June 13 (Bloomberg) -- The Bank of Japan is watching the risk that higher oil and food prices will threaten economic growth as well as fan people's inflation expectations, Governor Masaaki Shirakawa said after the central bank kept rates on hold.

Shirakawa and his six colleagues left the overnight lending rate at 0.5 percent, the lowest among major economies, in a unanimous vote today in Tokyo.

Signs that higher prices are squeezing company earnings prompted the government to say this week that the nation's longest postwar expansion may be over. The bank today cut its evaluation of exports and corporate profits as a global slowdown crimps demand and surging costs erode margins.

``The Bank of Japan has no choice but to take a wait-and- see stance,'' said Yasunari Ueno, chief market economist at Mizuho Securities Co. in Tokyo. Economic conditions ``rule out the possibility of raising rates, while a rate cut is difficult because the governor has repeatedly said monetary conditions are accommodative.''

The yen traded at 107.97 at per dollar at 5:16 p.m. in Tokyo from 107.65 before the rate decision was announced.

Companies are being forced to pass on higher costs as margins are suffering from elevated commodity prices, slowing growth. Price increases alone haven't been able to absorb the costs, causing profits to drop at the quickest pace in six years last quarter.

Terms of Trade

``We must watch the downside risk that deteriorating terms of trade will erode incomes and hurt domestic demand,'' Shirakawa said at a press conference after today's policy decision. ``We need to monitor upside risks for prices relating to consumers' inflationary expectations and companies' price- setting actions.''

Producer-prices rose 4.7 percent in May, the fastest pace in almost three decades, the central bank said this week. Consumer prices advanced 0.9 percent in April, close to the fastest pace in a decade.

The bank kept its assessment of the economy unchanged in its monthly report today, reiterating that growth is slowing.

Recent data suggest the world's second-largest economy is cooling even after growth surged at an annual 4 percent rate in the first quarter. Household spending had its biggest drop in 19 months in April, factory production slumped and the unemployment rate rose in the month.

The country's economic expansion will probably slow to ``near zero'' this quarter, according to Takehiro Sato, chief Japan economist at Morgan Stanley in Tokyo.

Put Weight

``The Bank of Japan will continue to put weight on the economy's downside risks unless it finds signs'' that costlier oil and food spur overall inflation, Sato said. ``All the bank can do is to wait and see until the uncertainty in the economy is cleared.''

Only three of 34 economists who gave predictions through December said the bank will raise rates this year. The remaining 31 expect no change.

Higher inflation around the world is forcing Shirakawa's colleagues to signal rate increases. Federal Reserve Chairman Ben S. Bernanke last week indicated the bank has finished cutting rates for now to fight rising prices.

European Central Bank President Jean-Claude Trichet said on the next day that the ECB may raise interest rates as soon as next month.

Their stance changes may make it easier for the Bank of Japan to raise borrowing costs, which Shirakawa has said are ``very low'' and ``extremely accommodative.''

``The monetary policy stance may change towards the end of the year, not only in the U.S., but also in Japan,'' Teizo Taya, an adviser to Daiwa Institute of Research in Tokyo and a former Bank of Japan board member, said in an interview with Bloomberg Television. ``There is the possibility that not only the U.S. but also Japan may start tightening their policy grip within the year.''

To contact the reporter on this story: Mayumi Otsuma in Tokyo at motsuma@bloomberg.net

Last Updated: June 13, 2008 04:47 EDT