Japan’s volatile financial markets must now contend with Prime Minister Sanae Takaichi firmly in the driver’s seat after her decisive victory on Sunday, which hands her an electoral mandate to reflate the economy.
The question for investors is whether Takaichi’s electoral momentum will prompt her to expand her stimulus ambitions or if it lends her the political leeway to proceed more cautiously.
Since she began her rise to become the nation’s first female premier in October, the “Takaichi trade” has pushed domestic shares to record highs while causing a precipitous selloff in Japanese government bonds and the yen.
Voters braved heavy snowfalls in Tokyo and other parts of Japan to deliver what exit polls indicated to be the most decisive win for Takaichi’s Liberal Democratic Party since 1996.
“The stock market is a true believer in Takaichi, so the big win is going to be good news for equities when the markets open on Monday,” said Chris Scicluna, the head of research at Daiwa Capital Markets Europe.
Takaichi, a devotee of the “Abenomics” stimulus policies of the late premier Shinzo Abe, has pledged a proactive fiscal policy funded largely through bond issuance.
She came to office at a low point in power and popularity for her Liberal Democratic Party, which has ruled Japan for most of the post-World War Two period, forcing her to bargain with opposition parties with even more liberal fiscal platforms.
“The administration’s foundation will become much more stable, making it easier for expectations to build around advancing economic policy,” said Kota Suzuki, a strategist at Nomura Asset Management. “Because there will no longer be a need to actively seek the opposition’s cooperation, there will be less pressure for giveaway-style fiscal expansion.”
With polls already indicating a decisive LDP win, Japan’s benchmark Nikkei 225 Index set an all-time high of 54,782.83 on Tuesday. Big winners of late include sectors like defence, artificial intelligence and chips that have been singled out by Takaichi for targeted investment.
But prospects for more government outlays have unsettled investors already concerned about Japan’s debt burden, the largest in the developed world. Those worries came to a head on January 20, when rates across the JGB yield curve shot to multi-decade or even record highs after Takaichi called for the snap election and embraced suspending the sales tax on food.
The yen has also been punished, losing about 6% against the dollar since Takaichi’s selection as prime minister in October and plumbing record lows against the euro and Swiss franc. Only threats of joint currency market intervention with the United States have arrested the yen’s slide.
The currency reacted cautiously to the result, which analysts said was already somewhat priced in. It briefly touched a two-week low at around 157.95 per dollar in early Asia deals on Monday, before moving back up.
The size of Takaichi’s victory means “the Takaichi trade will revive, which means JGB yields will be under upward pressure,” said Naoya Hasegawa, the chief bond strategist at Okasan Securities. “The move of the yen, stocks and bond yields will affect each other. If the yen falls rapidly, yields will tend to rise.”
While JGB yields remain elevated, some measure of calm has returned to the market in the past couple of weeks, as confidence grew that an emboldened Takaichi would keep her pledge of “responsible” stimulus.
The past four debt auctions have seen resilient demand, and 30-year JGB yields have fallen 31.5 basis points since their record high of 3.88% on January 20.
“We assume Takaichi will continue to strike a delicate balance between proactive fiscal policy and fiscal discipline,” said Shigeto Nagai of Oxford Economics in Tokyo.
“Although we think she’s determined to make the best use of the fiscal space generated by inflation-boosted tax revenue, we also believe she seriously worries about a further rise in JGB yields,” he added.
(Reporting by Rocky Swift, Satoshi Sugiyama, Kevin Buckland and Junko Fujita)
