MNI POLICY: BOJ Frets Over Neutral Rate Update

Bank of Japan officials are concerned that future market signalling will become more difficult as the policy rate moves closer to the bank’s 1-2.5% neutral-rate estimate, following recent comments by Governor Kazuo Ueda that financial conditions would remain accommodative even if the bank raises the 0.5% policy rate – a stance that could imply a higher lower bound for the neutral rate and further scope for additional hikes, MNI understands.

While the Bank does not have a solid neutral-rate stance, it will refine its estimate following the next hike after monitoring the impact on the economy and inflation, which could come as early as the Dec 18-19 meeting. (See MNI POLICY: Ueda Sharpens Dec Rate Hike, Risks Credibility)

“Raising the policy interest rate under accommodative financial conditions is about the process of easing off the accelerator as appropriate toward achieving stable economic growth and price developments, not about applying the brakes on economic activity,” Ueda said this week, noting financial conditions will remain accommodative even if the Bank raises the policy interest rate. 

If the bank continues to say that financial conditions remain accommodative after further rate hikes, markets may interpret this as signalling that the neutral interest rate the BOJ has in mind is higher than expected. That perception would likely fuel views that the terminal rate could be higher than previously anticipated, adding upward pressure on interest rates.

However, it remains questionable whether Ueda will be able to maintain a similar stance once the policy rate reaches 1.00%, a level markets now expect by around June.

NEUTRAL UPDATE

Ueda also said he would like to clarify the gap between the policy interest rate and the neutral interest rate if the bank raises the policy rate to 0.75%.

Officials will need to review the neutral rate range, as time has passed since the last estimate in 2023, before finalising the bank’s view on the size of that gap.

As the policy interest rate approaches the perceived neutral level, the Bank's communication is expected to become more challenging, similar to the Federal Reserve, which is gauging the appropriate neutral rate through its impact on the economy and inflation without specifying an exact level.

The BOJ is still expected to maintain its baseline stance of gradually raising the policy interest rate to adjust the degree of accommodation, keeping future moves data dependent.