Analysis: BOJ Faces New Challenges as Politics and Yen Complicate Rate Hikes By Reuters

By Leika Kihara

TOKYO – The efforts of Bank of Japan Governor Kazuo Ueda to raise historically low borrowing costs are encountering new obstacles, as a recent rebound in the yen and the current political leadership’s preference for a loose monetary policy complicate the prospect of rate hikes.

This week, Japan’s new Prime Minister Shigeru Ishiba surprised markets with his statement that the economy is not ready for further rate increases, marking a significant shift from his earlier stance supporting the BOJ’s move away from years of aggressive monetary easing.

Ishiba’s unexpected comments led to a decline in the yen’s value against the dollar and renewed skepticism about the BOJ’s commitment to aggressive rate hikes.

While political dynamics may not derail the long-term rationale for rate increases, analysts predict that discussions around monetary policy could become contentious with the general election approaching on October 27.

Analyst Katsuhiro Oshima from Mitsubishi UFJ Morgan Stanley Securities noted, "I don’t think Ishiba intended to exert significant pressure on the BOJ. He likely had the upcoming election in mind." Given that Ishiba was previously viewed as a monetary policy hawk, his recent remarks may have been an attempt to recalibrate his public image.

With the election on the horizon, analysts generally anticipate that the BOJ will refrain from raising rates during its meeting on October 30-31.

Ueda, appointed last year under former Prime Minister Fumio Kishida, who resigned in September and had supported the BOJ in tapering its extreme monetary stimulus, has faced new challenges. The BOJ raised rates for the first time in 17 years in March, asserting that rising prices and wages indicated Japan was moving past its prolonged deflationary period.

However, the momentum for further tightening was interrupted when Ishiba’s new cabinet reaffirmed a commitment to focus on reviving a stagnant economy, echoing a statement from 2013.

Prior to Ishiba taking office, the pressure on the BOJ to hike rates had already begun to lessen, aided by a recovery in the yen from a three-decade low in July, which alleviated inflationary pressures from import costs.

With eyes on potential political turbulence, the BOJ has already prepared to pause its rate hikes. After maintaining steady rates last month, Ueda indicated there is no urgency to increase rates given current market instability and growing uncertainties surrounding the U.S. economy.

A source close to the BOJ stated, "Ishiba’s remarks won’t directly affect monetary policy, but there’s no requirement for the BOJ to rush into rate hikes amidst these conditions."

Amid ongoing political uncertainty, Ueda has previously mentioned that the BOJ would continue to raise rates—to around 1-1.5%—as long as the economy aligns with expectations. With inflation consistently above 2% for more than two years and a tight labor market driving up wages, there are concerns that too long a pause could create communication challenges for the central bank.

Looking forward, the BOJ might leverage external risks, like a slowing U.S. economy, as justification for delaying rate hikes. Adjusting its messaging could help mitigate any perception that the BOJ might abandon its tightening stance.

Asahi Noguchi, a BOJ board member, candidly remarked on the need for better communication from the bank to avoid confusion regarding its policy shifts.

There remains uncertainty regarding Ishiba’s future stance on BOJ monetary policy after the election, as many analysts expect he may return to supporting the BOJ’s exit from extreme easing.

Polling data reveals Ishiba’s approval rating at 50.7%, which is lower than the initial approval ratings seen by recent predecessors, indicating a potentially challenging election.

Although Ishiba’s party is likely to remain in power, a significant loss of seats could weaken his position and increase pressure to maintain expansive fiscal and monetary policies.

Depending on the outcomes of this month’s election, political uncertainty may persist until the upper house election scheduled for summer next year.

Should Ishiba achieve a solid victory this month, stabilizing the political situation could enable the BOJ to consider rate hikes as early as December or January. Conversely, prolonged political discord could hinder the BOJ’s plans to raise rates to around 0.75% next year. Ultimately, the BOJ seems inclined to proceed swiftly with its monetary policy adjustments.