What Affect Will Japan’s New Leadership Have on the Yen?

09/01/2009 12:01 am EST

Focus: FOREX

Kathy Lien

Managing Director and Co-Founder BKForex LLC, BK Asset Management

The Japanese yen strengthened across the board as investors cheer new leadership in Japan. After more than 50 years of unchallenged power, the Liberal Democratic Party (LDP) has been finally defeated by the Democratic Party of Japan (DPJ).

The big question of if and when Prime Minister Aso will announce his resignation was answered almost immediately, with Aso conceding defeat and confirming that he will resign as LDP head. Mr. Hatoyama, the current leader of the DPJ, is expected to be confirmed as the new Prime Minister of Japan in approximately two weeks.

Who Is Mr. Hatoyama?

Yukio Hatoyama has politics in his blood. His grandfather was the LDP’s first Prime Minister in 1955 and Hatoyama will be the country’s first non-LDP Prime Minister since 1955. He comes from a wealthy family that has made their fortune in the industrial and political sectors. He is a fourth generation politician with a Ph.D in engineering from Stanford University. Although Hatoyama inherited his father’s LDP seat in 1986, he has been re-elected to that seat seven times.

Some people in the Japanese political circle have called Hatoyama “The Alien” as he can come off as eccentric and aloof. The Prime Minister role in Japan has been a difficult one for anyone to hold down for more than a year since Koizumi left office in 2006. As someone who can sound more like a teacher than a politician, and who has been criticized for being indecisive, Hatoyama has a tall task ahead of him.

The political landscape has changed dramatically for Japan with the DPJ’s victory. As the new party attempts to announce fresh measures aimed at stimulating the economy, there could be political turmoil. The DPJ does not have practical experience running the country, and their goals are ambitious. Unlike the LDP, whose initiatives have focused on business and public works, the DPJ’s initiatives will focus on increasing disposable income for households. The party expects to pay for their new initiatives by cutting wasteful administration costs. Having previously criticized the Japanese economy for being overly dependent on exports, Hatoyama will be focusing heavily on boosting domestic demand.

Political Change Will Not Have Lasting Impact on the Yen

However, as happy as Japanese investors are about the change in leadership, the positive impact on the Japanese yen could be limited. Long-term trends in USD/JPY are determined by market fundamentals and overall risk appetite, not Japanese politics. With that in mind, USD/JPY is very weak. The selloff in global equities and thin trading conditions ahead of the US Labor Day market holiday could drive the currency pair to a six-month low of 91.75.

In terms of Hatoyama and the Democratic Party of Japan, it remains to be seen whether they have what it takes to deliver on their promises of turning the economy around. If the global economy continues to recover, the DPJ could benefit from having the wind at their sails. Either way, it will certainty be a daunting task for Hatoyama as the economy and his party’s legacy now rests on his shoulders.

By Kathy Lien, Director of Currency Research at GFTForex.com

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