Kan's Six-Vote Win Among Lawmakers Risks Eroding Fiscal Pledge

Japanese Prime Minister Naoto Kan’s narrow win in the Democratic Party of Japan leadership race may make it tougher for him to implement the deficit-reduction measures that he promised.

Kan defeated challenger Ichiro Ozawa by a margin of six votes in yesterday’s ballot of DPJ lawmakers. Regional party and local assembly members helped him win by a wider total margin of 721 points to 491. Kan, 63, said after the win he’ll decide on DPJ executive posts following talks with “senior party members including former presidents,” suggesting Ozawa may be consulted.

The challenge to Kan, who has pledged to cap bond sales and spending to rein in the world’s largest public debt, followed a July election loss in the upper house of parliament driven in part by plans to raise sales taxes. A failure to follow through on cutting the budget deficit risks hurting support among investors who sparked a rally in Japan’s debt yesterday.

“The key thing is the government’s fiscal-policy strategy,” Andrew Colquhoun, head of Asia-Pacific sovereign debt at Fitch Ratings, said in an interview yesterday. “If we see a split in the DPJ and increased political volatility, it would make the chances of such a credible plan being drawn up somewhat lower.”

Photographer: Tomohiro Ohsumi/Bloomberg

Naoto Kan, Japan's prime minister. Close

Naoto Kan, Japan's prime minister.

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Photographer: Tomohiro Ohsumi/Bloomberg

Naoto Kan, Japan's prime minister.

The yield on benchmark 10-year government bonds slid 4 basis points to 1.105 percent yesterday, the biggest drop in a week. Yields jumped almost a third of a percentage point to as high as 1.195 percent in the weeks following Ozawa’s Aug. 26 announcement that he would challenge Kan.

Ozawa Influence

Ozawa’s influence in policymaking will increase as Kan tries to maintain party unity, increasing pressure for more spending, said Junko Nishioka, chief economist at RBS Securities Japan Ltd. in Tokyo.

One measure that Ozawa has advocated, intervention to curb the yen’s strengthening, was carried out by Japan today. Finance Minister Yoshihiko Noda told reporters Japan intervened unilaterally because the government “can’t overlook these movements that could have a negative effect on the stability of the economy and financial markets.”

Ozawa had called for such action to support the export-led recovery, threatened by the yen’s advance to a 15-year high against the dollar. Kan said before yesterday’s election that he is ready to act as needed to curb the rising yen.

Spending Measures

Ozawa, 68, who heads the DPJ’s largest faction, has also said the government may have to issue more bonds for spending measures to boost the economy. He called during his campaign for increased outlays to bolster demand and criticized Kan for ordering budget cuts.

Kan so far has been able to address reducing public debt while also stimulating demand, Nishioka said. The 915 billion yen ($11 billion) stimulus plan he announced last week tapped unused funds that were set aside in the existing budget to avoid exacerbating a debt burden that is approaching 200 percent of gross domestic product. Speaking at a press conference yesterday in Tokyo, he said he will consider forming a supplementary budget to support the package.

Greece Effect

Kan’s re-election dispels uncertainty and the focus will be on whether he can follow through on and flesh out his fiscal plan, according to Thomas Byrne, senior vice president at Moody’s Investors Service. Byrne also said he considers Kan’s fiscal strategy to be credit positive in that it supports the stable outlook on Japan’s Aa2 rating.

As finance minister, Kan participated in meetings and conference calls among counterparts in the Group of Seven earlier this year that were dominated by talks on the debt crisis sparked by Greece. He unveiled plans to address Japan’s own debt in June, pledging to balance the budget in 10 years. In July, the DPJ lost seats in the upper-house election after Kan said he would consider doubling the nation’s sales tax.

“Kan will face difficulty passing budget-related legislation” without a majority in the upper house, Takehiro Sato, Japan chief economist at Morgan Stanley MUFG Securities Co. in Tokyo. That may prompt “him to step down and dissolve the government early next year.”

Business leaders called on the party to set its differences aside and focus on measures that can spur growth.

‘Comes Together’

“I hope that the DPJ truly comes together and moves forward,” Tadashi Okamura, chairman of the Japan Chamber of Commerce and Industry, said in a statement yesterday. “I’d like the DPJ and the government to prioritize speediness and implement policy seamlessly.”

Recent data have pointed to the expansion losing momentum as global growth slows and the yen’s surge to a 15-year high against the dollar threatens exporters’ profits. Japan’s economy expanded at a 1.5 percent annual rate in the second quarter, less than half the pace of the previous period, and consumer confidence slid to a four-month low in August.

“Japan’s fiscal conditions are considerably bad, so there’s limited room for the government to spend,” Takahira Ogawa, director of sovereign ratings at Standard & Poor’s in Singapore, said in an interview. S&P cut the outlook on its AA debt grade for Japan in January.

To contact the reporter on this story: Aki Ito in Tokyo at aito16@bloomberg.net

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