By Leika Kihara

WASHINGTON (Reuters) – The Bank of Japan is expected to keep interest rates ultra-low next week and likely signal a less dovish policy outlook due to waning U.S. recession fears and the need to prevent speculators to push the yen down too much. .

After ending a sweeping decade-long stimulus program in March, the BoJ signaled its intention to continue raising interest rates from their lowest levels. But he was forced to water down his hawkish message and pledge to slowly raise, or even pause, interest rates after the July hike was blamed for triggering the market rout.

Although the BoJ appears in no rush to raise rates, any return to a less dovish stance would underline its willingness to leave room to maneuver on the timing of the next decision, analysts say.

It could also help prevent the yen, which has recently started to fall again, from hitting new lows and hurting already weak consumption by raising the costs of fuel and food imports.

“As the yen falls again, the BoJ will likely try to avoid sending a message that appears too dovish,” said Ryutaro Kono, chief Japan economist at BNP Paribas.

At the two-day meeting ending October 31, the BoJ is largely expected to keep short-term interest rates steady at 0.25%.

In a quarterly report to be released after the meeting, the board also appears to make no major changes to its forecast that inflation will hover around 2% until early 2027.

Recent domestic data has largely supported the BoJ’s view that rising wages and the prospect of sustained wage increases support consumption and encourage more businesses to raise prices not only for goods but also for services .

The intensifying labor shortage also reinforces expectations that companies will continue to raise wages next year, say three sources familiar with the BoJ’s thinking.

“The Japanese economy is on track to recover,” one of the sources said. “Prices are likely to continue to rise as many companies have not yet fully passed on the rising costs,” another source said.

The BoJ could reflect this progress on wages and prices in its report, underscoring its belief that the precondition for further rate hikes is being put in place.

FIND THE RIGHT BALANCE

Markets will, however, focus more on the BoJ’s view on risks, as Ueda highlighted market instability and US recession fears as main reasons to slow its rate hike trajectory.

After meeting with his counterparts from major economies this week in Washington, Ueda offered a cautiously optimistic view of the outlook for the global economy.

“Optimism about the U.S. economic outlook appears to be broadening somewhat,” although further examination is needed on whether that will be sustainable, he said Thursday.

The BoJ could also drop hints by changing the part of the report on future policy directions. In the current report released in July, the BoJ said it would continue to raise rates if economic and price conditions develop in line with its forecasts.

The board will likely debate whether additional clarification on risks or triggers for policy changes should be included in the guidance, the sources said.

The BOJ ended negative rates in March and raised short-term rates to 0.25% in July, estimating that Japan was making progress towards sustainably achieving its 2% inflation target.

Ueda has repeatedly said the BoJ will continue to raise rates if the economy performs according to his forecasts. But he also said the bank was in no rush as inflation remained subdued.

A slim majority of economists polled by Reuters expect it to forgo a hike this year, although most expect an increase by March.

The IMF on Thursday welcomed the BoJ’s rate hike in July and called on the central bank to raise rates at a gradual pace.

But political uncertainty and the further fall in the yen complicate the BoJ’s communication. Although he wants to move cautiously to avoid upsetting markets, an overly conciliatory tone could give speculators an excuse to sell the currency – a dilemma Ueda acknowledged in Washington.

“When there is a lot of uncertainty, you generally have to proceed cautiously and gradually. But the problem here is that if you proceed very, very gradually and create expectations that rates are going to stay at low levels for a very long time, this could lead to a huge accumulation of speculative positions which could become problematic,” Ueda told an IMF panel on Wednesday.

“We need to find the right balance.”

(Reporting by Leika Kihara in Washington; Additional reporting by Takahiko Wada in Tokyo; Editing by Shri Navaratnam)