The Bank of Japan (BOJ) kept its benchmark rate at 0.5%

The Bank of Japan (BOJ) appears ready to edge closer to another rate hike, with growing divisions among board members fueling speculation that a move could come as soon as October.

The BOJ, at its meeting on Sept. 18-19, left its official rate unchanged at 0.5%. However, the summary released on Tuesday of the discussions that took place at the meeting stated that two of the nine board members favored a hike. One argued that it may be appropriate to raise the policy interest rate again.

Others pushed back, cautioning that the U.S. economy could suddenly slow down even more than anticipated, with spillover effects on Japan. For now, the board has consented to proceed with caution.

Dissent shakes up expectations

Markets responded almost immediately to the release of the meeting’s record. The yen weakened against the dollar, highlighting investors’ jitters about Japan’s policy direction. Yields on government bonds ticked higher as traders priced in the probability of tighter monetary conditions to come.

Market bets shifted quickly, with the overnight swap index now implying a 70% chance of a BOJ rate hike on the date of the Oct. 30 deal. Just weeks ago, the odds of such a move were likely closer to 40%, indicating how quickly things have turned on a dime.

The surprise wasn’t only the dissent itself but its source. One of the most dovish policymakers at the BOJ, board member Asahi Noguchi, said this week that the desirability of a rate rise was “more than ever.” Noguchi had resisted the pressure for years, as he warned against crimping growth. His move reflects a growing anxiety within the board about the perils of leaving policy too loose in an environment of persistent high inflation.

This opposition is a turning point, analysts say. Amid inflation that is running faster than the BOJ’s 2% target and wage settlements showing momentum, the case for normalization is building. But the board is hardly united. Others remain wary, citing soft household spending and global risks that could hinder Japan’s fragile recovery.

The move means that Governor Kazuo Ueda, the first academic to head the BOJ when he took charge last year, is facing his sternest test yet. His style so far has been one of gradualism, indicating that Japan is moving away from ultra-loose policy, but doing so carefully, with small steps. The division among the board, though, underscores just how fragile that consensus has grown.

Investors and economists now view October as a pivotal time. And if the BOJ doesn’t do something by then, pressure will mount. It’s not a matter of whether Japan raises rates again, but when it will do so.

BOJ keeps rate unchanged for now, door ‘open’

The BOJ has left its rate unchanged since July, when it raised it for the first time in 17 years. Inflation has persistently exceeded its 2% target, primarily driven by increases in the prices of food and energy. The bank has stated that wage growth would need to be well underway before it could feel confident committing itself to higher rates.

The bank also signaled at the September meeting that it would gradually unwind its holdings of exchange-traded funds (ETFs) and real estate investment trusts (REITs). Markets interpreted that as another signal that the BOJ is inching closer to normalisation.

Still, uncertainty dominates. The global outlook is also shaky, with China slowing and the U.S. economy sending mixed signals. Many BOJ policymakers want to see the figures before making a decision. The Tankan survey of business sentiment, out next week, and regional economic reports could guide the October decision.

So far, the BOJ is holding still while leaning forward. With inflation stubborn and dissent growing, October may mark a turning point in Japan’s nearly 10-year experiment with near-zero rates.

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