By Leika Kihara
TOKYO (Reuters) - The Bank of Japan is expected to keep monetary policy steady on Thursday, as rising global protectionist sentiment and an expected series of U.S. interest rate hikes overshadow budding signs of recovery in the trade-reliant economy.
While a rebound in fuel costs is set to accelerate price growth in coming months, BOJ Governor Haruhiko Kuroda is likely to stress that no immediate rate hike is on the horizon with inflation still nowhere near his ambitious 2 percent target.
But he may leave open the chance of raising the BOJ's target for the 10-year bond yield if the economic recovery gathers enough momentum to push prices steadily higher, analysts say.
"I see no change in policy, but the key is Kuroda's message at the press conference. If asked, I think Kuroda will say that if the situation merits he is willing to adjust the 10-year yield target in the future. I think he will be flexible," said Masamichi Adachi, senior economist at JPMorgan Securities.
"I think the BOJ will raise the 10-year yield target in October, because inflation would be around 1 percent by then."
At the two-day rate review ending on Thursday, the BOJ is widely expected to maintain its short-term interest rate target of minus 0.1 and a pledge to guide the 10-year government bond yield <JP10YT=RR> at around zero percent via aggressive asset purchases.
Analysts also expect the BOJ to keep intact a loose pledge to maintain the pace of its annual increase in Japanese government bond (JGBs) holdings, which is 80 trillion yen ($696.62 billion).
Kuroda, who will attend this week's Group of 20 finance leaders' meeting in Germany, may also shed light on how the BOJ will defend its ultra-loose policy from any U.S. criticism it is exploiting a weak yen to gain a competitive trade advantage.
Japan's long-stagnant economy has shown signs of life in recent months, with exports and factory output benefiting from a recovery in global demand.
Core consumer prices rose for the first time in over a year in January and many analysts expect inflation to accelerate toward 1 percent later this year, due largely to a rebound in energy costs and rising import prices from a weak yen.
That has led to a dramatic shift in market expectations with a majority of analysts polled by Reuters predicting the BOJ's next move would be to start scaling back its ultra-easy policy.
Some analysts say the BOJ may be forced to raise its yield target to avoid ramping up bond purchases if Japanese long-term interest rates track global bond yield rises, which are being driven by expectations of higher U.S. interest rates.
The BOJ hopes to dispel such speculation and stress it won't raise its yield target unless the economy strengthens enough to accelerate inflation stably toward 2 percent, say sources familiar with its thinking.
Many BOJ officials say while they are more confident about prospects for Japan's economic recovery, they see more to fret about on inflation due to slow wage growth, which is holding back consumer spending.
A rising global tide of protectionism is adding to concerns for Japanese policymakers, given the economy's heavy reliance on exports and free trade.
A draft communique of the G20 finance leaders' meeting appeared to accommodate U.S. President Donald Trump's protectionist views on trade by watering down a commitment to "reject all forms of protectionism."
Trump also criticized Japan for using "money supply" to weaken the yen and gain an unfair trade advantage. Japanese policymakers have argued that they were playing by G20 rules to use monetary policy only for domestic purposes.
Kuroda may offer clues on how Japan will defend its policies and how strongly it would push back against attempts to water down the G20 commitment on free trade, analysts say.
(Additional reporting by Stanley White; Editing by Kim Coghill)