A nearly 14-year battle over inflation targets may be approaching a critical juncture. The Bank of Japan's policy meeting this Friday (October 30th) is expected to announce that it has achieved its 2% inflation target and emphasize the risk of price overshooting, thus signaling a potential interest rate hike as early as December. This move is closely watched amid heightened global inflationary pressures due to robust demand for AI and the energy shock triggered by the Iran-Iraq conflict.

Hawkish rhetoric is poised to declare a "victory" over inflation.

At its policy meeting concluding on Friday, the Bank of Japan is likely to declare victory in its nearly 14-year battle with its inflation target, emphasizing the risk of price overshooting and hinting at a possible rate hike as early as December. Such hawkish rhetoric could further strengthen market expectations that the Bank of Japan, the Federal Reserve, and the European Central Bank will all raise rates by the end of the year, given that robust AI demand and the energy shock triggered by the Iran war are exacerbating global inflationary pressures. However, analysts point out that the Bank of Japan is likely to avoid giving clear hints about the timing and pace of rate hikes, as it needs to carefully balance "preventing the risk of inflation overshooting" with "avoiding premature rate hikes that could disrupt volatile markets." One person familiar with the central bank's thinking said, "With price and wage increases remaining moderate, the Bank of Japan will raise rates gradually, not hastily." This view was echoed by two other sources familiar with the matter.

Keep interest rates unchanged and first examine the effects of rate hikes.

At its two-day policy meeting concluding on Friday, the Bank of Japan (BOJ) is expected to vote by a majority to keep its policy rate unchanged at 1.25%, abandoning consecutive rate hikes to allow more time to review the impact of previous rate increases on lending conditions. In its quarterly report released after the meeting, the BOJ is expected to slightly raise its price forecast for the next fiscal year and suggest that underlying inflation has largely reached its 2% target. With wage growth increasingly stagnant and inflation expectations hovering around 2%, the BOJ is likely to emphasize that it will focus on "anchoring inflation near its target by raising interest rates toward what is considered neutral to the economy." Back in September, when the BOJ raised rates, Governor Kazuo Ueda had already signaled this shift in policy focus, and this latest move marks yet another symbolic farewell to the BOJ's long-term efforts to stimulate inflation with ultra-loose monetary policy.

A historic moment: from "stepping on the gas" to "stepping on the brakes".

"This is a historic moment for the Bank of Japan, but the task it faces now is more challenging; it now has to not only step on the gas but also the brakes," said Naomi Muguruma, chief bond strategist at Mitsubishi UFJ Morgan Stanley Securities. She added, "The Bank of Japan will likely carefully review upcoming data and market movements to decide whether to raise rates in December or maintain the current pace until January." Analysts surveyed generally expect the Bank of Japan to raise rates to 1.5% in December and maintain its quarterly rate hike schedule.

Financial conditions remain accommodative, with the neutral interest rate range becoming the focus.

Looking back, under then-Governor Haruhiko Kuroda, the Bank of Japan (BOJ) deployed massive stimulus measures in 2013 to help Japan escape deflation and push inflation to its 2% target. Even after ending its unconventional easing policy mix in 2024, the BOJ has remained quite cautious on interest rate hikes, believing that underlying inflation—price changes driven by domestic demand after removing one-off factors—remains below target. Now, persistently high energy costs, coupled with a weak yen pushing up import prices, are further exacerbating inflationary pressures. Following a rate hike in June, the BOJ raised rates again in September, a shorter interval than the roughly twice-a-year pace of 2024 and 2025. The current policy rate of 1.25% falls within the range of Japan's neutral interest rate estimated by its staff, between 1.1% and 2.5%. The neutral interest rate, defined as a level that neither excessively cools nor excessively stimulates the economy, has drawn market attention to how high the BOJ might ultimately raise interest rates. With bank lending growth remaining strong, the Bank of Japan is likely to emphasize on Friday that current financial conditions remain accommodative, suggesting there is still room for further rate hikes before its policy rate reaches near-neutral levels.

Central banks around the world hold interest rate talks, with a growing wave of hawkish sentiment.

The Bank of Japan's meeting follows closely on the heels of the Federal Reserve's. The Fed is expected to skip a rate hike at its two-day meeting ending Wednesday, while the European Central Bank is also expected to keep its rate unchanged at 2.5% on Thursday. If the Bank of Japan does indeed adopt a hawkish tone, the scenario of all three major central banks raising rates before the end of the year will become clearer.

Conclusion

From vigorously stimulating inflation to shifting towards curbing inflation overshooting, the Bank of Japan is completing a historic policy turnaround. The 2% target seems within reach, but the timing and pace of "applying the brakes" are destined to be more delicate than "stepping on the gas"—whether the window for a December rate hike will truly open amidst global inflationary disturbances and market sentiment remains to be seen.