"Core inflation is already 'fairly close' to 2%"! BOJ Governor turns hawkish: There is still room for further rate hikes ahead

Bank of Japan Governor Kazuo Ueda said the current core inflation level is "already fairly close" to the central bank's 2% inflation target. Strong global demand for artificial intelligence (AI), combined with inflationary pressure from a tight labor market, has left room for further rate hikes ahead. The remarks came as the BOJ prepares to hold a key policy meeting later this month, when it will release its latest quarterly inflation forecasts. Markets will scrutinize those projections for clues on the timing of the next rate hike. "Anchoring core inflation near the 2% target is becoming increasingly important," Ueda told parliament on Monday. Ueda said that while the Middle East conflict is pushing up raw material costs and thereby inflation, a tight labor market and a moderate economic recovery are also generating demand-side price pressures. "Global AI demand is very strong, boosting capital expenditure and export growth, which in turn is pushing up prices of various goods," he noted. Ueda also said raising rates at an appropriate pace helps avoid a surge in bond yields. "With core inflation approaching 2% and financial conditions still accommodative, if we fail to adjust the policy rate appropriately, markets may worry about inflation overshooting, which would push up long-term interest rates," he said. The BOJ will conclude its two-day policy meeting on October 30. Sources said that after the BOJ raised rates just in September, many board members are cautious about hiking again this month and prefer to watch more data to assess the impact of the previous hike on financial conditions. Many market participants expect the BOJ to keep rates unchanged at 1.25% but may signal that it is keeping the door open for a hike to 1.5% as early as December. **Containing debt issuance** Japanese government bond yields have risen as markets expect further BOJ rate hikes and worry that Prime Minister Sanae Takaichi's large spending plans could worsen the country's already strained fiscal position. Asked in parliament by an opposition lawmaker about the impact of fiscal spending on inflation, Ueda responded that expanding fiscal spending stimulates the economy and drives up prices and wages. But he added that if increased fiscal spending boosts Japan's supply capacity, it could in turn help moderate inflation over the long term. Ueda reiterated that emergency bond purchases will be reserved for situations of sharp yield spikes or severe market dysfunction. At the same parliamentary session, Takaichi rejected some analysts' claims that her government's policies have triggered sell-offs in the yen and Japanese government bonds. "We will carefully review the scale of fiscal spending and appropriately control the scale of debt issuance," Takaichi said. "By building a strong economy, Japan can enhance market trust in the yen." The JGB market has stabilized after the government sought to dispel concerns that it is pursuing inflation-stimulating policies. But analysts expect renewed turbulence if the government fails to clearly explain how it will fund tax cuts and large spending plans. The International Monetary Fund (IMF) last week urged the BOJ to continue raising rates and called on the government to formulate a medium-term fiscal framework to ease market unease. "Markets are worried about fiscal risk because of uncertainty over how Japan will pay for new spending and tax cut plans," said Krishna Srinivasan, director of the IMF's Asia and Pacific Department.