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Bank of Japan meets as economic slump, tax delay cast doubt over outlook

Bank of Japan (BOJ) Governor Haruhiko Kuroda walks after meeting with Japan's Prime Minister Shinzo Abe at Abe's official residence in Tokyo September 11, 2014. REUTERS/Toru Hanai

By Leika Kihara

TOKYO (Reuters) - The Bank of Japan is expected to hold policy steady when its two-day meeting ends on Wednesday, but what it has to say about the country's slide into recession may unsettle markets already digesting the government's decision to call a snap election.

Prime Minister Shinzo Abe said on Tuesday he was postponing next year's sale tax hike and calling an early poll to get a fresh mandate for his reflationary economic policies that have so far struggled to show lasting results.

The delay in raising the sales tax stokes worries that the BOJ's ultra-easy monetary stance is bank-rolling an alarmingly high public debt, already the highest among major economies.

Having stunned markets with a surprise monetary easing on Oct. 31, the BOJ now gobbles up almost the same amount of government bonds issued each month, a move critics describe as tantamount to debt monetisation.

In deploying the stimulus, BOJ Governor Haruhiko Kuroda stayed upbeat about the economy, saying the move was aimed at pre-empting risks of a slowdown in inflation.

After Monday's data showed the world's third-largest economy entered recession in the June-September quarter, BOJ board members will likely debate whether they can stick to their view that the economy "continues to recover moderately as a trend".

Pessimists on the BOJ board may call for a bleaker view to be given this time. But any signs that Kuroda's conviction about the recovery is wavering could spur speculation of more easing early next year, analysts say.

"Both prices and the economy are undershooting the BOJ's forecasts. That will heighten market expectations of further easing," said Yoshiki Shinke, chief economist at Dai-ichi Life Research Institute.

Shinke is among a growing number of analysts who see Japan posting negative growth in the current fiscal year ending in March 2015, and now projects a 0.8 percent contraction.

The BOJ cut its growth projection by half to 0.5 percent last month. Many analysts expect a further reduction at a quarterly review in January.

The postponement of the tax hike compounds problems for Kuroda, who already faces an increasingly divided board and markets that are questioning his credibility.

Kuroda had said Abe should go ahead with next year's tax increase, having argued that pain from a first tax hike in April was limited.

(Editing by Simon Cameron-Moore)