Investors in Japanese Government Bonds (JGBs) are growing increasingly cautious ahead of the upper house elections, anticipating political shifts that could exacerbate Japan’s already precarious fiscal position. Prime Minister Shigeru Ishiba’s declining popularity suggests his ruling Liberal Democratic Party (LDP) may struggle to retain its majority, raising the risk of political upheaval.
A recent NHK poll indicated the LDP’s lowest support since returning to power in 2012. This growing uncertainty has pushed yields on long-dated JGBs to historic highs, with the 30-year yield hitting 3.20%.
Rising Yields Reflect Market Fears Over Populist Spending and Fiscal Policy Shift
Even the least disruptive post-election scenario is expected to result in more politically popular but fiscally expansionary policies. Opposition parties have rallied around ideas like consumption tax cuts, with the right-wing Sanseito party calling for a full VAT phase-out. Meanwhile, LDP leadership hopeful Sanae Takaichi is known for her reflationist stance.
These proposals are stirring market concerns, particularly among bond investors wary of a shift away from fiscal discipline. Vanguard’s Ales Koutny compared Japan’s trajectory to the UK’s recent fiscal struggles, warning that the bond market could pressure the economy if restraint isn’t shown.
Japanese Bond Yields Surge as Election Uncertainty Fuels Fears of Populist Spending and Fiscal InstabilityYields on long-term bonds have surged in recent weeks amid mounting fears of fiscal largesse. The 20-year JGB yield reached its highest level since 1999, while the 10-year yield rose to levels not seen since 2008. The spike began in late May, driven by expectations of expansive opposition spending plans.
In response, Japan’s finance ministry announced plans to cut the issuance of longer-term bonds to ease the supply-demand imbalance, especially as traditional buyers like life insurers reduce their participation.
Investor Anxiety Grows as BOJ Holds Rates and Election Spurs Fiscal Uncertainty
The Bank of Japan’s cautious stance on raising interest rates is adding to investor unease. The central bank’s reluctance to tighten policy amid global uncertainties has led many investors to stay on the sidelines. Kentaro Hatono of Asset Management One noted a “wait-and-see” approach due to risks of a steepening yield curve after the election. Barclays analysts estimate that recent movements in 30-year yields already reflect market pricing of a potential three-point cut in the consumption tax rate from the current 10%.
The upcoming election holds significant implications for Japan’s budgetary direction. Even if the ruling coalition retains control of the upper house, they’ll still need opposition cooperation to pass key fiscal legislation. This dynamic increases the likelihood of expansive budget proposals, particularly as public support for tax cuts grows — with 68% of voters favoring sales tax relief to combat inflation.
Prime Minister Ishiba has resisted tax cuts in favor of cash handouts, but a poor election showing could lead to his resignation and open the door to more aggressive fiscal policies, risking a deeper sell-off in super-long JGBs and a steepening yield curve.
