This year, the Bank of Japan may have the chance to normalize rates, predicts BofA.

• Izumi Devalier of BofA Global Research stated that the Bank of Japan now has an opportunity to bring interest rates "a little bit closer to normal."
• Japan's central bank may temporarily raise interest rates to provide more flexibility for long-term yields, according to the Bank of America's chief Japan economist.
• BOA anticipates that the BOJ will end its negative interest rate policy during its October meeting and increase the 10-year yield target ceiling from 0.25% to 0.5%.

Izumi Devalier of BofA Global Research stated that the Bank of Japan now has an opportunity to bring interest rates "a little bit closer to normal."

Japan's central bank may temporarily raise interest rates to provide more flexibility for long-term yields, according to the Bank of America's chief Japan economist.

In an attempt to combat deflation, Japan introduced negative interest rates in 2016. However, despite this effort, the BOJ has struggled to achieve its inflation target, hindering its ability to raise rates to normal levels.

BOA anticipates that the BOJ will end its negative interest rate policy during its October meeting and increase the 10-year yield target ceiling from 0.25% to 0.5%.

Devalier stated that the near-term focus will be on growth risks, and if we achieve stabilization, we could potentially make the move later in the year.

Domestic activity

The inflation situation in Japan is the key factor enabling the BOJ to proceed with normalization.

"Governor Kuroda's policies have reduced the risks of disinflation or deflation, allowing firms to be less aggressive in raising prices but less likely to cut them due to weak demand or an FX shock," she stated.

Despite surging inflation in many economies, Japan has experienced relatively stagnant consumer prices for years. This lackluster inflation or deflation hinders wage growth and corporate investment, ultimately limiting economic expansion.

Japan's possible shift towards sustained inflation of 1% due to subsiding deflation risks is a "paradigm shift," she stated.

"The new government under Prime Minister Fumio Kishida is less supportive of reflation and aggressive BOJ easing," she said.

Ukraine risks

Despite the developments around Ukraine, the Bank of Japan will remain cautious and consider the downside risks to the global economy.

As a result of the conflict in Ukraine, energy costs have increased due to Western sanctions against Russia, which is the world's third-largest oil producer.

As oil prices increase, there is a possibility that Japan's inflation outlook may be negatively impacted, while growth may be adversely affected. She pointed out that Japan is a net importer of crude oil, with the majority of its supply coming from the Middle East and Russia.

A supply-side shock causing an increase in energy prices will negatively impact growth, according to Devalier.