By Leika Kihara
TOKYO (Reuters) - The Bank of Japan is expected to cut its inflation forecasts at next week's rate review, sources say, a sign slumping oil prices and a darkening global economic outlook are heightening challenges for hitting its ambitious 2 percent target.
But the BoJ is likely to maintain its upbeat assessment that Japan's economy will keep expanding moderately as global growth is expected to emerge from a soft patch later this year, the sources familiar with the central bank's thinking, told Reuters.
"Oil prices have fallen significantly since the BOJ's previous projections in October and that will affect its upcoming forecasts," one of the sources said.
"But the underlying trend inflation remains solid," the source added, a view echoed by three more sources.
The central bank is widely expected to keep monetary settings unchanged at its two-day rate review ending on Jan. 23, maintaining a pledge to guide short-term interest rates at minus 0.1 percent and long-term bond yields around zero percent.
It will also issue a quarterly report analyzing Japan's economy that will include fresh growth and inflation forecasts through the fiscal year ending in March 2021.
Under the current forecasts made in October, the BOJ expects core consumer inflation to hit 1.4 percent in the fiscal year beginning in April and 1.5 percent the following year.
The BOJ's nine-member board is expected to slightly trim these forecasts to reflect recent declines in oil prices and the potential fallout from slowing global growth, the sources said.
A Reuters poll in December showed analysts expect core consumer inflation to hit 0.7 percent in fiscal 2019, half the level now projected by the BOJ.