Amid concerns over escalating inflation fueled by Middle East conflicts, the Bank of Japan is expected to continue its monetary policy normalization. In a recent survey conducted from May 7 to 14, 65% of responding economists (40 out of 62) anticipate the Bank of Japan will raise interest rates by 25 basis points in June, bringing the benchmark rate to 1%. This forecast aligns closely with the results from April's survey. Among the 62 economists surveyed, all but one expect the central bank to implement a rate hike before the end of September.
Concurrently, the survey median indicates the Bank of Japan will lift the benchmark rate to 1.25% in the fourth quarter of this year, with a further increase to 1.50% projected before the third quarter of next year, consistent with last month's survey findings. Additionally, nearly three-quarters of the surveyed economists stated that persistent inflation over the next 12 months poses a greater threat to Japan's economy than a slowdown in demand.
Yusuke Matsuo, a senior market economist at Mizuho Securities, commented, "Given that the economic, price, and wage conditions supporting a rate hike currently persist, we believe the June meeting, approximately six months ahead of the December 2025 meeting, is the most likely timing for the next hike."
The door for a June rate hike remains open. Last month, the Bank of Japan held rates steady at 0.75% to assess the impact of the Middle East conflicts. However, three of the nine members of the Policy Board dissented, advocating for a hike to 1%, signaling growing vigilance among policymakers regarding inflationary pressures stemming from potential energy shocks due to the conflicts.
Kazuo Ueda, a Policy Board member who voted to maintain rates last month, has publicly shifted to a hawkish stance, calling for an early rate increase. Ueda stated on Thursday, "I judged at the time (in April) that there was no need to rush into a hike, but if data shows no clear signals of an economic downturn, we should act sooner." This remark suggests he may join the hawkish camp and vote for a hike next month.
Economists' expectations for a possible June rate hike also echo the minutes from the Bank of Japan's April meeting. The minutes revealed that several Policy Board members argued for an early rate increase during the meeting, with one member explicitly noting the possibility of a hike in June.
The minutes cited one member's view: "Even with ongoing uncertainties surrounding the Middle East situation, it is highly likely the Bank of Japan could initiate a rate hike from the next meeting onward." Another member's opinion stated: "While there is no need for hasty action at this stage, as long as there are no clear signs of an economic slowdown, the central bank should move to raise rates promptly." A further opinion noted that the current policy rate remains well below the economy's neutral rate level, necessitating steady rate hikes every few months; if inflation risks rise further, the pace of hikes should be decisively accelerated.
The minutes also showed that many members expressed concerns that the Middle East conflicts are intensifying inflationary pressures, increasing the risk of second-round effects and potentially bringing forward the timeline for underlying inflation to reach 2%. One member was quoted as saying: "With inflation expectations being significantly revised upward and uncertainties in the Middle East remaining high, all scenarios point to further upside risks to prices." The member added, "Moreover, if supply-side constraints materialize, they would exert extremely strong upward pressure on prices."
Data released last month showed that Japan's core inflation rate, excluding fresh food prices, accelerated for the first time in five months in March, rising year-on-year to 1.8% from 1.6% in February, influenced by concerns over energy price increases due to the Middle East conflicts. Last month, the Bank of Japan also revised upward its core inflation forecast for fiscal year 2026 (April 2026 to March 2027), excluding fresh food, to 2.8% from the 1.9% projected in January this year.
Notably, the Organisation for Economic Co-operation and Development (OECD), in its Japan Economic Survey released Wednesday, provided a latest projection that the Bank of Japan's policy rate is expected to reach 2% by the end of 2027. The OECD pointed out that if Japan's inflation remains around 2%, the current policy rate is still at the lower bound of the economy's neutral rate range, and the central bank should continue gradual rate hikes to guard against the risk of economic overheating.
The OECD's projected terminal rate of 2% is a more hawkish stance than the general consensus among economists in the aforementioned survey and more aggressive than the view of the International Monetary Fund (IMF)—which estimates the terminal rate for the Bank of Japan's current tightening cycle to be only about 1.5%.
However, the Bank of Japan's progress in normalizing monetary policy may face constraints from the government. A Japanese government advisory panel warned that, given the deteriorating corporate financing environment and uncertainties stemming from the Middle East situation, the central bank should maintain caution in formulating monetary policy. This statement is interpreted externally as a direct reminder to Bank of Japan Governor Kazuo Ueda, suggesting that advancing rate hikes in the short term, particularly at the upcoming policy meeting next month, may encounter stronger policy headwinds.
A rate hike could provide relief for the yen. As the Bank of Japan held rates steady in April, the Japanese government subsequently had to intervene multiple times in the foreign exchange market to support the yen, which had breached the 160 yen per U.S. dollar level. The central bank is facing increasing pressure. Many believe that, in the absence of tighter monetary policy coordination, the approximately 10 trillion yen (about $63.35 billion) in intervention funds recently deployed by Japanese authorities to curb the yen's decline may have limited effect.
Unlike its U.S. and European counterparts, Japan's current policy rate of 0.75% remains below the "neutral rate" that neither stimulates nor restrains economic activity. With inflation around 2%, the Bank of Japan continuing to maintain deeply negative real interest rates could lead to economic overheating and further weaken the yen.
Hiroshi Namioka, chief strategist at T&D Asset Management, stated, "Japanese authorities are trying to curb yen depreciation by signaling readiness to intervene, but considering negative real interest rates and the potential for high oil prices to worsen the trade balance, the effect may be limited."
Kyohei Morita, chief economist at Nomura Securities, added that the Bank of Japan is also inclined to raise rates in June to address upside inflation risks stemming from yen depreciation. A weaker yen is pushing up import costs and harming the Japanese economy.
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