Japanese Senate election speculation: The yen and Japanese bonds are like a startled bird, how will the market react?

In a potential "August 1st tariff deadline," the global financial markets have another hurdle to overcome: the Japanese House of Councillors election on Sunday. According to CCTV News, the Japanese House of Councillors has 248 designated seats. Senators serve a six-year term, with half of the seats up for election every three years. The upcoming House of Councillors election will be a battle for the 124 seats up for election and the 1 supplementary seat in the Tokyo electoral district, totaling 125 seats. As a key point to judge the election results, the ruling "Liberal Democratic Party-Komeito Alliance" needs to win at least 50 seats to maintain a majority in the House of Councillors. What are the most likely outcomes? For the "Liberal Democratic Party-Komeito Alliance," the primary goal of this election is to halt the consecutive defeats in last October's Lower House election and June's Tokyo Metropolitan Assembly election. Reportedly, the Liberal Democratic Party has a total of 52 seats participating in the election, while Komeito has 14 seats. To maintain the status quo, the ruling coalition can lose up to 16 seats. However, as the election progresses, concerns in the market rise about the difficulty the coalition may face in achieving their target. Unexpectedly, a key variable is somewhat related to President Trump across the ocean. According to Xinhuanet Co. Ltd., political parties advocating "Japanese First" are expected to demonstrate strong competitiveness in crucial electoral districts such as Tokyo and Saitama. Based on predictions, political parties currently holding two Senate seats have the opportunity to win 7 electoral district seats and approximately 8 proportional representative seats. Some polls even suggest that these political parties may challenge for up to 20 seats. If these predictions come true, it means the "Liberal Democratic Party-Komeito Alliance" will likely fail to maintain the crucial target of 50 seats. The political party was founded by Sohachi Kamiya in 2020, and for the first time in the 2022 House of Councillors election, it has obtained proportional representation seats. Kamiya Sohachi has candidly stated that he has learned many emotional themes and unconventional language from Trump, even going as far as to call himself the most Trump-like figure in Japan. Considering that Japan is facing the impact of the American "tariff stick," the rise of the political party has also made Japanese people start worrying whether the wave of far-right movements sweeping Europe and the United States has begun to affect Japan. Toshiro Mizushima, a professor of political science at Chiba University and a researcher of European extremist parties, interpreted, "This may be a watershed election. For the first time, an openly chauvinistic and anti-austerity radical populist party has won support." Against the backdrop of the ruling "Liberal Democratic Party-Komeito Alliance" being unable to maintain a majority in the House of Councillors, multiple possibilities are also present: the alliance continues to govern as a minority, adds centrist political parties to the coalition, or the opposition forms a ruling coalition. Considering the significant differences in policy between the opposition parties, there is currently no momentum for them to unite and form a coalition government. Capital market predictions Analysts generally believe that the most optimistic result for the yen and Japanese government bonds is for the "Liberal Democratic Party-Komeito Alliance" to maintain a majority and for Shigeru Ishiba to retain the position of Prime Minister. Yasuichi Fujiyo, an economist at Dai-ichi Life Research Institute, expressed that it is difficult to assert that Japan's fiscal situation is on a sustained deteriorating trajectory. Once the House of Councillors election is over, the pressure for increasing interest rates due to expected fiscal expenditure may begin to ease. He stated that if the Ishiba alliance wins, it may push the Japanese government bond market towards recovery. Previous continuous selling has pushed the 30-year Japanese government bond yield to a record high this Tuesday. Standard Chartered Bank also expects that if this scenario comes true, some short positions in Japanese government bonds may face risks, as Shigeru Ishiba will resist tax cuts through debt financing. In the case where the "Liberal Democratic Party-Komeito Alliance" fails to maintain a majority, and Shigeru Ishiba resigns, the yen will face a new wave of selling pressure, but analysts have different opinions on the trend of Japanese stocks. The National Democratic Party, most likely to be brought into the ruling coalition, and Sanae Takaichi, a supporter of "Abenomics" most likely to succeed Shigeru Ishiba's position, both advocate for the Bank of Japan to resume a loose monetary policy. Takashi Fujiwara, Chief Fund Manager of the Fixed Income Investment Department at Resona Asset Management, stated that the surge in Japanese government bond yields this week is the market's pricing response to this scenario. Daiwa Bank also predicts that if Shigeru Ishiba resigns, the yen will easily break through the 200-day moving average of 149.7. However, analysis from Nomura Securities points out that for Japanese stocks, the selling may only be temporary, as the overall framework and policies of the Liberal Democratic Party are likely to remain unchanged. The third scenario, which could seriously impact the global financial markets, is if the opposition parties win a landslide victory, changing the political landscape in Japan. Analysis indicates that the three major opposition parties all support some form of consumption tax relief, with the far-right political party even proposing the complete abolition of value-added tax. Barclays Bank expects that if the political party that calls for an increase in Japanese government bond issuance performs better than expected in the election, the Japanese bond market may see a more pronounced "bear steepening," where long-term bond yields rise more than short-term bond yields. Barclays estimates that cutting Japan's current 10% consumption tax in half could cause a 15 to 20 basis-point increase in the 30-year government bond yield. Jin Kenzaki, an economist at Natixis Bank, also indicated in a report that an opposition party alliance government is expected to abolish consumption tax and gasoline tax and fundraise through increased issuance of Japanese government bonds. He pointed out that while the likelihood of this outcome is only about 10%, if it occurs, long-term interest rates will remain high against a background of a significant initial increase. This article was originally published by "Financial Link", authored by Shi Zhengcheng, and edited by Li Cheng.