Former chief urges Bank of Japan: If you don't want inflation to become a disaster, raise interest rates immediately!

Golden Ten Data

The inflation upward risk triggered by the Iran conflict is continuously increasing, and the Bank of Japan’s rate hike this month is under consideration! If the central bank chooses to “stand pat” due to political considerations, a yen sell-off storm could occur.

The former chief economist of the Bank of Japan stated that the Iran war is raising the upside risk of inflation, providing strong support for the Bank of Japan to raise interest rates as early as this month.

Toshitaka Sekine, the former chief economist, said in an interview on Wednesday, “If it’s just to assess the situation, I think taking action in April is entirely feasible. At least until the end of April, we will be able to see whether the aftermath of the Middle East situation is short-term.”

Although experts are still debating whether this geopolitical shock will lead to inflation or deflation for resource-scarce countries like Japan, Sekine’s remarks indicate that the Bank of Japan may be more determined to hike rates when setting policy on April 28.

Sekine served at the Bank of Japan for over 30 years (until his departure in 2020), and he speculates that officials at the Bank are likely to share his view. The brief record of the March policy meeting clearly shows that concerns about inflation risks are growing among committee members.

Sekine pointed out that Japanese households have faced inflation above the Bank of Japan’s 2% target for four consecutive years, and now the Iran conflict could trigger a supply shock that pushes inflation higher. The Cabinet Office of Japan estimated that a $10 increase in oil prices could raise inflation by up to 0.3 percentage points. Since the outbreak of the war, oil prices have surged by about 50%.

“Unlike when I was at the Bank of Japan, since 2022, we have actually experienced an overshoot of inflation,” Sekine said. “Considering this, if another supply shock could cause prices to spiral out of control again, I personally would lean toward raising interest rates.”

Traders estimate that there is about a 70% chance the Bank of Japan will hike rates when it meets this month. However, many observers of the Bank of Japan point out that the final decision will depend on how the Middle East situation develops, as Governor Ueda and Omi has promised to closely monitor both upside and downside risks to inflation.

“My view is that the upside risks are much greater,” Sekine said. He added that Prime Minister Sanae Takaichi has been increasing fiscal spending to control living costs and is likely to introduce more follow-up measures. He noted that this could, in turn, create inflationary pressure from the fiscal side.

Takaichi has signaled that she prefers to slow down the pace of rate hikes. The key now is whether, amid a clouded economic outlook, the Prime Minister will try to prevent borrowing costs from rising.

However, Sekine warned that if the Bank of Japan neglects its responsibility to stabilize inflation for political reasons, the costs could be extremely severe, as financial markets might react violently.

“One likely scenario is that foreign investors will sell yen aggressively, leading to further yen depreciation,” Sekine said. “Coupled with rising oil prices, this would push inflationary pressures to an extremely uncomfortable level.”

Sekine is currently a professor of economics at Hitotsubashi University. He has full confidence in Governor Ueda, who is an academic by background, believing he will take all necessary actions. After all, even in the face of widespread market skepticism, Ueda successfully reduced the central bank’s large-scale monetary easing before.

“For Governor Ueda, this is a critical test moment, even if he may not welcome this situation,” Sekine said. “Historical experience shows that inaction by a central bank can lead to disastrous consequences, and Ueda is well aware of this.”