The second coming of Abe... confirmed The landslide win for the Shinzo Abe-led Liberal Democratic party in Japan at the weekend pushed the Japanese yen to its weakest level against the dollar since April 2011 (inverted chart, don't ya know): The news also pushed up Japanese shares - this was mostly due to exporters benefiting from the weaker yen, but Tepco and some other energy generators spiked dramatically on expectations that an LDP-led government would be more favourable to nuclear power than the DPJ: Although it was only Japan's lower house that was up for election, the LDP's win was more convincing than expected, raising all sorts of questions about how quickly and dramatically they might change economic and monetary policy. During the campaign it wasn't quite clear how Abe's calls for more more aggressive monetary easing would translate to actual policies. At one point he demured on his calls for a 2 or 3 per cent inflation target and for the BoJ to buy government bonds directly, saying that if and when he was actually returned to government, he wouldn't be so prescriptive about how the BoJ should go about its business. On the business of the BoJ leadership, a new appointment is not due until April and the upper house - which the LPD doesn't control - will need to approve the choice of new governors. However Nomura's Tomo Kinoshita think Abe's government will be able to get its preferred choice: The key to amending the Bank of Japan Act is likely to be winning support for such legislation in the Upper House. However, as the Japan Restoration Party (JRP) has also called for such action, we think the new government will seek the support of the JRP and other relatively small parties to get the necessary legislation through the Upper House. Such action would probably increase the pressure on the BOJ to ease monetary policy further. Furthermore, the governor and his two deputies are due to retire in Mar-Apr 2013, and we think Mr Abe is likely to nominate someone committed to monetary easing as the new governor. So what would the BoJ do under new leadership? Purchasing foreign bonds, government construction bonds, longer-dated JGBs and of course the new explicit inflation target have all been mentioned (mostly by the LDP) as possible tactics. The BoJ holds its monthly meeting on Wednesday and Thursday but, under its existing leadership, don't expect anything radical. However, as Bank of America's rates and FX strategists in Tokyo point out, the central bank would certainly have cover for expanding its existing asset purchase programme for a third time in four months: There is no absence of data showing that the economy may be bottoming out, including an unexpected rise in industrial production in October. However, exports remain weak, declining 7.5% YoY in the first 20 days of November, and the November trade data (to be released on 19 December) may show a deficit of more than ¥1tn. There are also signs that the deterioration in exports and production is affecting domestic demand; one example is a decline in the job offers-to-applicants ratio. The US fiscal cliff is one of the overseas downside risks. The worse-than-expected business condition DI (large manufacturers) in December Tankan survey also confirmed that downside risk to industrial production is rising at least in short-term. The new government will be less constrained when it comes to fiscal stimulus and budgetary measures. Nomura says it will likely raise its Japanese growth forecast for 2013, currently 1 per cent, because fiscal stimulus over the next year is likely to be much higher than the Y1.7tn in its existing estimates. Starting with an emergency fiscal package: Judging by what leading LDP figures have said thus far, the package is likely to be worth at least ¥5trn, although it is not clear from their statements whether this would be in terms of total investment, the amount budgeted, or net new money. We therefore think that the package is likely to be worth at least ¥2-3trn (and possibly more than ¥5trn) in terms of net new money and to be funded using surplus funds from the FY11 budget and new JGB issues. We would expect the government to submit its supplementary budget to the Diet in January and to try to get it passed by the end of January or early February. Such a package would be likely to boost GDP growth in Apr-Jun 2013 and thereby create suitable economic conditions for raising the consumption tax. Also: The LDP has called for a big increase in public works investment to improve Japan's infrastructure. The actual amount could be similar to the ¥15trn that the LDP once proposed spending on this over three years. Since Japan's Constitution (Article 60) gives the Lower House precedence over the Upper House when it comes to a vote on the budget, we think the new coalition is likely to seize the initiative in the budget debate. And then there's the little question of fiscal sustainability. The DPJ pushed through a very controversial law to double the rate of sales tax to 10 per cent, but the price of the LDP's support for this move was that this election had to be called. In addition, the tax rise hasn't actually gone through yet; the government of the day has some leeway in deciding when to introduce it. This could pose quite a dilemma, as the Wall Street Journal summed up: a delay in starting fiscal reform risks a sovereign-ratings downgrade and upsetting the giant Japanese government-bond market. In fact the yield curve already began to steepen somewhat during the lead-up to the election. But obviously a tax increase carries its own risks, especially if it's introduced while the economy remains too weak. Anyway, at this stage it might be worth adding a little caution on reading too much into the LDP's large win. The DPJ won the same number of seats in 2009 - only to change prime minister after less than a year, and... lose about three-quarters of their seats in this latest election. Related links: Sales-Tax Decision Looms for Japan's New Leader - WSJ LDP win redraws Japan's political map - FT Yenning for a counter argument - FT Alphaville Sharp blunted, and it's not alone - FT Alphaville