The Bank of Japan is inclined to raise interest rates by 25 basis points in September, and it does not rule out accelerating the pace of future increases.

According to informed sources, the Bank of Japan is inclined to raise the benchmark interest rate by 25 basis points this month to address the risks of rising prices, while also not ruling out the possibility of accelerating the pace of interest rate hikes thereafter. Sources indicated that Bank of Japan officials will consider increasing the policy rate from 1% at the two-day meeting ending on September 18. They still believe that inflation risks are tilted to the upside, with rising service prices and a persistently weak yen reinforcing the rationale for taking action. The sources revealed that officials views on economic developments are generally consistent with expectations. One informant stated that there has been no significant change in the current situation, hence there is no need for more substantial rate hikes, such as a 50 basis points increase, which lowers the likelihood of a drastic hike. Following the announcement, the yen weakened slightly in active trading, as some traders clearly anticipated greater volatility for the yen based on hawkish comments from a committee member earlier this week. Late Thursday afternoon, the USD/JPY exchange rate fluctuated around 157. Informed sources also noted that the Bank of Japan recognizes the possibility of further interest rate hikes after September and indicated that it will flexibly adjust the pace of rate increases based on economic developments and the upside risks of inflation. This means that the Bank of Japan does not rule out the possibility of accelerating the pace of interest rate hikes if circumstances warrant. The Bank of Japans decision will be closely monitored by Washington. U.S. Treasury Secretary Janet Yellen explicitly stated in a series of interviews and statements during the G20 finance ministers' meeting earlier this week that she hopes Japan will raise interest rates. According to the U.S. Treasury, Yellen discussed the importance of establishing sound policies to stabilize inflation expectations and avoid excessive currency fluctuations during her bilateral meeting with Bank of Japan Governor Kazuo Ueda. Overnight index swap pricing indicates that investors are prepared for a change in interest rates in two weeks. With such high expectations, the decision itself could trigger volatility in global financial markets. If rates are increased again in September, just three months after the last hike in June, it would mark the shortest interval between two rate hikes during Ueda's tenure as governor. On July 31, the U.S. and Japan collaborated to buy yen, marking the first such coordinated intervention by the two countries since 1998, which adds weight to Yellen's comments. This move helped the yen recover from near its lowest level in 40 years. U.S. support for the yen may make it more difficult for Prime Minister Fumio Kishida's government to pressure the Bank of Japan to slow down its rate hikes. However, Kishida's preference for loose monetary policy remains a key uncertainty affecting whether the Bank of Japan can maintain a faster tightening pace. After the G20 summit on Tuesday, Ueda did not attempt to quell speculation regarding the September rate hike during a media interview. He stated that the central bank needs to consider the risks of upward inflation when formulating policy. According to economists surveyed by institutions, Japans key inflation indicators are expected to move towards the 3% target after government subsidies and other measures have helped curb inflation in recent months. The weak yen and rising oil prices have exacerbated inflationary pressures, as Japan relies heavily on imports. Ueda also mentioned that the data is broadly in line with the bank's expectations and added that there has been no significant change in the implementation of monetary policy going forward. This suggests that the rate hike this month may be a conventional 25 basis points. Monetary policy committee member Takeda Harukata had voted against maintaining rates in July, supporting an interest rate increase, and he proposed on Wednesday that a larger hike could also be possible. However, unless there is a significant change in circumstances, a 50 basis points increase would pose significant communication challenges for the Bank of Japan.