Insiders have revealed that officials are not only preparing to discuss raising interest rates to 1% at the June meeting but also see room for additional hikes later this year. Furthermore, officials believe the pace of reducing bond purchases could be slowed starting from April next year.
The Bank of Japan is set to hold its policy meeting on June 15-16, with interest rate adjustments and bond purchase arrangements as core agenda items. Multiple sources familiar with the matter indicate that the policy board is evaluating the possibility of raising the benchmark rate by 25 basis points, which would bring the rate to 1%.
The market has largely anticipated this move. Overnight index swap pricing shows investors have factored in an approximately 88% probability of a rate hike at this meeting. One significant factor driving this expectation is the potential inflationary pressure from the ongoing tensions in the Middle East.
Concurrently, since late April, Japanese authorities have utilized roughly $74 billion to intervene in the foreign exchange market to support the yen. However, the yen has remained weak and hovered near intervention zones, further strengthening market expectations for policy tightening.
Internal support for a rate hike within policy circles is also growing. In his final scheduled public remarks before the meeting, Governor Kazuo Ueda stated that if the risk of inflation exceeding expectations outweighs the economic impact of geopolitical conflicts, the Bank of Japan would need to consider raising rates. At the April meeting, three board members already voted in favor of a hike; subsequently, two more policy board members have publicly expressed support for advancing policy normalization.
This means that within the nine-member decision-making body, if Ueda pushes for a rate hike, a majority support base already exists.
Nonetheless, dissenting opinions may still arise during the discussions, but insiders suggest these differing voices are not expected to alter the overall decision-making direction. At the same time, officials emphasize that given the high uncertainty surrounding the Middle East situation, the final decision will be made based as much as possible on the latest data available before the meeting.
Beyond the immediate interest rate decision, the Bank of Japan will also assess future policy space. Sources indicate that policymakers believe the current real interest rate remains relatively low, and with persistent upside risks to inflation, there remains the possibility of further rate hikes later this year.
Another key focus of this meeting will be adjustments to the government bond purchase program. The Bank of Japan is currently reducing bond purchases at a pace of ¥200 billion (approximately $1.3 billion) per quarter, an arrangement set to continue until March next year. Policymakers are discussing whether it will be necessary to maintain this pace of reduction starting from April next year.
Multiple sources note that as the functioning of the Japanese government bond market improves, the central bank may slow the pace of reduction, and could even potentially pause the cuts. Officials believe that in the current environment, the specific scale of the reduction has diminished in importance, as the predetermined reduction amount itself constitutes a relatively small portion compared to the volume of bonds naturally maturing on the central bank's balance sheet.
Based on this assessment, regardless of whether the predetermined reduction pace continues, the total amount of Japanese government bonds held by the Bank of Japan is expected to show a clear downward trend. This change also provides policymakers with greater operational flexibility between interest rates and asset purchases.
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