BOJ May Shift to Inflation-Containing Mode by December

Japan's central bank, the Bank of Japan (BOJ), may shift its focus from supporting inflation to containing it as early as December, according to Tsutomu Watanabe, a former BOJ official and expert on Japan's price trends. This change in approach could accelerate interest rate hikes, with Watanabe estimating that underlying inflation could rise to around 2.2% by July next year if the BOJ continues its slow pace of monetary tightening.

The current wave of inflation is driven by the Middle East conflict and has led to a third consecutive increase in prices, following waves triggered by the Russia-Ukraine war and domestic wage increases and higher rice prices. Watanabe expects consumer inflation excluding fresh food and fuel to peak near 3% around March next year before easing toward the BOJ's 2% target.

The BOJ has raised interest rates several times, but its policy rate remains at 1%, keeping real borrowing costs negative as consumer inflation stays around 2%. Watanabe warns that underlying inflation pressures are becoming a bigger concern, with price trends moving closer to the central bank's target. A tight labour market, rising wages and stronger inflation expectations are contributing to persistent price pressures.

Watanabe estimates that if the BOJ shifts into a more aggressive inflation-control mode by December, it could raise interest rates once every quarter instead of its current pace of roughly twice a year.