BoJ seen holding rates steady

Japan's central bank began a two-day meeting Monday at which it is expected to hold interest rates steady in the face of a shrinking economy and the fastest inflation in a decade. The Bank of Japan has kept its super-low interest rates unchanged at 0.5 percent since February last year as a US economic slowdown and soaring commodity prices weigh on exports and consumer spending.
Japan's core inflation rate hit a decade-high of 1.9 percent in June on the back of soaring energy and raw material costs. Wholesale inflation jumped to a 27-year high of 7.1 percent in July. But the risk of Japan's first recession in six years now appears to be the BoJ's biggest concern after Asia's largest economy contracted by 0.6 percent in the second quarter of 2008, analysts said.
The bank on Tuesday is expected to give "a slightly more bearish assessment of the economic picture," said David Cohen, head of Asia forecasting at Action Economics in Singapore.
But with interest rates already very low the central bank does not have much room for further cuts, he said, predicting that the central bank will probably keep interest rates on hold for the rest of the year. One glimmer of good news for the central bank is that world oil prices have fallen heavily from record highs above 147 dollars seen in early July. New York oil futures were trading at 115.00 dollars a barrel in Asia Monday.
"I think central banks around the world are breathing a sigh of relief that maybe the commodity price run up is at least pausing," said Cohen. Japan's central bank for years battled to end deflation with an unprecedented policy of virtually free credit.
But the return of inflation has also triggered concern among policymakers because it is being driven by rising oil and food costs, which are making life tougher for households and companies.
"There is virtually no pressure on the BoJ to cut rates" despite signs of a recession, economists at Morgan Stanley wrote in a research note. But the central bank will probably be forced to lower borrowing costs in 2009 or later once the effects of a fiscal stimulus package to bolster the US economy have faded, they added.