Oil Price Shock and "Second-Order Effects" Coexist as Bank of Japan's April Rate Hike Probability Rises

Earlier this month, the Bank of Japan released a summary of the March monetary policy meeting, indicating that while the bank decided to keep the policy rate unchanged at 0.75%, disagreements within the decision-making body regarding inflation outlook and policy path are significantly widening, with a more hawkish stance than before.
The minutes revealed that several members expressed deep concerns about the sharp fluctuations in energy prices triggered by the Middle East conflict and the potential "second inflationary effects," with some members outright stating that the central bank faces the risk of unintentionally "falling behind the curve."
The minutes clearly show internal tensions within the Bank of Japan. Some members strongly oppose the current easing stance. One member candidly pointed out that, given the current policy rate remains well below the neutral level, if the bank delays policy adjustments, it may be forced to tighten monetary policy rapidly and substantially in the future, which could cause significant economic shocks.
Regarding external shocks from the Middle East conflict, hawkish views believe complacency is not an option. One member suggested that if the conflict prolongs, it will be necessary to consider whether to accelerate rate hikes and shift the financial environment toward neutrality or tightening. The member emphasized that soaring oil prices combined with a weak yen could substantially and persistently push up inflation. If excessive yen weakness leads to rising costs or the "second effects" become more pronounced, resulting in wage increases exceeding expectations, monetary tightening may become necessary.
The BOJ's minutes paid particular attention to the dual impact of rising oil prices on potential inflation: on one hand, a sharp increase in oil prices could worsen trade conditions and drag down the economy, exerting downward pressure on core inflation; on the other hand, sustained high oil prices could, through raising medium- and long-term inflation expectations among households and businesses, push up core inflation in reverse.
The yen's continued depreciation has become a trigger for market anxiety. On the morning of the 30th, the foreign exchange market experienced a tense "160-level battle." After the yen/dollar exchange rate broke below the 160 psychological threshold last Friday for the first time since July 2024, Japanese authorities issued their strongest warning yet today.
Japan’s top foreign exchange official, Masumura Jun, delivered a "shock" during a press conference. Confronted with the serious situation of the yen falling below 160, he candidly stated that speculative selling is accelerating. "If this trend continues, we believe decisive action may be imminent." Masumura’s words were interpreted by the market as a "last warning" before actual intervention. He particularly emphasized that the government’s monitoring extends beyond the forex market to include crude oil futures, implying that authorities are prepared for a "comprehensive response."
Looking back to 2024, the 160 level has been a critical point for Japanese government interventions multiple times. Now, this historic level has once again become a battleground for bulls and bears.
Analysts note that yen depreciation is no longer just a financial issue but a key macroeconomic variable directly related to Japan’s ability to achieve its 2% inflation target.
During a parliamentary Q&A on the 30th, BOJ Governor Ueda Kazuo also signaled a "manageable hawkish stance" to the market. He did not directly promise an immediate rate hike but focused on how the bank manages potential risks during the rate increase process, especially uncontrolled long-term interest rates and exchange rate depreciation pressures.
Ueda Kazuo explicitly stated that the trend of long-term interest rates reflects the market’s overall view of the economy, prices, and policies. He presented a key logic: if short-term policy rates are raised "at an appropriate pace," long-term rates will remain "stable." Conversely, if short-term rates are misadjusted and fail to effectively curb inflation, leading to excessive inflation, then long-term rates also face the risk of "over-adjustment."
This statement can be seen as a direct response to the sharp fluctuations in Japan’s government bond market at the time. Driven by concerns over inflation amid escalating Middle East conflict, yields on Japan’s ultra-long government bonds continued to rise. As of the 30th, the 30-year Japanese government bond yield increased by 9 basis points to 3.79%, and the 40-year yield rose by 11 basis points to 4.02%, with the yield curve steepening. Ueda aimed to reassure the market that the BOJ would use "cautious communication" and "appropriate guidance" to ensure a smooth rate hike process and prevent long-term borrowing costs from spiraling out of control, which could impact the economy.
Despite geopolitical risks creating uncertainty, several institutions, including BNP Paribas and Barclays, believe that the probability of the BOJ raising rates in April is significantly increasing.
BNP Paribas economists pointed out that, despite high uncertainty surrounding the Middle East situation, the March meeting minutes already signaled a clear tightening stance. They believe the key change in Japan’s economic environment is that "the extent to which rising import costs are passed through to prices is very significant."
Barclays economists further confirmed this trend. They noted that while the impact of the Middle East conflict on future rate hikes remains a two-sided risk, "hawkish views are more widespread than we expected." Barclays continues to expect a rate hike by the BOJ in April.
Lei Wang of Thornburg Investment Management pointed out that, because Europe and Japan rely more heavily on energy imports than the US, sharp increases in oil and natural gas prices are enough to push overall inflation higher. "Decision-makers are obviously concerned about the first-round impact of energy," Wang said, but he emphasized the risk of a "second-round effect"—spiraling increases in wages, pricing behaviors, and inflation expectations. Recent data showing a strengthening output gap and price trends further support the case for a rate hike by the BOJ in April.