The Bank of Japan should take a cautious approach to raising interest rates while the government pulls out all the stops to energize the economy, according to a former board member.

Prime Minister Sanae Takaichi¡¯s government should fully utilize fiscal, monetary and tax policy to stimulate demand and realize a ¡°high pressure¡± economy, former BOJ board member Yutaka Harada said in an interview.

¡°Rushing could lead to too much tightening,¡± Harada said, referring to the impact on the economy of rate hikes by the central bank. He attributed ongoing inflation partly to supply-side factors including higher rice prices, adding that further rate hikes would likely only have a limited impact on such cost-driven price pressures.

The BOJ raised borrowing costs to the highest level in 30 years last Friday as it sees the economy edging closer to its price stability goal. While progress in achieving that objective suggests the central bank and government can pull back from stimulating the economy, Takaichi has ramped up spending as she seeks to secure stronger growth, a stance that has unsettled some investors.

Harada said he was in favor of Takaichi¡¯s responsible active fiscal policy and expected productivity in Japan to improve as a labor shortage in a high pressure economy helps improve compensation for workers. Still, the known reflationist expressed concern that tax brackets also needed to be adjusted to account for rising nominal income levels as inflation takes hold.

¡°Many people are paying more tax even though they haven¡¯t become richer in real terms,¡± said the economist, who served as a board member at the central bank through 2020. Japan taxes income progressively across seven brackets.

The Takaichi government is in the final stages of putting together an initial budget for the year beginning in April, after unveiling the largest economic package since the pandemic years.

Harada advised that it¡¯s best to keep necessary spending focused in the initial budget, while extra budgets should be scaled back and restored to their original, limited role.

¡°What spending we need should be dealt with in the initial budget,¡± the former board member said. ¡°We need to address the window dressing that¡¯s going on with extra budgets.¡±

Harada also urged the BOJ to maintain some distance regarding the debate over the neutral rate ¡ª the theoretical level where policy is neither stimulative nor restrictive.

¡°The neutral rate is formed by two elements that are hard to calculate ¡ª the natural rate and expected inflation ¡ª so of course it¡¯s also hard to pinpoint,¡± he said. ¡°If the BOJ focuses too much on the neutral rate it could tie itself in knots, making it difficult to make policy decisions.¡±