Bank of Japan Governor Haruhiko Kuroda said the country's financial institutions have sufficient buffers against losses they may incur from rises in bond yields, as long as the market moves are driven by prospects of an economic recovery.
The central bank will also be vigilant to any signs of overheating of asset prices or excessive risk-taking by financial institutions, the BOJ chief said, adding that there were no signs of that now.
"Japan's financial system as a whole seems to possess sufficient resilience against such shocks as a rise in interest rates and deterioration in economic conditions," Kuroda told a seminar involving academics on Sunday.
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The BOJ unleashed the world's most intense burst of stimulus last month, promising to inject $1.4 trillion into the economy in less than two years via massive asset purchases to meet its pledge of achieving 2 percent inflation in roughly two years.
But the central bank's huge bond purchases have jolted bond markets and sent the 10-year yield to its highest in a year last week, casting a cloud over the effectiveness of its easing that attempts to push down borrowing costs.
Declines in bond prices, and a resulting rise in yields, hurts the value of Japanese banks' huge bond holdings and boosts the cost of funding the country's massive public debt.
Kuroda said estimates by the BOJ in April showed a rise in interest rates by around 1-3 percentage points would not cause major concerns over Japan's financial system, as long as the rise is accompanied by improvements in the economy.
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That is because the economic recovery would lead to increased lending and help improve banks' earnings, he said.
But Japanese banks will take a hit if the rise in interest rates is not accompanied by improvements in the economy and is driven by heightened concern over Japan's fiscal state, Kuroda said, calling on the government to keep up efforts to curb the country's huge debt.
"The BOJ made a clear commitment to achieve its price target. I'd like to call on the government to map out a clear plan to restore Japan's fiscal health and a growth strategy - and most importantly, ask that they be implemented," he said.
The BOJ will also be mindful of any signs of overheating in asset prices and take "appropriate action" if financial imbalances emerge, Kuroda said, suggesting that the BOJ will seek to unwind its ultra-loose policy if the flood of money it is pumping causes an unwelcome asset price bubble.
"There is no sign at this point of excessively bullish expectations in asset markets or in the activities of financial institutions," he added, stressing that current economic conditions do not warrant any tightening of monetary policy in the forseeable future.
The aggressive monetary stimulus launched by Kuroda, which is meant to vanquish 15 years of entrenched deflation by expanding the supply of money at an annual pace of 60 trillion($593 billion) to 70 trillion yen, has sent stocks soaring to 5-1/2-year highs.
But the mood soured in the past week after subdued Chinese factory data and expectations that the U.S. Federal Reserve may unwind its stimulus hit global shares. Tokyo's Nikkei average suffered its worst one-day loss in two years on Thursday.