FX.co ★ Former Bank of Japan board member warns delay in tightening could trigger stagflation

Japan risks repeating a historic monetary policy mistake that previously led to multi-year stagnation of its financial system. Makoto Sakurai, a former member of the Bank of Japan’s board of directors, warned that if the central bank continues to keep interest rates at minimal levels for too long, it will be forced to raise them in abrupt, shock-like moves as a result of an uncontrolled surge in inflation. In his view, against the backdrop of rising price pressures triggered by the ongoing conflict with Iran, stagflation is becoming nearly inevitable for the Asian country. Sakurai stressed that the central bank is on the brink of a dangerous threshold and simply cannot decline to tighten policy at the upcoming June meeting.

International analysts currently put the probability of the Bank of Japan raising its policy rate to 1% in June at roughly 80%. A sharp rise in energy costs is the primary pro-inflationary factor and is simultaneously exerting severe pressure on a national economy that depends critically on imported raw materials. At the same time, gross domestic product shows little sign of a robust recovery. Although the economy grew 2.1% year-on-year in the first quarter, analysts expect growth to slow quickly as high fuel costs and logistical disruptions begin to cut the net profits of Japan’s largest corporations.

Additional inflationary pressure is coming from the prolonged weakening of the yen and a worsening labor shortage, which are forcing domestic manufacturers to pass costs on to consumers and to raise retail prices. Projections indicate inflation could reach around 3.5% by fall. Sakurai warned that any delay by the central bank would inflict long-term damage on the economy. The seriousness of the situation is underscored by May data showing physical crude oil imports to Japan have fallen to their lowest level in more than 60 years amid a large-scale supply crisis from the Persian Gulf.