low for a long time, this could lead to a large accumulation of speculative positions, which could become a problem. We need to find the right balance."