TOKYO The Bank of Japan is set to keep monetary policy steady on Friday and signal its confidence in a strengthening economy, as a tightening job market and solid global demand build a growing view that the recovery is gaining momentum.
But Governor Haruhiko Kuroda is likely to reassure markets the BOJ will still lag well behind the Federal Reserve in dialing back its massive stimulus program, with inflation far from reaching the BOJ's 2 percent target, say sources familiar with its thinking.
"Inflation is weak now, so I don't think the BOJ is ready to move up its interest rate targets," said Makoto Yamashita, chief rates strategist at Deutsche Securities in Tokyo.
At a two-day rate review ending on Friday, the BOJ is widely expected to maintain its pledge to guide short-term interest rates at minus 0.1 percent and the 10-year government bond yield around zero under its yield curve control (YCC) policy.
Many central bank policymakers also prefer to maintain a loose pledge to keep increasing its bond holdings at an annual pace of 80 trillion yen ($729.33 billion), the sources say.
The BOJ's meeting comes in the wake of the Fed's rate review on Wednesday, where it raised interest rates for the second time in three months and laid out an outline of a plan to reduce its massive balance sheet.
Growing signs of life in Japan's economy have presented a fresh communication challenge for the BOJ, pushing it to be clearer with markets on how it might withdraw its stimulus - without sounding as if such an action is imminent.
Sources have told Reuters the BOJ will upgrade its already upbeat economic assessment either at its rate review on Friday or in July, as it sees the benefits of an export-driven recovery broadening and pushing up domestic demand.
But inflation remains disappointingly low, making BOJ officials wary of releasing too much detail on how the bank may exit its ultra-loose policy in the future.
Core consumer prices rose just 0.3 percent in April from a year earlier, as companies remain cautious of raising prices for fear of scaring away price-sensitive households.
Still, BOJ policymakers see an increasing need to enhance their communication on a future exit strategy given growing calls for more disclosure.
Market players are consequently focusing on Kuroda's post-meeting briefing at 3:30 p.m. (0630 GMT) for any new insights into what might trigger a future hike in the BOJ's bond yield target.
Kuroda is also expected to be grilled at the briefing on the consistency between the BOJ's 80-trillion-yen bond-buying pledge and a recent slowdown in actual bond purchases.
While the BOJ argues it still has plenty of bonds to buy, many analysts expect its bond-buying program to reach a limit with the bank already owning more than 42 percent of the market.
Indeed, recent data showed the BOJ's bond buying has slowed considerably in recent months. Analysts expect the BOJ to slow the pace further to around 60 trillion yen by year-end and to omit the 80-trillion-yen pledge from its policy statement.
BOJ officials say the bond-buying commitment has become obsolete because under YCC adopted last September the bank targets rates rather than the pace of money printing.
But they remain wary of removing the bond-buying commitment too soon out of on concern that doing so could be misinterpreted as laying the grounds for an imminent withdrawal of monetary support.
($1 = 109.6900 yen)
(Reporting by Leika Kihara; Editing by Eric Meijer)