JP Morgan looks ahead to the action of the Bank of Japan next week: The threshold for releasing a hawkish stance is quite high, and the policy tone may hide a "dovish voice."

J.P. Morgan's Japan economic research team recently issued a report predicting the direction of the Bank of Japan's monetary policy meeting next week. The core view is that the threshold for the Bank of Japan to raise interest rates and signal a hawkish stance is extremely high. Even if the rate hike proceeds as scheduled, combined with adjustments to the government bond purchase and balance sheet contraction policy, the overall policy stance will still lean towards dovish. The bank believes that the Bank of Japan is very likely to raise the policy rate by 25 basis points to 1.0% at the next week's monetary policy meeting. In April of this year, the uncertainty brought about by the Middle East geopolitical conflict prompted the Bank of Japan to maintain the interest rate. This uncertainty has not completely dissipated. Despite this, the latest economic data and various information indicate that the Japanese economy is resilient, and inflation risks are increasing. Currently, Japan's monetary policy is still on the accommodative side, and maintaining a wait-and-see attitude may have a negative impact on the economy and the market. Therefore, there will be little opposition to raising interest rates within the Bank of Japan's Policy Board and the Japanese government. The core focus of this meeting will be the Bank's statement on the "future interest rate trend" after this rate hike and the evaluation of Japan's government bond purchase plan. The market is increasingly concerned that the Bank of Japan's policy actions are lagging behind the economic situation. The Bank of Japan is likely to send a slightly hawkish signal to ease market concerns. Governor Kuroda may also mention the possibility of further rate hikes at the press conference. However, since the market has already priced in expectations of tightening, it will be very challenging for the Bank to create a clear hawkish effect through its statements. To create an unexpectedly hawkish impact, the Bank of Japan needs to send one of two signals: either accelerate the pace of tightening or raise interest rates above 2% (exceeding the neutral interest rate level). However, at present, these scenarios are low-probability risks. Regarding the evaluation of Quantitative Tightening (QT): the current tightening plan is likely to continue until March 2027, maintaining a quarterly reduction of 200 billion yen in bond purchases and a monthly purchase scale of 2.1 trillion yen. The focus of the market is on the government bond purchase plan after April 2027. The bank previously believed that slowing the pace of quarterly tightening to 100 billion yen was a reasonable choice considering the goal of returning the balance sheet to normal and the current supply-demand situation in the Japanese government bond market. However, several media reports this week suggested that the Bank of Japan may consider suspending the tightening operation after April 2027 and continue to maintain the monthly government bond purchase scale of 2.1 trillion yen, keeping the pace of quantitative tightening unchanged. If this news is true, this policy adjustment will be significant. The summary of market participants' opinions recently published by the Bank of Japan shows a significant divergence of views, but overall, the voices in support of continuing tightening slightly outweigh those against it. In this context, if the Bank decides to suspend tightening, it can be interpreted as aligning with the Abe cabinet's direction of increasingly expansionary fiscal policy. The market has already noticed the policy differences between the Bank of Japan and the Abe cabinet in the normalization of monetary policy. The Middle East conflict has raised global inflation, further complicating the Bank of Japan's policy control. Governor Kuroda has previously stated that when core inflation reaches 2%, policy rates should also enter the neutral rate range. But due to global uncertainties, the Bank has not yet followed this policy direction. Currently, Japan's core inflation rate, excluding fresh food and special factors, is close to 3%, and the market generally believes that the actual potential inflation level has already exceeded 2%. Even if this rate hike proceeds as planned, the policy rate will only rise to 1.0%, just touching the lower limit of the Bank of Japan's estimated neutral rate range. The Bank itself acknowledges that the long period of loose policy environment in the past may have caused a downward bias in the neutral interest rate. In conclusion, even if the Bank of Japan implements the rate hike, if it simultaneously announces the suspension of government bond tightening as recent media reports suggest, the market will still overall view this meeting as dovish.