REFILE-UPDATE2-BOJ vows timely action after forgoing policy move

(Corrects to add Governor Shirakawa’s first name ‘Masaaki’ in
paragraph 2; corrects spelling of ‘government’ in paragrph 4)
(For more stories on the Japanese economy, click [ID:nECONJP])

* Policy rate on hold at 0.1 pct, no new steps

* BOJ bracing for possible easing next month

* Gov Shirakawa says always considering various options

* Ruling party leadership race complicates policy outlook
(Adds Shirakawa comments)

By Leika Kihara

TOKYO, Sept 7 (BestGrowthStock) – The Bank of Japan stood pat on
monetary policy on Tuesday but vowed timely action when needed,
setting the stage for possible easing next month when it has
clarity on Japan’s political leadership and the strong yen’s
damage to the slowing economy.

BOJ Governor Masaaki Shirakawa said he was not ruling out any
options. But he offered few clues on what exactly the BOJ may do
next and said monetary authorities could not control foreign
exchange rates, triggering yen rises on speculation no aggressive
action was on the horizon.

Government pressure on the BOJ for more aggressive steps will
likely grow in the coming months with the economy expected to
slow and as a leadership battle in the ruling party raises the
chances of looser fiscal policy, analysts say.

Japanese government bonds have tumbled in the last two weeks,
partly due to worries of a possible shift away from Prime
Minister Naoto Kan’s efforts to rein in Japan’s massive public
debt if he loses a Sept. 14 vote for the party’s top spot to
powerbroker Ichiro Ozawa.

Media surveys suggest Ozawa could win and investors are
speculating he may be forced to issue more bonds to keep spending
promises made when the party swept to power last year, although
he maintains the funds can be found by cutting waste and shifting
spending priorities.

“So far, the market expectation is that Ozawa would pursue
more fiscal expansion than Kan, and the market has to some extent
priced in the possibility that Ozawa may become the next prime
minister,” said Makoto Yamashita, chief Japan interest rate
strategist at Deutsche Securities.

“Fiscal expansion can easily be associated with a rise in
government pressure on the BOJ to ease. And there are many market
players who are looking at it that way.”

Others expect the BOJ to come under pressure no matter who
wins next week’s battle to head the Democratic Party of Japan.

“The BOJ has a tricky political road regardless of who leads
the Democrats. Ozawa might pressure the BOJ, but if Kan stays and
there’s no big fiscal stimulus, this could also pressure the
BOJ,” said Frederic Neumann, co-head of Asian economics at HSBC
in Hong Kong.

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For a package on the yen: http://r.reuters.com/nef47n

Package on Japan leadership race http://r.reuters.com/tad39n

For graphics on the yen’s strength, click:

http://r.reuters.com/puw56n

For world interest rates: http://link.reuters.com/ket59n

More stories on the Japanese economy [ID:nECONJP]

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SYMBOLIC GESTURE

It is uncertain whether Ozawa is more keen than Kan to
pressure the BOJ for further action but a close Ozawa aide told
Reuters on Monday that the BOJ was doing too little to fight
deflation. [ID:nTOE68504S]

After easing policy just last week, the BOJ kept interest
rates on hold at 0.1 percent on Tuesday as widely expected and
stuck to its view that the economy was recovering moderately.

But it repeated that it needed to watch out for downside
risks to growth amid heightening uncertainty over the U.S.
outlook, which has jolted currency and stock markets.

It also warned in a statement on its rate decision that it
would take appropriate and timely action when necessary, a point
Shirakawa has made in the past.

“We are always considering various policy options,” Shirakawa
told a news conference. “But monetary authorities are unable to
control currency rates freely … We are carefully watching how
the yen’s rise impacts the Japanese economy.”

The yen climbed against the dollar (JPY=: ) toward a 15-year
high hit last month and surged against the euro (EURJPY=: )
following his comments. [ID:nLDE67N0GQ].

Expectations of further monetary easing have pushed down the
short end of Japan’s bond yield curve, while the long end has
been pushed up by speculation that Ozawa, if he wins next week’s
vote, may take a more fiscal expansionary stance than Kan.

But the yield curve has flattened beyond the 10-year zone
lately as investors hunting for bargains trimmed earlier losses
in the superlong sector, suggesting that the recent sharp rise in
yields may have started to peter out.

Japanese policymakers have tried to talk down the yen and
threatened to intervene in the currency market after its surge to
a 15-year high against the dollar.

The BOJ also stands ready to ease further if the yen lurches
upward at a pace of 1 to 2 percent in a single day. Otherwise,
the bank hopes to wait until next month, when it is seen revising
down its long-term economic and price forecasts in a semiannual
outlook report due on Oct. 28.

The BOJ boosted its cheap loan scheme on Monday of last week,
bowing to government pressure for steps to protect the fragile
recovery. But the move did little to deter yen gains or stock
price falls as investors saw it as a symbolic gesture with little
effect in supporting the economy and beating deflation.

That has led some BOJ officials to believe that bolder action
is needed to send a clearer message to markets that it is
determined to keep the strong yen from harming the economy.

There is no consensus yet on what the next step should be,
but the list of options includes a return to zero interest rates
and an increase in the bank’s government bond purchases.

The BOJ may favour further tweaking its fixed-rate fund
supply tool. But its three-month fund supply operation on Monday
attracted only 4.37 times more bids than the volume offered, the
lowest since the programme was put in place last December,
signalling a waning appetite for cheap funds from banks already
awash with excess cash.
(Editing by Nathan Layne and Edmund Klamann)

REFILE-UPDATE2-BOJ vows timely action after forgoing policy move