Souring mood, global headwinds keep Bank of Japan on edge as it debates policy

By Leika Kihara

TOKYO (Reuters) - A souring consumer mood and global headwinds create an uncomfortable backdrop for Tuesday's policy meeting of the Bank of Japan, which prefers to stand pat after its shock January decision to adopt negative interest rates.

Most market players expect the BOJ to maintain its 80 trillion yen ($703 billion) base money target and 0.1 percent negative interest rate, as Governor Haruhiko Kuroda has said he hopes to spend more time assessing the impact of negative rates on the economy.

Many BOJ officials hope to hold off on expanding stimulus now as they scramble to soothe market jitters caused by January's surprise decision.

But even those wary of additional easing fret that heightening risks to Japan's fragile economic recovery could justify further monetary steps to try to reignite growth.

The gloomy economic outlook has left some analysts betting that another easing at the end of a two-day BOJ meeting cannot be ruled out.

"Consumer sentiment is worsening even after the adoption of negative rates and downside risks are heightening not just for prices but for the economy as a whole," said Mari Iwashita, chief market economist at SMBC Friend Securities.

"I don't think the chance of the BOJ taking additional easing steps (on Tuesday) is zero," she said.

With January's negative rate decision having proved unpopular among the public, further rate cuts are seen off the table for the time being, sources told Reuters.

That means any additional easing steps would take the form of a modest increase in asset purchases, some analysts say.

On Monday, a key economic adviser to Prime Minister Shinzo Abe told Reuters that the BOJ is unlikely to ease policy further for the moment as it gauges the impact of the negative interest rate.

The BOJ's nine-member board will also discuss whether to exempt $90 billion in short-term funds from negative rates in a nod to warnings from the securities industry that investment money would be driven into bank deposits.

WORRIES PERSIST

Japan's economy is skirting recession with some analysts projecting a second straight quarter of contraction in January-March as consumer confidence hit a one-year low in February.

Business sentiment worsened sharply in the first quarter and capital expenditure plans were the weakest since 2009, casting doubt on the BOJ's view that its aggressive money printing will spur investment and wage hikes.

Some BOJ officials worry that Japan's recovery may be under threat from cooling global demand and the pain the recent market turbulence is inflicting on business sentiment.

Slumping energy costs have kept inflation distant from the BOJ's 2 percent target while labour unions remain coy in demanding higher pay, adding to headaches for BOJ policymakers.

The BOJ unexpectedly cut a benchmark interest rate below zero in January, stunning investors with another bold move to stimulate the economy.

But the move failed to boost stock prices or arrest an unwelcome yen rise, drawing criticism from lawmakers for confusing, rather than calming, markets.

($1 = 113.7400 yen)