Upcoming Election and Monetary Policy

In the upcoming Japanese election, the Liberal Democratic Party is poised to win with Shinzo Abe as the party leader. In Morgan Stanley’s analysis of the effects of different coalitions on Japanese policy and the Japanese economy, they consider two scenarios. 1) A big government coalition with the DPJ, or 2) a small-government coalition with the new “Third Force” parties.

In a news article today by Japan Today, Abe has announced that a coalition with the DPJ will not be considered. This leaves only scenario 2 from Morgan Stanley’s analysis, which has important implications on monetary policy for Japan moving forward. Scenario two calls for aggressive structural reform, in addition to aggressive BoJ action.In addition, unlike scenario 1 Abe wants to keep fiscal spending low and push aggregate supply outward through lowering corporate taxes and reducing business costs.

The result would likely be modest positive inflation, but much extra real growth.

Abe calls for unlimited monetary policy until the inflation target of 2% is hit. In the process, the Yen will weaken which will help make Japanese exports more appealing in the short term.




1 thought on “Upcoming Election and Monetary Policy

  1. kuveke

    The difference in real growth vs. nominal growth is pushing out aggregate supply. Scenario 1 would involve simply raising nominal prices through higher aggregate demand. Scenario 2 by focussing on fiscal spending in combination with monetary policy will move the Aggregate Supply and Aggregate Demand equilibrium outward. Pushing Aggregate supply outwards will rely on lowering the Corporate tax rate from 38.5% to 20% replacing wage based taxes with a consumption tax and Social Security Reform. The issue of taxation in Japan is complicated because while taxes are a sensitive issue Japan has the lowest tax revenue in the OECD. Social Security Reform will also be difficult given the perecentage of the population near retirement. Since both parties stress the importance of aggressive monetary policy in increasing Aggregate Demand Abe’s main challange if elected will be holding down fiscal spending and implementing necessary reform.

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