Japan Raises Key Interest Rate to Head Off Inflation

Japan said Monday that it was raising its key interest rate by a half percentage point to help prevent an upsurge in inflation.

The increase is the third this year and brings the Bank of Japan’s discount rate to 4.25%, its highest level since early 1986.

“The Bank of Japan hopes that this measure will contribute to sustainable (economic) growth led by domestic demand while maintaining price stability,” central bank governor Yasushi Mieno said.

Finance Minister Ryutaro Hashimoto, who only last week questioned the need for an increase, welcomed the central bank’s move as “timely.”

The discount rate is the rate the central bank charges commercial banks for loans and serves as a guide to other interest rates in the economy.

Although Japan’s inflation rate of about 2.50% remains modest by international standards, the central bank is concerned that pressure for higher prices is mounting.

The weak yen is pushing up prices of goods imported into Japan while rapid economic growth is aggravating labor shortages and encouraging demands for higher wages.

The increase came as no surprise to financial markets following widespread media reports during the past week predicting the move.

The dollar slipped against the Japanese yen Monday morning. Share prices on the Tokyo Stock Exchange rebounded after the rate increase was announced as investors worried by uncertainty over Japan’s interest rate policy returned to the market to buy.

“The rate has been raised and what was casting a shadow over the market has now vanished,” said Tadashi Kawakami, senior trader at broker Merrill Lynch Japan.

The dollar closed at 142.72 yen, down 0.95 yen from Friday’s close of 143.67 yen. After opening at 142.72 yen, the currency never moved higher, changing hands between 141.95-142.72 yen in mixed trading.

On the Tokyo Stock Exchange, the Nikkei stock average of 225 selected issues, which lost 175.11 points Friday, won back 383.25 points, or 0.99%, to close at 38,423.62.

Currency dealers said the dollar’s fall followed its weakness in the New York market Friday, affected by factors such as the weakening U.S. economy and expectations of further easing of U.S. interest rates.

“There is a sense in the market that the yen is too weak despite Japan’s trade surplus,” said a dealer at a major Japanese bank, speaking on condition of anonymity.

Another dealer with the Bank of Tokyo said there was little movement on the exchange market in early trading, as many overseas markets, including those in the United States, closed Monday for the Christmas holiday.

Japan’s central bank seemed set to raise the rate last week but was stopped at the last minute by Hashimoto.

Analysts said Hashimoto was apparently angry that news of the increase was leaked to the press before it was officially announced and so delayed the move.

The rise in the official discount rate will be followed by an increase in commercial interest rates.

The Long-Term Credit Bank and other major long-term credit banks said they would raise their long-term prime rates by 0.3 point to 6.8%, effective Jan. 4.