By Leika Kihara

TOKYO (Reuters) – A future Bank of Japan (BOJ) interest rate hike could affect the country’s sovereign debt rating if firms struggle to absorb rising funding costs, an official at S&P Global Ratings said on Thursday.

Higher borrowing costs could also lead to a downturn in long-term economic growth, S&P said.

Japanese bond yields have crept up on market expectations the BOJ will phase out its yield control policy and start raising interest rates under a new governor who succeeds incumbent Haruhiko Kuroda in April.

While further rises in long-term interest rates could increase Japan’s already large debt burden, such factors are already taken into account in the current “A+” sovereign debt rating, said Kim Eng Tan, senior director of S&P’s sovereign ratings team in Asia-Pacific.

The bigger concern is whether Japanese firms, accustomed to many years of ultra-low interest rates, could absorb higher funding costs that come from tighter monetary policy, he told Reuters in an interview.

S&P expects the BOJ to tighten policy only gradually with the near-term impact on the economy likely limited, Tan added.

But the longer-term effect on Japanese firms and the broader economy is a concern as “we’re now at a stage where interest rates seem to be rising, and there’s quite a bit of uncertainty about how far it will go before it stabilises again,” he said.

Even a 1-2 percentage point increase in interest rates would have a big impact on Japanese firms, particularly those in the service-sector with low profits or high debt, Tan said.

They’ve been used to a very low interest rate environment for quite a while. So it is really the impact on the economy that could potentially have an impact on our ratings,” he said.

S&P currently assigns an “A+” long-term and “A-1” short-term sovereign debt ratings on Japan. The outlook on the long-term rating is stable.

(Reporting by Leika Kihara; Editing by Kim Coghill)