Monetary policy

These factors add up to a BOJ firmly on hold. The overnight rate in Japan remains at 0.50 percent, the last adjustment a 0.25-percent basis-point hike in February.

The next meeting is Nov. 12-13 (the most recent one was Oct. 31, and rates remained unchanged), but given the sluggish pace of growth and the lack of overall inflation, the market expects the BOJ to leave rates alone into 2008.

However, the BOJ wants to normalize interest rates. If the Japanese economy were to slow significantly or even slip into recession, the BOJ would not have many tools to help jumpstart economic growth with interest rates at such low levels.

“A key decision facing the new administration will be the replacement of BOJ Governor Toshihiko Fukui, whose term expires early next year,” Robinson says. “The politics surrounding future BOJ actions have become a little more complicated lately. Governor Fukui still appears adamant that a rate rise is required without delay as part of reducing the interestrate differential between Japan and the rest of the world, and thus stemming the outflow of Japanese yen that has been fuelling global liquidity.

“However, the newly appointed Minister of Finance, Fukushiro Nukaga, has urged considerably more caution, implying in a statement recently he would not look favorably upon a rate increase, and that the cost of borrowing should not be pushed up until deflation is a distant memory,” he adds.