BoJ preview: Hawkish pause given new national election but also a jittery bond market

The Yen has remained stubbornly weak above USDJPY=155, despite of converging monetary policies between Japan and the US (Chart 1). In fact, the BoJ raised the policy rate by 25-bps in December, while the Fed eased on the same month. The market probably looked through the tug of war over rate hike between the Japanese government and the BoJ. PM Takaichi’s strong preference on lax monetary policy has undermined BoJ’s endeavor to further normalize, especially when economic uncertainties remain elevated on the back of intensifying political tension between China and Japan.Moreover, the jittery bond market has raised the bar for the BoJ to hike on January 23rd. On the same day, PM Takaichi will dissolve the Lower House and call a general election on February 8th. The market has been concerned about the policy proposals among LDP and oppositions to eliminate the consumption tax on food, which could further deteriorate Japan’s fiscal position. With these developments, the 10-year JGB yield rapidly rose to 2.2%, the highest level in the past twenty-seven years. Because a rate hike could further shake the bond market, the BoJ is expected to decide a status quo at a politically sensitive period.Fortunately, stable import inflation would enable the BoJ to remain on hold this week. In fact, import prices were 0.0% YoY in December, as energy import prices dropped by -11.2% YoY supported by falling oil prices (Chart 2). However, this trend on overall import inflation is likely to reverse in the coming months. The current level of the Yen is much weaker than the middle of 2025 which was around USDJPY=145 (Chart 1). Higher import inflation could further erode consumers’ purchasing power.All in all, the BoJ is expected to remain on hold on January 23rd with a hawkish stance. Governor Ueda could justify its decision so as to examine the effect of a rate hike in December.  There are two other key reasons for the BoJ to pause, namely the upcoming snap election and the jitters in the JGB market. Still the bias is towards one more hike in 2026, especially if the Yen remains weak.