Tokyo Election Comes at a Rough Time for Abe

Tired of the seemingly endless political drama in the US and Europe?  Try Japan.  Tokyo's metropolitan 127-seat Assembly is up for election on July 2. 

 It could not come at a worse time for Prime Minister Abe and his Liberal Democrat Party.  In some ways, Abe and the LDP are victims of their own success.  Recall that previously, there had seemed to be an almost revolving door at the head of government when the DPJ held the reins.  Abe is completing his second term, and the price of such political stability is corruption--several scandals and accusations of misconduct. 

On top of this, there has been some backlash against the way that the LDP has pushed through legislation.  Some of the legislation is controversial, as the recent conspiracy measure, and the method of passage was critical for being harsh.     The net result has been an erosion of support for the LDP-led government. 

Tokyo is such a large and important city; it has a governor rather than a mayor.  The current governor of Tokyo is a Yuriko Koike, who previously in the LDP, though not part of the inner clique, and recently bolted to taking the helm of a new Japanese political party, Tomin First no Kai (Tokyoites First), is popular and is seen as a potential successor of Abe.  Although her handling of the fish market (Tsukiji) relocation disappointed many, according to reports, her popularity remains strong.   The mayoral candidate she backed in Chiyoda won recently.  Currently, the party has six seats in the assembly and is projected to increase its representation toward 40-45 seats. 

Governor Koike's power base will grow not only because her party will be more represented, but also because it has peeled off the Komeito Party that is in a coalition with the LDP in the national government.  Komeito has 22 seats in the current Assembly.  Tomin First, Komeito, and a handful of independents may be sufficient to provide a slim majority in the assembly. 

The big losers may be the LDP (57 seats in current assembly) and the DPJ (7 seats).  Reports suggest that after the Tokyo election, the DPJ may shuffle its leadership. However, it is the LDP that appears most at risk.  A reformist party governs Osaka, and a victory for Tomin First in Tokyo would be a significant blow for the LDP and Abe.     A defeat for the LDP could have far-reaching implications for policy going forward, ahead of the national parliamentary election late next year.

A loss of Tokyo for the LDP could initially weigh on Japanese equities and lift the yen.  Equity losses may be modest and short-lived as the BOJ may have pulled back on its purchases of JGBs, but it continues to buy ETFs apparently on weakness.  On the other hand,  Prime Minister Abe has demonstrated a willingness to increase fiscal stimulus. Japan.'s budget deficit last year was 5.7% of GDP.  This year's shortfall is expected to be 4.8% of GDP.  Sagging support a year ago appeared to encourage Abe to announce a JPY28 trillion economic package.  Lo and behold, Abe's approval rating recovered. 

However, the BOJ has moved away from buying JPY80 trillion of government bonds a year and now targets the 10-year yield (+/- 10 bp on either side of zero).  Fiscal stimulus may make the BOJ's strategy more difficult to implement.   Abe has taken advantage of the better growth Japan is enjoying to push for his political agenda which includes changes to the pacifist constitution to complement the recent reinterpretation.

Last year, the LDP changed their rules to allow a candidate (Abe) to head the party for three terms rather than two.  As head of the LDP, Abe would remain prime minister after next year's election, assuming the LDP wins.   There does not appear to be another candidate in the LDP that is positioning to challenge Abe next year.  And, frankly, there does not seem to be an alternative economic program to "Abenomics" which seems like the same traditional LDP medicine (but on steroids).  It includes fiscal and monetary expansion, desire for a weaker yen, and some reforms that at the end of the day (or term) have not changed the macro-fundamentals very much.  

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