Japanese financial giant Nomura recently released a research report stating that through "seven core steps," one can clearly assess Japan's political and fiscal policy outlook for the remainder of 2025 and early 2026. Based on these seven steps and Japan's political and fiscal prospects, Nomura provides global capital short-term hedging strategies during Japan's power vacuum period, strategies for navigating prime ministerial elections and fiscal risk events, as well as medium to long-term positioning strategies once policies become clear.

The composition of Japan's ruling coalition will likely have significant impact on subsequent fiscal management. However, given the difficulty in accurately predicting the specific parties that will comprise Japan's future ruling coalition, Nomura has not yet incorporated these governing factors into the institution's economic forecasts. In scenarios involving larger-scale or longer-term consumption tax cuts, Nomura's strategist team believes yields and exchange rates may react accordingly.

Overall, Nomura believes domestic political developments in Japan are unlikely to affect the Bank of Japan's policy stance. However, Nomura also acknowledges that considerable uncertainty will exist in all financial institutions' expectations until a new government takes office and formally begins policy formulation. If the Bank of Japan decides it needs to incorporate the massive uncertainty brought by this new ruling coalition into its monetary policy model considerations, the possibility of the BOJ resuming rate hikes in October would decline, with Nomura's baseline scenario placing the central bank's next rate increase in January 2026.

Regarding global capital's short-term hedging strategies during Japan's power vacuum period, Nomura recommends reducing holdings in cyclical stocks (such as large industrials/automotive/machinery) and increasing exposure to defensive sectors (healthcare/consumer staples). During major event speculation periods, the firm suggests going long 10-year Japanese government bond futures (betting on delayed BOJ rate hikes) and shorting the yen (USD/JPY could surge to a target of 155-158, implying significant yen depreciation).

For final medium to long-term positioning strategies, Nomura recommends focusing on bank stocks once policies become clear (benefiting from interest rate normalization), semiconductor equipment leaders (which will benefit long-term from the still-booming global AI trend and major chip manufacturers like TSMC's large-scale U.S. capacity expansion due to tariff pressures once political and fiscal direction becomes clear), and consumer leaders (potential beneficiaries of domestic stimulus policies and potential consumption tax cuts that Japan's government may introduce).

**Japan About to Enter Power Vacuum Period**

On September 7, Prime Minister Ishiba Shigeru formally announced at a press conference his intention to resign as president of the Liberal Democratic Party (LDP). He gave two main reasons for the timing of his resignation: First, Japan made some progress in tariff negotiations with the United States, particularly with U.S. President Trump formally signing an executive order on September 4 reducing Japanese automotive import tariffs to 15%. Second, the LDP has been considering holding early internal leadership elections (based on Party Constitution Article 6-4), which would also avoid unprecedented "removal" and "liquidation" procedures against Ishiba as party leader, otherwise he would have to take responsibility for party division.

Regarding Ishiba's formal resignation timeline: most likely stepping down in early October, with the specific duration—one month or two weeks—depending on the format of the party leadership election. At the press conference, Ishiba stated his resignation timing would depend on when the LDP holds its internal vote. In other words, resignation timing correlates with party leadership election timing, and he indicated having no say in election scheduling arrangements.

LDP Party Constitution Article 6-2 stipulates that when a party leader resigns mid-term (as in the current situation), a party leadership election should in principle be held. The constitution has no rigid requirements for election format, but Nomura's strategist team has narrowed scenarios to two possible timelines:

The first is normal procedure, involving joint voting by 295 LDP Diet members (both houses) and three representatives each from 47 prefectural branch federations (totaling 141 members). In this case, there would be at least a 12-day campaign period, so the election would roughly be held one month later (e.g., October 4). In other words, Ishiba would resign in approximately one month.

The second is simplified rule elections, involving voting by 295 LDP Diet members and three representatives each from 47 prefectural branch federations (totaling 141 members). Unlike normal procedure, voting occurs at a joint session of both Diet houses rather than at a party convention. Party Constitution Article 6-2 stipulates that simplified rules can be adopted "in particularly urgent circumstances." If simplified rules are adopted, leadership elections would be held faster than normal procedure—approximately two weeks later (e.g., within a week in late September). In other words, Ishiba may step down in approximately two weeks, after which there will be a power vacuum in Japanese politics until a new prime minister is selected.

Next is discussion of whether the LDP is more likely to adopt normal or simplified procedures. Considering successive defeats in the October 2024 House of Representatives election, June 2025 Tokyo gubernatorial election, and July 2025 House of Councillors election, the government faces pressure to rebuild public trust. This makes it more likely the party will choose normal, standardized election procedures, as they grant fuller voting rights to party Diet members and representatives from 47 prefectural branch federations. In other words, this would narrow the time gap between "rapidly advancing party leadership elections to get Ishiba out quickly" and "delaying until early October." However, if simplified procedures are used, this would force the government to delay policy advancement (including drafting the FY2025 supplementary budget).

**What's Next: Seven Steps**

In Nomura's view, the following seven steps will be key to Japan's domestic political and fiscal policy outlook for the remainder of 2025:

**LDP Leadership Vote: When Will It Be Held and Who Might Win?** As mentioned earlier, party leadership elections have two possible timelines: normal procedure or simplified rules. Nomura considers the former more likely. No LDP members have formally announced candidacy yet, but popular candidates mentioned externally include: Takaichi Sanae (former Minister for Economic Security), Koizumi Shinjiro (former Minister of Agriculture, Forestry and Fisheries), Hayashi Yoshimasa (Chief Cabinet Secretary), Kobayashi Takayuki (former Minister for Economic Security), and Motegi Toshimitsu (former LDP Secretary-General).

Attention focuses on Takaichi and Koizumi, who finished second and third respectively in the September 2024 LDP leadership election, losing to Ishiba. A key point in this internal vote is who Ishiba supporters will vote for. Given that Ishiba met with Deputy President Suga Yoshihide (former PM) and Koizumi the day before his resignation (September 6), and considering Suga's close relationship with Koizumi, Nomura's strategy team believes Ishiba's support base may shift toward Koizumi.

**How Might the Ruling Coalition's Composition Change Under New LDP Leadership?** After the new party leader is elected, Nomura believes the existing ruling coalition (LDP + Komeito) will review future cooperation, including options to bring one or more opposition parties into government to maximize compensation for lost majority seats in both Diet houses.

Maintaining the status quo means continuing the LDP/Komeito two-party structure. However, this would keep the government operating as a minority government and make policy advancement more difficult. Nomura also believes the government might choose to expand the coalition by incorporating opposition parties like "Japan Innovation Party." This would likely trigger market speculation about consumption tax cuts and other expansionary fiscal policies. However, as long as the LDP remains in power, Nomura believes the possibility of significant consumption tax cuts remains low; Nomura's baseline does not incorporate tax cuts.

**Who Will Become the New Prime Minister?** After the LDP selects a new party leader, the Diet will convene a special election session several days later (most likely the week of October 6 if following normal procedure) to elect a new prime minister. The nomination and election of the new prime minister may be significantly affected by the ruling coalition's composition. However, Nomura importantly notes that while unlikely, if opposition parties join the ruling coalition and collectively demand to choose the prime minister, the scenario where the new LDP party leader fails to become prime minister cannot be ruled out.

**What About the FY2025 Supplementary Budget?** After electing a new prime minister and forming a new cabinet, an extraordinary Diet session will be convened to draft the FY2025 supplementary budget. This budget will very likely incorporate some form of fiscal spending assistance for households advocated by the ruling coalition in some form. Nomura's latest economic forecast already assumes this.

**What About the Ruling Coalition's FY2026 Tax Reform Plan?** Ruling coalitions typically release next fiscal year's tax reform plans in mid-December. Global investors will watch whether these include some form of consumption tax cuts (FY2026). If the ruling coalition maintains the LDP/Komeito two-party structure, Nomura expects no consumption tax cuts of any degree. But if the coalition expands by absorbing one or more opposition parties, the possibility of tax cuts would rise slightly.

**If the FY2026 Tax Reform Plan Includes Consumption Tax Cuts, What Would Be Their Scope/Duration?** If only food consumption tax is reduced from the current 8% to 0% and maintained for one year while expanding scope beyond food, Nomura believes this would trigger expansionary fiscal policy and cause market reactions through significant rises in long-term and ultra-long-term interest rates and yen weakening.

Nomura estimates that reducing food consumption tax rates from 8% to 0% would lower CPI by approximately 1.5 percentage points. Under assumptions of unchanged nominal income, this would correspond to real income rising by about 1.5%. Combining various impacts on real household consumption, Nomura expects society-wide real household consumption to increase annually by approximately 1.3% (approximately 3.9 trillion yen annualized). Beyond significant boosts from food (direct beneficiary category of tax rate cuts), Nomura also expects increases in housing, clothing and footwear, lighting/heating/water expenditures.

When assessing real GDP impact, chain effects of imports must also be considered, as imports typically increase when domestic demand (consumption, investment, etc.) rises. Assuming a 2024 import penetration rate of 16.5%, the aforementioned 3.9 trillion yen consumption increase would bring corresponding import rises. After deducting import increases, household consumption's net contribution to GDP would be approximately 3.3 trillion yen. Based on this calculation, annualized real GDP would improve by approximately 0.6%.

It should be noted that Nomura's economic forecasts do not incorporate consumption tax cuts. If the advancement based on Nomura's seven-step framework leads to more expansionary fiscal policy (such as consumption tax cuts), the marginal probability of such expansionary policies occurring would rise, especially in the second step scenario (expanding the ruling coalition to include opposition parties).

**How Will Global Interest Rate/Foreign Exchange Markets React to the Above Six Steps?** If market concerns about policies like significant and sustained consumption tax cuts rise, along with deeper doubts about Japanese government fiscal sustainability, the advancement of the above six core steps may at some point trigger interest rate and foreign exchange market reactions of rising yields and significant yen weakening.