JPY: Take a breath and buckle up – Commerzbank

In an initial reaction, the Japanese Yen (JPY) appreciated this morning, showing some relief after yesterday's elections. And certainly, the uncertainty about the political future could have been much greater this morning. As feared, the LDP lost its majority in yesterday's upper house elections. For the first time since 1955, it now finds itself without a majority in either house, even though it holds the prime minister's office. However, he made it clear yesterday evening that he has no intention of resigning, Commerzbank's FX analyst Volkmar Baur notes.

Markets to focus on the negotiations with the US

"For the moment, this is certainly a relief. The Japanese government still has ten days to reach a trade deal with the US in order to secure a lower tariff rate. Japan is particularly focused on an exemption from sectoral car tariffs, as cars and car parts are still one of Japan's main exports to the US. If Prime Minister Ishiba had resigned or the lower house had been dissolved for new elections, this would have become very unlikely. Now there is at least some hope."

"However, the JPY has already given up most of its gains in the course of the morning. This should come as no surprise, as apart from the short-term relief associated with the continuation of the current government, the result is by no means good for the government and the country's ability to govern. The LDP-Komeito coalition, which already lacked a majority in the more important lower house, has now lost its majority in the upper house as well. This makes it even more dependent on the opposition parties to pass legislation. In such cases, however, the path of least resistance usually consists of making concessions to others in the form of higher fiscal spending."

"Specifically, before the election, the government proposed to provide relief to private households, which continue to suffer from high inflation, through a one-off payment. The opposition, on the other hand, preferred a permanent reduction in value added tax, which would place a structural burden on the national budget rather than a one-off expense. The International Monetary Fund already estimates that Japan's budget deficit could widen from 2.5% of gross domestic product today to over 5% in the coming years. The market has also already recognised this risk, which is why the current interest rates on long-term bonds in particular are being hit with an ever-increasing risk premium. This outlook is likely to continue to weigh on the JPY structurally. In the coming days, however, the focus will be much more on the negotiations with the US."