Both young men, now 18, will be given new identities, which a judge has barred the British media from disclosing.
The decision to release Jon Venables and Robert Thompson, announced in a written parliamentary reply by Home Secretary David Blunkett, followed separate, secret parole board hearings this week to determine whether the pair remain a threat to society.
They have spent eight years in a secure children's unit, after being found guilty of abducting and murdering the 2-year-old in February 1993 in a case which gained international attention.
For the rest of their lives, Venables and Thompson will be "subject to strict license conditions and liable to immediate recall if there is any concern at any time about their risk," Blunkett said in his written statement.
The pair, who will turn 19 in August, went before parole panels that included a judge, psychiatrist and an independent member who examined reports from doctors and criminologists.
The possibility of their release had angered James' family who insist that as two of Britain's most notorious killers, they have not been punished sufficiently.
"I do not want revenge, I just want justice," James' remarried mother Denise Fergus said in a statement this week.
"I believe the two killers should go to a young offenders' institution for at least three or fours years, so they will have experienced some punishment for what they did."
A national debate has also broken out on what is more important - revenge for James' death or rehabilitation of his killers and raised questions about the age of criminal responsibility in England, which is 10.
The murder shocked the nation. Venables and Thompson, who were playing truant from school, lured James from a shopping center in Bootle, near Liverpool, northern England as he waited outside a butcher's shop for his mother. A video camera captured pictures of the toddler being led away by the two older boys, and those scenes have been replayed countless times on British television.
The boys dragged and led the toddler two miles through town to a railway line, where they hit him with bricks and metal bars, poured paint in his eyes and finally placed him on the tracks where a train cut him in half.
Emotions reached fever pitch during the 16-day trial as crowds pelted a prison van driving the boys to court.
In passing sentence, the trial judge described their crime as an act of "unparalleled evil and barbarity" and recommended the boys serve a minimum of eight years.
The sentence was later increased to 15 years by former home secretary Michael Howard, but in October a judge restored the original sentence, saying it would not be beneficial for the boys to be in the "corrosive atmosphere of an adult prison"
He also noted if the crime had been committed a few months earlier, they could not have been tried or punished by the courts criminal responsibility under English law begins at 10. According to Frances Crook, the director of the Howard League for Penal Reform, that is one of the lowest in Europe.
"Other European countries have set the age at 14, 15, 16 or, in some cases, at 18," Crook told The Guardian newspaper.
"If children do something wrong they should be dealt with through the care system not the criminal justice system. Children know if they have done something wrong, but they don't know the difference between various levels of wrongdoing."
Former head of Merseyside's Serious Crime Squad Detective Superintendent Albert Kirby, who led the Bulger investigation, disagreed. "I think there is no doubt they fully understood the magnitude of what they were doing," he told The Mirror newspaper this week.
"I have thought about it a great deal and I now accept that we were faced with two young boys who, together, were capable of committing evil in the extreme. It was clear they had formed the intention to take a child and kill him."
The possible release of the killers has rekindled a frenzy in Britain's tabloid newspapers, which once likened Venables and Thompson to Saddam Hussein.
"Bulger Mum: Please Don't Let Them Out," said the Daily Express on its front page Tuesday.
The Liverpool Echo asked its readers whether the pair should be freed, and 35,000 or the 42,000 respondents said "no."
Protesters demonstrated outside the parole board offices in London this week, and said the pair had been "mollycoddled" instead of punished. Both have gained good academic qualifications in their secure units and taken part in activities ranging from theater trips to white water rafting.
"By letting the boys out now, it would be sending the wrong message out to other would-be murderers," said protester Roger Costello
But the national ex-offenders' charity, Unlock, says the two should be released. Its chief executive Mark Leech, who met the pair three years ago, believes they are "normal teen-age boys" and not "evil in any sense."
"Nothing that anyone can do will bring James Bulger back," Leech said, "we should allow them now to get on with their lives."
Once released, Thompson and Venables will have new identities, protected by a High Court injunction banning the news media from publishing their photos or revealing their whereabouts for the rest of their lives.
But there are fears their identities will be impossible to conceal and their lives will be at risk from vigilantes intent on retribution. Ralph Bulger, father of the murdered child, last year said he intended to take revenge against the pair if he could find them.
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