Bank of Japan debated inflation overshoot risk in June

August 9, 2023: Bank of Japan debated inflation overshoot risk in June, with one board member saying wages and prices could keep growing at a speed “not seen in the past,” according to a summary of opinions released on Monday.

While the members stressed the need to keep an ultra-easy monetary policy, the upbeat view on the inflation outlook suggests they are more convinced that conditions for phasing out stimulus could fall in place.

“More firms have started considering wage hikes for next fiscal year and beyond. Japan is expected to see a new phase where wages and services prices resume to increase,” according to one opinion in the summary.

“The recent wage hikes and pass-through of cost increases by firms have a pent-up aspect, in that these moves had been suppressed for nearly three decades. Thus, wages and selling prices could continue to rise at a rate not seen in the past,” another opinion showed.

At the July meeting, the BOJ kept its yield curve control, or YCC targets, unchanged but accepted steps to allow long-term interest rates to rise additional freely in line with increasing inflation and economic growth.

Governor Kazuo Ueda said the judgment was a pre-emptive move against the risk of increasing inflation pushing up long-term bond yields and heightening volatility in monetary markets.

With high uncertainty over the outlook, as well as both “upside and downside risks” to inflation, it stood appropriate to make YCC flexible at this stage, several associates said, according to the summary.

“If prices and inflation expectations continue to heighten, the effects of monetary easing will strengthen. On the other hand, exactly capping the 10-year bond yield at 0.5% could affect bond market function and market volatility,” one statement showed.

While some saw the need to assemble YCC more flexible as a preventive measure against future risks, one member said the sustained attainment of 2% inflation was already in sight.

“Achieving 2% inflation sustainably and stably seems to have come in sight. To persist with monetary easing smoothly until an exit, the Bank should permit greater flexibility in its conduct of yield curve control,” the member said.

Under YCC, the BOJ states short-term interest costs at -0.1% and the 10-year bond yield nearly 0% to prop up growth and sustainably achieve its 2% inflation target.

It also sets an allowance band of 50 basis points around the 10-year yield target. The BOJ nominally kept the band unchanged last month but said it would now let the 10-year yield to rise to as much as 1.0%.

Japan’s core consumer inflation stayed above the central Bank’s 2% target in June for the 15th consecutive month, as firms kept passing on higher import costs to families.

The BOJ has said it needs to keep ultra-low rates until robust domestic demand and higher salaries return cost-push factors as key drivers of price progress and keep inflation sustainably about its target.