BOJ chief Ueda says underlying inflation is quite close to 2% target

Bank of Japan Governor Kazuo Ueda told parliament on Monday that underlying inflation is "quite close" to the central bank's 2% target. Ueda's remarks signalled scope for further rate increases. Ueda said anchoring underlying inflation around the 2% target was becoming more important. Ueda said rising raw material costs from the Middle East conflict were pushing up inflation. Ueda said a tight job market and moderate economic recovery were also applying demand-driven price pressure. Ueda said very strong global AI demand was boosting capital expenditure and exports, pushing up prices for a wide range of goods.

Ueda said raising interest rates at an appropriate pace would help avoid spikes in bond yields. Ueda warned that failing to adjust the policy rate appropriately could stoke market concerns about an inflation overshoot and push up long-term interest rates. Ueda's warning came as underlying inflation approaches 2% and financial conditions remain accommodative.

The BOJ will hold a two-day policy meeting that concludes on October 30. The BOJ will release fresh quarterly growth and inflation forecasts that markets will scrutinise for clues about the next interest rate increase. Sources said many in the BOJ are cautious about another increase this month after the September rate increase. Sources said those policymakers prefer to assess more data on how past rate increases have affected financial conditions. Many market players expect the BOJ to hold interest rates at 1.25% while signalling scope for a rise to 1.5% as early as December.

Japanese government bond yields have risen on prospects of further BOJ rate increases and concerns about Prime Minister Sanae Takaichi's big spending plans. Those concerns centre on whether the spending could worsen Japan's already strained finances. An opposition lawmaker asked Ueda about the effect of fiscal spending on inflation. Ueda said increased expenditure would stimulate the economy and push up price and wage growth. However, Ueda said increased fiscal spending could help moderate inflation in the long run if the spending boosts Japan's supply capacity. Ueda reiterated that emergency bond purchases would be reserved for sharp yield rises or serious market dysfunction.

Takaichi spoke in the same parliament session. Takaichi dismissed suggestions by some analysts that the administration's policies had triggered the selloff in the yen and Japanese government bonds. Takaichi said the government would meticulously scrutinise the size of fiscal spending and appropriately control debt issuance. Takaichi said creating a strong economy could increase market trust in the yen.

The Japanese government bond market has steadied after the administration sought to dispel perceptions of a reflationist agenda. However, analysts expect renewed turbulence if the government fails to clarify how the government would fund tax cuts and big spending plans. The International Monetary Fund last week urged the BOJ to keep raising interest rates. The IMF also urged the government to set out a medium-term fiscal framework to calm market concerns. Krishna Srinivasan, director of the IMF's Asia and Pacific Department, said uncertainty about funding the fresh spending and tax-cut plans was causing market concern about fiscal risks.