The Bank of Japan is widely expected to leave its policy rate unchanged at a two-day meeting from Thursday, a month after implementing a hike for the first time in 17 years, though a persistently weak yen is raising the prospect of higher inflation driven by import costs.
The Policy Board shifted to using short-term rates as its major policy tool last month, guiding them in a range of between zero and 0.1 percent. It ended unorthodox monetary easing that had weakened the yen, including its negative rate and yield cap program, as robust wage growth has boosted the BOJ's confidence that stable inflation can be achieved.
While the decision was symbolic, the yen has continued to fall relative to the U.S. dollar, hitting its lowest level in over three decades beyond the psychologically important 155 line despite repeated verbal warnings by Japanese authorities that they would intervene and prop up the Japanese currency.
The feeble yen is a double-edged sword for Japan, boosting exporters' overseas profits when brought back home but inflating import costs for the resource-poor nation.
The conflict in the Middle East and rising crude oil prices are cited by analysts as risk factors.
The negative side of the weaker yen became more apparent recently, as surging import costs accelerated Japan's inflation. But it also prompted firms to raise wages to help households cope with the rising cost of living.
The BOJ states that it does not guide monetary policy to control foreign exchange rates, but Governor Kazuo Ueda has said it will consider a policy change if the impact of a weak yen on inflation "cannot be ignored."
The central bank is expected to check recent economic and financial market developments, and release new forecasts for growth and inflation. The existing inflation forecasts for fiscal 2024 and 2025 will likely be revised upward from 2.4 percent and 1.8 percent respectively, according to sources familiar with the matter.
For fiscal 2026, the BOJ is expected to say that core inflation, as measured by consumer prices excluding volatile fresh food, will be around its target of 2 percent.
Analysts are still divided over when the next interest rate hike will come.
Ueda sees trend inflation, which strips away one-off factors, as "slightly below" 2 percent, making it necessary for financial conditions to be accommodative. But he also said last week that if inflation continues to go up, the BOJ will "very likely" raise interest rates.
After recent strong U.S. economic data curbed market expectations of an imminent rate cut by the Federal Reserve, strengthening the dollar, the BOJ is viewed as in a precarious situation as its dovish stance will further accelerate the yen's depreciation.
Even after ending its program to control 10-year Japanese government bond yields, the BOJ has vowed to purchase roughly the same amount of bonds, with markets focused on when it will start reducing the amount.
