TOKYO :Hiking interest rates only gradually as raw material costs rise could heighten the risk of an upward spiral in wages and consumer prices, the Bank of Japan said in a research paper released this week.
The paper’s publication on Thursday comes as the central bank faces an increasingly complicated policy environment, with inflation at a more than two-year high and U.S. tariffs fanning economic uncertainty.
While the staff papers do not represent the BOJ’s official view on monetary policy, they provide hints on key topics of attention within the central bank in setting interest rates.
The BOJ staff paper, using data from 2002 to 2024, analysed trends in Japan and Europe – which both rely heavily on imported commodities – to study the extent to which rising material costs led to second-round effects on inflation.
In Japan, the pass-through of prices from rising raw materials was more moderate than in Europe, the paper said.
The second-round effects were moderate but sustained in both Japan and Europe, it said.
“Both in Japan and Europe, the initial effects of high raw material costs were the main cause of inflationary trends since 2020. The second-round effects may have heightened the sustainability of price rises,” the paper said.
Central banks typically raise interest rates to avoid second-round effects on inflation, or a state in which initial price shocks like higher energy costs trigger a spiral of rising wages and inflation that could lead to a broad-based, persistent inflationary environment.
A closer look at Japan’s data suggested the BOJ’s slow pace of interest rate hikes could be enhancing the second-round effects on inflation, the paper said.
Structural changes in Japan’s labour market could also be making wages less rigid – or more likely to move flexibly reflecting a tight job market – and enhancing the second-round effects on inflation than in the past, the paper said.
The analysis comes amid heightening attention within the BOJ board on how persistent rises in food and raw material costs could affect underlying inflation, and households’ perception of future price moves.
While uncertainty over U.S. tariff policy has put the BOJ on hold in raising interest rates, Governor Kazuo Ueda has signaled the bank’s resolve to keep pushing up borrowing costs if Japan stays on course to durably hit the bank’s 2 per cent inflation target.
Japan’s core inflation hit a more than two-year high in May and exceeded the central bank’s 2 per cent target for well over three years, keeping it under pressure to resume rate hikes despite economic headwinds from U.S. tariffs.
