By Megumi Fujikawa

TOKYO--Investors took the outcome of Japan's parliamentary election in stride, with markets already pricing in another electoral defeat for Prime Minister Shigeru Ishiba's administration.

Still, a sense of nervousness will prevail as financial markets watch to see how Ishiba governs from a weakened position while battling headwinds from within and outside the ruling party. Though the ruling coalition has lost its majority in the Upper House, the premier has no plans to step down, saying that he will stay in office to tackle issues including tariff negotiations and inflation.

Defeat: The Liberal Democratic Party and its smaller ally, Komeito, won 47 seats, short of the 50 required to maintain a majority in the Upper House. The coalition now holds a minority in both houses of parliament.

The higher voter turnout compared to the 2022 election suggests voters are more dissatisfied with the status quo, with the public concerned about issues like rising living costs.

Stocks: Despite expectations of more political instability ahead, the benchmark Nikkei Stock Average was in the green early on Tuesday, the first trading day after the results. That likely because the coalition's defeat was not as significant as some had expected. The index closed a touch lower, edging down 0.1% as investors booked profits.

"A weakening of the Ishiba cabinet's political influence could negatively affect [trade] negotiations, which in turn would have a negative impact on stock prices," said Sony Financial Group analyst Maki Ogawa.

Bonds: Japanese government bond yields will likely remain under upward pressure as opposition parties push for cuts to the consumption tax, raising concerns about the nation's fiscal conditions. The 30-year Japanese government bond yield briefly rose to 3.1% Tuesday.

Some economists say that disappointed ruling party lawmakers could call for more drastic fiscal spending. Others think Ishiba's minority government will be able to avoid fanning fears about worsening Japan's fiscal position to meet opposition demands.

"We see the LDP-Komeito's position as sufficiently strong to preempt significant changes to consumption taxes despite related opposition demands ranging from a limited and time-bound reduction for food items to an outright abolishment of the consumption taxes; the potential credit impact of a lowering of consumption taxes will depend on their scope, magnitude and permanence," said Christian de Guzman of Moody's Ratings.

Yen: The yen was soft, hovering around 147.70 against the dollar Tuesday afternoon. Analysts expect the yen to remain weak due to fiscal concerns.

If political uncertainty stalls trade negotiations with the U.S., it would increase fears over an economic slowdown and cap the yen's recovery, said Mitsubishi UFJ Morgan Stanley Securities strategist Daisaku Ueno.

BOJ: The victory by opposition parties, who have criticized the Bank of Japan's interest-rate increases, will likely make further monetary tightening more difficult.

"The election outcome has raised the probability of our call that the Bank of Japan will not raise its policy rate before the initial U.S. tariff shock dissipates in late 2026. Both the ruling and opposition parties are wary of the economic consequences that high U.S. tariffs could generate," said Shigeto Nagai, a former BOJ official now at Oxford Economics.

Write to Megumi Fujikawa at megumi.fujikawa@wsj.com

(END) Dow Jones Newswires

July 22, 2025 04:59 ET (08:59 GMT)

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