According to sources close to the matter, the Bank of Japan is leaning toward raising its benchmark interest rate by 25 basis points this month to counter upside price risks, while keeping the door open for accelerated rate hikes in the subsequent period. The BOJ's policymakers are set to deliberate on lifting the policy rate from 1% at their two-day meeting concluding on September 18, sources familiar with the discussions said.

Sources indicated that officials continue to view inflation risks as tilted to the upside, with rising service prices and sustained yen weakness both reinforcing the case for action. Those with knowledge of the deliberations noted that officials currently see economic developments as broadly aligned with their projections. One source indicated that there has been no significant change in the situation that would warrant a more aggressive move such as a 50-basis-point hike, thereby reducing the likelihood of a larger increase.

Following the news, the yen slipped modestly in active trading, with some traders having apparently positioned for more pronounced currency volatility based on hawkish remarks made by a board member earlier in the week. The dollar was trading around the 157 level against the yen in late Thursday afternoon trading.

The BOJ also recognizes that further rate adjustments may be necessary beyond September and has indicated it will flexibly calibrate the pace of tightening based on economic developments and upside inflation risks, sources said. This implies that the central bank has not ruled out accelerating the tempo of rate increases should circumstances warrant such action.

The central bank's decision will draw unusually close attention from Washington. US Treasury Secretary Scott Bessent, through a series of interviews and statements during this week's G20 finance ministers' meeting, has repeatedly and clearly expressed his desire for Japan to raise interest rates. According to the US Treasury Department, Bessent discussed "the importance of sound policy-setting for stabilizing inflation expectations and avoiding excessive currency volatility" during his bilateral meeting with BOJ Governor Kazuo Ueda.

Overnight index swap pricing suggests investors have already priced in a rate move in two weeks' time. With expectations running this high, the decision itself, whatever it may be, could trigger turbulence in global financial markets. If the September hike materializes, it would come just three months after the June increase, marking the shortest interval between rate moves since Ueda assumed the governorship.

Bessent's comments carry added weight given that on July 31, the United States and Japan jointly intervened to buy yen for the first time in coordinated action since 1998. That move helped the yen recover from near its weakest level in four decades. US support for the yen could make it more difficult for Prime Minister Shigeru Ishiba's administration to pressure the BOJ into slowing the pace of rate increases. However, Ishiba's preference for accommodative monetary policy remains a key uncertainty as to whether the central bank can sustain a faster tightening trajectory.

Speaking to reporters after the G20 summit on Tuesday, Ueda did not attempt to dampen speculation about a September rate increase. He stated that the central bank needs to factor in upside inflation risks when formulating policy. According to economist surveys, Japan's key inflation gauge is expected to move toward the 3% target after government subsidies and other measures helped suppress inflation in recent months. The weak yen and rising oil prices are intensifying inflationary pressures, as Japan relies heavily on imports.

Ueda also noted that data is broadly in line with the bank's expectations, adding that there has been no major change in how monetary policy will be conducted going forward. This suggests this month's increase could be a standard 25-basis-point move. Monetary policy board member Hajime Takata, who voted against the July decision to hold rates steady and supported a hike, suggested on Wednesday that a more substantial increase is also possible. However, barring a significant change in circumstances, a 50-basis-point hike would present significant communication challenges for the central bank.