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Japan central bank bows to pressure, maintains interest rate at 0.25 percent

The Bank of Japan (BOJ) decided against raising its ultra-low interest rates yesterday in the face of fierce political pressure, backing down in a standoff that has put its credibility into question.

After a week during which government officials had lined up to publicly urge the central bank not to gamble the economy's future with a premature rate rise, the BOJ left its key rate steady at 0.25 percent.

But the policy board was split for the first time in almost a year, with three of the nine members voting against the decision, which was widely seen as a case of the Bank caving in to government pressure.

"Basically the politicians have hijacked a pretty well communicated agenda and timetable by the BOJ," said Stefan Rheinwald, head of research at the investment bank CLSA Asia-Pacific Markets.

"I think it's an unnecessary mess. It will harm sentiment," he warned. "Everybody will see that the reason for the delay is politically driven."

The BOJ, which has independence in setting monetary policy, raised interest rates to 0.25 percent in July, ending its five-year policy of keeping borrowing costs effectively at zero in a bid to boost the economy.

Bank Governor Toshihiko Fukui has since warned of the dangers of continuing too long with what he sees as such extraordinary measures, arguing for a need to return to a more normal monetary policy stance.

But the central bank faced a chorus of calls from the government not to act too hastily for fear of derailing the economic recovery.

The result was a topsy turvy week for financial markets as investors reacted to conflicting reports saying first that the BOJ would raise interest rates this month and then that it had decided not to.

"The BOJ suffered from government pressure," said Toru Umemoto, chief foreign exchange strategist at Barclays Capital in Tokyo, adding that it would also be hard for the central bank to raise interest rates next month.

He said the BOJ's decision had "weakened its credibility."

Economic and Fiscal Policy Minister Hiroko Ota had earlier urged the Bank to leave interest rates unchanged for now.

The secretary general of the ruling Liberal Democratic Party, Hidenao Nakagawa, went further, calling on the government to invoke its right to officially ask the central bank to delay a vote on a rate rise.

Markets and the government are nervous that the central bank could repeat its blunder of August 2000, when it raised interest rates too soon and was later forced to reverse the decision as the economy hit the skids.

Japan, which for years was beset by stagnant growth, on-off recessions and a downward price spiral, is now in the midst of its longest sustained expansion since World War II.

But inflation remains tame, with core consumer prices up just 0.2 percent in November from a year earlier, while consumer spending remains sluggish.

"Consumption has been on an increasing trend, although the pace of increase has been only modest," the BOJ said in a monthly report released yesterday.

It said developments in Japan's economy had deteriorated slightly since its twice-yearly outlook reported released in October, mainly due to the negative impact on consumption of unfavorable weather conditions.

"Looking ahead, however, the economy is expected to develop broadly in line with the outlook, as a virtuous circle of production, income, and spending is likely to remain intact," it added.
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