(Bloomberg) -- Bank of Japan Governor Kazuo Ueda will likely face a tougher political environment in the second half of his five-year term starting Thursday after the ruling party leadership victory of Sanae Takaichi, a critic of interest rate increases.

Ueda already faces a dilemma. The central bank appeared to be laying the groundwork for its first interest rate hike since January later this month. Now, following Takaichi’s win, if Ueda goes ahead with an increase he risks antagonizing a premier who might then seek more sway over the BOJ’s decisions going forward.

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If he stands pat, as suggested by one of Takaichi’s economic advisers, analysts may conclude that he is already pushing back a hike in response to Takaichi’s victory. That might cause the yen to weaken further, presenting both Ueda and Takaichi with a currency issue and a wait of almost two months until the next policy meeting.

Ueda may find the latter half of his term is marked not just by how far he can raise rates, but also by his ability to maintain the central bank’s boundaries of independence.

“I had sensed an increasing chance of an October hike with recent solid economic data and policy signals from the BOJ,” said Tsuyoshi Ueno, chief economist at NLI Research Institute. “But with Takaichi’s win, that risk has dissipated. Hiking will be tougher going forward.”

There’s little doubt over Ueda’s drive to clear up the remains of the BOJ’s massive stimulus program as the nation gets used to the return of inflation.

He has already largely exceeded expectations by scrapping the bank’s manipulation of bond yields, reining in its colossal bond-buying and stopping its purchases of other risk assets. He also has a plan to offload exchange-traded funds, and all this before reaching the halfway point of his term.

Throughout this time, he’s essentially been untroubled by government policymakers. Raising rates from negative territory at a gradual pace has made sense to a lot of people in the face of ongoing inflation.

Enter Takaichi. Last year, she described BOJ moves to raise rates as “stupid,” a comment that left investors with the impression she will put a brake on rate hikes should she become prime minister. She is expected to be voted in as premier in a parliamentary vote in mid-October.

“Ueda has done well in the first half of the term but his challenge will get even more formidable with Takaichi,” Ueno said. “The BOJ will need to worry if Takaichi wants to weigh in every time they consider a policy change.”

Takaichi’s victory triggered a plunge in traders’ views for the chances of a BOJ move this month. After two board members called for a rate hike in September and a dovish member made hawkish comments, overnight swaps a week ago were putting a 68% chance on an increase in October. On Tuesday they indicated little more than a 20% possibility.

That revised view was reinforced by one of Takaichi’s economic advisers on Monday. Etsuro Honda told Bloomberg that a hike this month is likely too early. He said Takaichi wanted the central bank to proceed “cautiously” with rate increases, though he also said a quarter percentage increase in December is fine.

Honda is known as a prominent architect of Abenomics, the flexible spending, easy monetary policy and structural reforms of Takaichi’s mentor, former Prime Minister Shinzo Abe. At the beginning of Abenomics, the BOJ and the government reached an agreement to overcome deflation with goals such as the 2% inflation target, while leaving the details and approach to the central bank. That agreement is still in place today.

Honda said there was no rush to update the accord, but Takaichi’s reference to possible change shows the future of relations between the central bank and the government is potentially up for consideration.

So far Takaichi has toned down her messaging on both the BOJ and her spending plans. While markets responded Monday with a jolt of weakness in the yen and an uptick in super-long bond yields, they were in a calmer state on Tuesday.

That’s partly because Takaichi has appointed two former finance ministers, Shunichi Suzuki and Taro Aso, to senior party positions. Their presence suggests it’s unlikely she will embark on spending plans or tax cuts without a green light from the finance ministry establishment.

Some economists also see any concerns over the BOJ’s independence as overblown.

“We have to see what Takaichi has to say about monetary policy now but it’s just hard to imagine that the BOJ would hold off from a rate hike for several months even though they think they should move,” said Seisaku Kameda, former BOJ chief economist and now executive economist at Sompo Institute Plus.

Debate over the timing of rate hikes shows how much progress Ueda has made.

When Ueda took the helm on April 9, 2023, BOJ watchers thought it close to impossible for him to achieve the 2% inflation target and unwind the most aggressive monetary easing program in modern history without roiling markets with each change. Dismantling the stimulus framework might take his whole term, some thought.    

Ueda has outperformed those expectations using a professorial communications style to convey the BOJ’s thinking in his own words, rather than repeating policy dogma.

“It probably helps that he is showing through his actions that he is trying to communicate and not aiming to surprise,” said Ayako Fujita, chief Japan economist at JPMorgan Securities.

Ueda has ramped up the BOJ’s messaging after global market gyrations in summer 2024. A rate hike that came unexpectedly for some investors at that time contributed to a market meltdown, though the main cause appeared to be US data changing expectations for the Federal Reserve policy path.

Both Takaichi and Ueda will need to keep an eye on US policy going forward, including the views of the Fed and President Donald Trump, especially if the yen weakens more.

Trump has repeatedly argued that Japan is manipulating its currency for its own good. US Treasury Secretary Scott Bessent told Bloomberg in August that the BOJ is falling behind the curve in highly unusual comments for a person in his position.

“It was fine if Japan was still in deflation but surrounded by a weak yen, President Trump and inflation, it’s challenging for Takaichi to stick with what she has said,” NLI’s Ueno said.

JPMorgan’s Fujita sees a risk the BOJ may make the same mistake as the Fed and allow inflation to get too elevated without action. There are also concerns about Ueda’s plan for selling exchange-traded funds down the road. Taking more than a century seems too long for many economists and politicians.

Kameda, the former BOJ economist, said there’s also a good chance the BOJ will have to adjust the pace of its tapering of bond purchases if yields rise sharply on extra spending plans under Takaichi.

“We have to admit that Ueda has done very well in unwinding the BOJ’s massive monetary easing program,” said Kameda. “But the challenges aren’t over. The fire is still smoldering.”

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