Shocking Defeat in Japan!
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Sunday July 12, 10:58 am Eastern Time
ANALYSIS-Short-term turmoil seen for Japan economy
By Linda Sieg
TOKYO, July 12 (Reuters) - The shocking defeat suffered by Japan's ruling Liberal Democratic Party (LDP) in Sunday's election spells short-term stalemate for economic policies, though some hold hopes of bolder steps when the dust settles.
Major television stations predicted that the LDP would win no more than 50 seats in the election for half the 252-seat Upper House, at least 11 less than its minimum target of 61 and far short of the 69 needed for a majority.
The election for the Upper House, the less powerful of parliament's two chambers, cannot unseat the LDP itself.
But the ruling party's loss was viewed as a rejection of Prime Minister Ryutaro Hashimoto's economic policies, which many blame for pushing the nation into its first recession in almost a quarter century. ''It's a clear vote of no-confidence,'' said Jesper Koll, chief economist at J.P. Morgan in Tokyo.
Kyodo news agency reported that Hashimoto would announce his intention to resign on Sunday night or Monday, though there was no firm word on who might replace him.
Two economic policy issues loom large on the horizon -- enactment of an LDP plan to clean up the bad loan mess at the nation's banks, and debate over details of promised tax reforms including income and corporate tax cuts.
The LDP has pledged to submit its so-called ''bridge bank'' plan to wind up failed banks while providing loans for ''healthy'' creditor firms to an emergency session of parliament from late July and to pass enabling legislation by the autumn.
On tax cuts, Hashimoto vowed on Wednesday that ''permanent tax reform'' would include tax cuts, but left both voters and markets puzzled as to detailed content and funding.
The LDP failure to maintain its standing in the Upper House, which can stall legislation for 60 days, makes the policy outlook decidedly murky, economists and analysts said.
''All bets on policy efficiency are off,'' Koll said. ''Everything has been put into question, first by the opposition and second by the opposition to Hashimoto within the LDP. That means delay, that means no resolute policy action, and that means that for stocks and the yen, there is no anchor of hope.''
Others agreed that the immediate policy outlook was grim.
''Voters' dissatisfaction with the LDP exploded far more than expected. This means politics will come to a standstill. Hashimoto is likely to quit, a new coalition must be formed, and the schedule for parliament is likely to be delayed,'' said Shigenori Okazaki, a political analyst at Warburg Dillon Read.
Financial markets are likely to cast their own negative vote on the election outcome on Monday, analysts said.
''I don't think that there is a positive scenario for the markets... Right now, there is too much uncertainty,'' said Ron Bevacqua, an economist at Merrill Lynch.
Analysts said the yen was likely to stumble and Tokyo share prices to fall, though the outlook for Japanese government bonds, which usually rise on bad economic news, was mixed.
Several analysts, however, said the LDP, still in power due to its majority in the Lower House, would respond to voter and opposition pressure for bolder moves on the tax cut front.
''They will take more short-term measures than previously planned and fiscal policy will become more expansive, in the sense that income tax cuts will be deeper,'' said Susumu Kato, chief economist at Barclays Capital in Tokyo.
''They've been saying 'four trillion yen or more' and it might turn out to be six trillion,'' Kato said, adding that this might include an extension of two trillion yen in temporary tax cuts already in place this year with an added four trillion in permanent tax cuts from reducing rates for top tax brackets.
Financing such tax cuts, however, remains a big headache in view of the government's already huge budget deficit.
''Irresponsible fiscal spending may proceed at a faster pace,'' said Mikihiro Matsuoka, a senior economist at Daiwa Research Institute.
Enactment of the ''bridge bank'' plan is likely to be delayed and the LDP will probably be forced to take heed of opposition party calls for stricter terms for the use of public funds.
That would be bad news for bank shares, but might be ultimately welcomed by markets as a sign that the days of rescuing weak institutions and firms were nearing an end.
''The opposition is all in favour of stricter action towards banks, so it will be harder to take steps that rescue troubled institutions,'' Matsuoka said. ''In the short term that will be bad for the economy and increase deflationary pressure...but longer term -- over the next five to 10 years -- it could mean the process of creating a healthy banking system will proceed.''
The LDP defeat has also cast a dark cloud over Hashimoto's planned visit to Washington, where he is due to meet U.S. President Bill Clinton on July 21 and explain what Tokyo is doing to fix the financial system and spur growth.
Assuming Hashimoto and other party leaders step down, the new lineup faces an uphill battle to convince markets that economic policy is in better hands. ''The decisive question is whether the new group of people will be able to make their process of implementation more in line with market perceptions and reduce the frustration brewing in the markets,'' said Takashi Kiuchi, executive research fellow at LTCB Research. ''It's a delicate business.''
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