• The Bank of Japan (BOJ) is set to conclude a policy meeting amid political uncertainty and efforts to roll back monetary stimulus.
• Governor Kazuo Ueda emphasizes the need to scrutinize risks such as the U.S. economy and market volatility.
• The BOJ's quarterly report may offer clues on the timing of the next rate hike, with inflation forecasted to hover around its 2% target.
• The BOJ's future decisions will be influenced by political uncertainty, economic risks, and market volatility, impacting Japan's economic future.

The Bank of Japan (BOJ) is set to conclude a two-day policy meeting on Thursday, following the ruling coalition's loss in a recent election. This political uncertainty complicates efforts to roll back monetary stimulus. The BOJ ended negative interest rates in March and raised its short-term policy target to 0.25% in July, signaling readiness to hike again once the board has enough confidence that Japan will durably hit its 2% inflation target. However, with inflation stable around 2% and showing few signs of spiking, the BOJ is in no rush to pull the trigger.

Governor Kazuo Ueda has stressed the need to spend time scrutinizing risks such as uncertainty over the U.S. economy and the fallout from volatile markets. The BOJ is widely expected to keep rates steady at the October meeting and will also prefer to stand pat until the make-up of Japan's future government - now in flux - becomes clearer.

The BOJ has said it will hike rates again if the economy and prices move in line with its forecast. Its quarterly report, which will include the board's fresh growth and price forecasts, may offer clues on the next rate hike timing.

BOJ's Rate Hike and Inflation Forecast

Sources have told Reuters the BOJ is unlikely to make major changes to its forecast for inflation to hover around its 2% target through March 2027. Governor Ueda's post-meeting briefing may offer clues on the pace and timing of further rate hikes. In a briefing in September, Ueda dropped signs of a pause by saying the BOJ can afford to spend time scrutinising risks such as uncertainty over the U.S. economic outlook.

Ueda may replace such dovish communication with something more neutral due to receding fears of U.S. recession - and the need to keep speculators from pushing down the yen too much. The dollar hit three-months highs near 153.50 yen on Tuesday, as investors sold the Japanese currency on the view the post-election political uncertainty will discourage the BOJ from hiking rates any time soon.

While still off the three-decade low near 161 to the dollar, the yen's recent declines could trigger renewed warnings from Ueda on the upward pressure such moves would have on import costs and inflation.

Future Rate Hikes and Political Implications

The BOJ next meets for a policy meeting on Dec. 18-19 followed by a meeting on Jan. 23-24. A slim majority of economists polled by Reuters saw the BOJ forgoing a hike this year, with most expecting the central bank to raise rates again by March next year. The BOJ has signaled readiness to raise rates to levels deemed neutral to the economy - seen by analysts as somewhere around 1% - by around late next year or early 2026.

The International Monetary Fund (IMF) also called on the BOJ to tighten policy at a gradual pace and projected policy rates to reach 1.5% in 2027. However, the road could be bumpy. The BOJ hopes bumper wage hikes offered by firms this year will underpin consumption, and allow retailers to keep hiking prices. But slowing global demand may discourage manufacturers from offering big pay hikes next year.

Political clouds also hang over the BOJ's rate-hike path. The ruling coalition's failure to retain a majority in the lower house will likely force Prime Minister Shigeru Ishiba's ruling party to court smaller opposition parties that favor maintaining ultra-loose monetary policy. While Ishiba has been seen as supportive of gradual policy normalization, his weakened standing may raise the hurdle for further BOJ rate hikes.