TOKYO (Reuters) – Japan’s central bank raised interest rates for the first time in six years on Friday, lifting its key rate to 0.25 percent from zero and affirming the end of a long era of deflation and economic stagnation.
The Bank of Japan joined central banks in the United States and Europe that have already embarked on a credit-tightening cycle, although Japanese interest rates remain minuscule and are likely to stay low for a long time yet.
“We are finally entering a period of having interest rates,” BOJ Governor Toshihiko Fukui told a news conference. “That is a delightful moment for the future of the Japanese economy.”
Fukui sought to reassure politicians and markets that the BOJ would be cautious about any further rate hikes. The central bank had “no intention” of raising rates at consecutive meetings, he said, a practice that the U.S. Federal Reserve has followed for two years.
In a statement accompanying its decision, the BOJ said “very low interest rates will probably be maintained for some time.” Keeping interest rates at zero, however, might have caused disruptive swings in the economy and prices, it said.
Markets had largely factored in the rise in the overnight call rate, but the yen fell on confirmation that it would be a while yet before Japan’s interest rates caught up to those in the rest of the world.
The Nikkei share average closed down 1.67 percent as worries resurfaced about the impact of high oil prices — another factor that could deter the BOJ from raising rates aggressively.
“This is a historic event,” said Paul Sheard, chief economist at Lehman Brothers. “Barring the hike in August 2000, which turned out to be a false start, the last time that the bank started a tightening cycle was May 1989.”
Still, the impact of the rate rise on the economy is likely to be minimal, said Mamoru Yamazaki, senior economist at HSBC Securities. “Looking at the pace in price increases, I don’t expect the next rate rise until the January-March quarter.”
At his news conference, Fukui repeated that he intended to stay in his job despite a public outcry over his links to an equity fund whose manager has been indicted for insider trading.
“I have caused a fuss and made some people worried,” he said, but added that he wanted to keep fulfilling his responsibilities.
While the scandal did not stop the BOJ from raising rates, it could resurface now that the decision is out of the way. Opinion polls show about 70 percent of the public want Fukui to quit.
The end to the abnormal interest rate regime is a feather in the cap of Prime Minister Junichiro Koizumi, who took office in April 2001 pledging painful reforms to fix the stagnant economy.
“In a certain sense, it’s a recognition of all the things that have been accomplished in the last few years,” said Robert Feldman, chief economist for Japan at Morgan Stanley.
Koizumi will step down in September.
While risks such as financial market volatility and a slowdown in the U.S. economy remain, the BOJ appears confident that Japan’s economy is headed for a long recovery.
Japan is now enjoying its second-longest period of growth of the postwar period. The economy grew at an annualized rate of 3.1 percent in the January-March quarter.
As well, consumer prices have been rising for seven months, after more than seven years of deflation that had been blamed for crimping consumer spending and corporate investment.
Finance Minister Sadakazu Tanigaki, who had again urged caution ahead of the BOJ decision, said afterwards that it was too early to discuss raising interest rates further.
The finance ministry is concerned that higher interest rates will raise the costs of funding the massive state debt, which is expected to rise to 775 trillion yen ($6.8 trillion) by next March, or some 150 percent of gross domestic product.
Government officials also want to avert the nightmare of the BOJ’s last rate rise in August 2000. That increase, also to 0.25 percent from zero, coincided with the bursting of the dot-com bubble and was followed by an economic slump.
Unlike in 2000, government representatives at the policy-setting meeting did not formally ask the board to delay its decision. The independent board does not have to heed government requests in any case.
Overnight call money rates, the BOJ’s target, jumped in anticipation of a hike, prompting the central bank to pump the equivalent of $13.9 billion into the money market.
With a rate rise seen as a done deal, much of the market’s focus had been on how much the BOJ would raise the official discount rate, which it uses for its Lombard lending to banks.
The BOJ hiked the rate to 0.4 percent from 0.1 percent. Market participants had expected the BOJ to lift that rate to somewhere between 0.35 and 0.5 percent.
Lombard lending can supplement interbank lending for borrowers who are unable to tap money from the markets.
The BOJ paved the way for a rate rise in March when it scrapped its five-year-old “quantitative easing” policy of flooding the banking system with excess funds, reverting to a conventional policy of controlling short-term interest rates.
An overnight call rate of 0.25 percent still pales in comparison with key rates in other big economies.
The U.S. Federal Reserve has raised rates 17 straight times since mid-2004 to 5.25 percent, while the European Central Bank has raised rates three times since December to 2.75 percent.