IMF warns BOJ may need faster rate hikes if inflation overshoots

A senior International Monetary Fund official endorsed the Bank of Japan's monetary normalisation on Friday, but warned that the central bank will need to tighten faster if inflation runs ahead of its forecasts.

Krishna Srinivasan, director of the IMF's Asia and Pacific Department, also urged Tokyo to clarify how it will fund its big spending plans and adopt a medium-term fiscal framework to ease investor concerns about fiscal risk. He spoke to Reuters in an interview on the sidelines of the IMF's annual meetings in Bangkok.

"I would say that they are doing the right thing at this point," Srinivasan said of the BOJ's push to lift its policy rate toward levels judged neutral for the economy.

"If inflation rises faster than expected, you have to start tightening faster because you don't want inflation expectations to get un-anchored. It's data dependent," he added.

The comments come ahead of the BOJ's policy meeting later this month, when the central bank could hold rates steady while flagging hawkish hints that would reinforce prevailing market expectations of a December hike.

Inflationary pressures stemming from the Middle East conflict and brisk demand tied to artificial intelligence were among the key themes policymakers discussed at this week's IMF meetings in Bangkok.

BOJ resolve

BOJ Governor Kazuo Ueda, who attended the IMF meetings, said on Friday the central bank will focus on anchoring underlying inflation around its 2 percent target and will not tolerate an overshoot — reiterating its resolve to keep raising interest rates.

A weak yen is adding to the price picture by boosting the cost of raw material imports. That mounting pressure prompted the BOJ to raise rates to 1.25 percent in September, a 31-year high, following a hike in June. Many analysts expect another increase by year-end.

Japan also conducted a rare, coordinated intervention with the United States on July 31 to prevent the currency's slide toward near 40-year lows from destabilising financial markets.

IMF staff analysis in the Fund's report on Asia's economy found that a large portion of yen moves since mid-2025 had little connection to fundamental factors such as yield differentials, and instead moved in tandem with speculative positions in yen futures.

"Japan has a deep foreign exchange market, so as a first line of defense, they have allowed the exchange rate to move," Srinivasan said.

Asked whether the yen intervention was justified, he said: "Bottom line, I would say that the Japanese authorities are fully committed to a freely floating exchange rate. I've had many discussions with them. So I don't doubt that at all."

Fiscal pressures

Rising global bond yields have also drawn attention at this week's IMF meetings as debt in advanced economies, including Japan, expanded after years of heavy spending.

Markets worry that Japan may add to an already huge debt pile with the administration's big spending plans and a two-year cut to the consumption tax due to begin in April next year.

Srinivasan noted that Japan has in fact achieved more fiscal consolidation than any other G7 country since the pandemic, helped in part by rising tax revenues.

"Markets are concerned about the fiscal risks because of the uncertainty" over how Japan would pay for the fresh spending and tax-cut plans, he said. "Japan also would benefit from having a medium-term fiscal framework."