The central bank decides to raise its short-term policy rate to 1% from 0.75%.

The Bank of Japan (BOJ) raised interest rates to a 31-year high on Tuesday (Jun 16), marking another landmark step in normalising monetary policy as it focused on taming price pressures from the energy shock caused by the Iran war.

The hike was the first since December and aligns the BOJ with other central banks shifting towards tighter policy to combat inflation, including the European Central Bank.

Deputy governor Shinichi Uchida acknowledged the recent US-Iranian peace deal, which he described as a “welcome move”, but noted persistent inflationary risks.

“Compared with the previous meeting, the risk of a sharp deterioration in the economy has diminished. On the other hand, price rises are broadening and there is a risk underlying inflation may deviate from our target,” Uchida said in a news conference he held on behalf of governor Kazuo Ueda, who missed the meeting for medical treatment.

In a widely expected move, the BOJ decided to raise its short-term policy rate to 1 per cent from 0.75 per cent, taking borrowing costs to levels unseen since 1995.

In a statement announcing the decision, the BOJ said the risk of Japan’s economy deteriorating sharply from the Middle East conflict has diminished due to progress made in procuring alternative energy supplies.

The price outlook, on the other hand, warranted attention as companies were seen passing on rising oil costs to each other at a “relatively fast pace”, which could push up consumer prices across a wide range of items, it said.

“Taking into account that medium- and long-term inflation expectations have also continued to increase, there is a risk of underlying inflation deviating above our price target,” the BOJ said.

The decision was made by a 7-1 vote. Toichiro Asada, who joined the board in April as the first member to be hand-picked by dovish premier Sanae Takaichi, dissented on the view downside risks to growth from the Middle East conflict were bigger than inflation risks.

“If anything, the focus had been on whether a 50-bp rate hike would be proposed, but no such proposal was made. In terms of the future rate-hike path, this is positive for risk asset prices, as it suggests that a sharp rate hike is likely to be avoided,” said Hirofumi Suzuki, chief FX strategist at SMBC.

“The BOJ is likely to continue raising rates at a gradual pace of around once every six months to one year,” he said.

The Nikkei 225 jumped as much as 1 per cent to set a fresh record high above 70,000 after the announcement. The yen rose briefly before sliding to 160.29 per US dollar, teetering around the 160 line seen as heightening the chance of currency intervention.

The BOJ also decided to pause its bond taper programme from April next year and continue to buy roughly two trillion yen in Japanese government bonds (JGB) per month.

It will discontinue its practice of conducting a review of its bond taper plan each year, but stand ready to amend the pace of purchases if necessary at future policy meetings.