IMF says BOJ could enhance yield flexibility before price goal met

The IMF logo is seen outside the headquarters building in Washington

By Leika Kihara

TOKYO (Reuters) - The Bank of Japan could consider steps to allow bond yields to move more flexibly even before inflation durably hits its 2% target, the International Monetary Fund's Japan mission chief Ranil Salgado told Reuters.

Allowing long-term interest rates to move more flexibly would allow the BOJ to address both upside and downside risks to inflation, and help iron out market distortions caused by its heavy bond buying, Salgado said in an interview on Thursday.

"We don't see this as really changing the (BOJ's) accommodative stance. It's more to balance some of the impact on the real economy against the impact on financial markets," he said.

"It also makes it easier to begin the transition towards an eventual raising of the short-term rate," Salgado said, adding that steps to enhance flexibility in bond yields could come before the BOJ's 2% price target is durably met.

But a hike in short-term rates is unlikely in the near-term and can be considered only when there is clear evidence that wages will keep rising and help the BOJ achieve its inflation target in a sustainable manner, he said.

"First, you need to be confident that there's strong evidence the 2% target will be durably achieved. That's the key pre-condition" for a short-term rate hike, Salgado said.

"Really, the key is what will happen to wages," he said on how quickly the BOJ can phase out its massive stimulus.

While wages for non-regular workers are starting to rise, the momentum for higher pay has yet to spill over to regular workers under life-time employment, Salgado added.

Under yield curve control (YCC), the BOJ sets a -0.1% target for short-term rates and that for the 10-year bond yield around zero as part of efforts to sustainably meet its price target.

With inflation hitting a 41-year high of 4% and putting upward pressure on bond yields, the BOJ widened the allowance band around the 10-year yield target in December.

In January, it beefed up a market operation tool to defend the newly set 0.5% cap on the 10-year bond yield, a move aimed at extending the lifespan of YCC.

(Reporting by Leika Kihara; Editing by Sam Holmes)