Bank of Japan's hawkish pause to leave scope for December hike

The Bank of Japan is likely to declare victory in its battle to hit the 2 percent inflation target at its policy meeting on Friday, according to multiple sources. The central bank is also expected to suggest risks of prices overshooting, hinting at a possible rate hike as early as December. This hawkish language may signal that the Bank of Japan, the US Federal Reserve, and the European Central Bank will all raise rates by the end of the year due to strong AI demand and the Iran war-induced energy shock exacerbating global inflationary pressures.

However, the Bank of Japan is likely to avoid explicit hints on the timing and pace of future rate increases to prevent risks of an inflation overshoot without disrupting markets with a premature hike, according to analysts. With moderate rises in prices and wages, the Bank of Japan plans to continue raising rates gradually rather than rushing.

At the two-day policy meeting ending on Friday, the Bank of Japan is set to maintain its policy rate at 1.25 percent by a majority vote, forgoing a back-to-back hike to focus on scrutinizing the effects of past rate hikes on lending conditions. In a quarterly report following the meeting, the Bank of Japan is likely to slightly revise up its price forecast for the next fiscal year and signal that underlying inflation has roughly achieved its 2 percent target.