Japan’s Youthquake Leaves a Political Muddle. Bonds Could Suffer.

A voter casts a ballot at a polling station in Tokyo, Japan. (Toru Hanai/Bloomberg)

A youthquake has upended politics in the world’s oldest society, Japan, leaving Prime Minister Shigeru Ishiba a lame-ish duck just as U.S. President Donald Trump pours on trade pressure.

Japanese bond markets, closed on July 21 for a holiday, could be an early casualty as younger voters demand cuts in taxes they see funneling to seniors. “The anger of younger generations” is directed “at a ‘silver democracy’ that has often seemed closed to them,” says Tobias Harris, founder of consultant Japan Foresight.

Ishiba led his long-dominant Liberal Democratic Party into a third straight electoral debacle July 20, losing its majority in the upper house of Japan’s Diet, or parliament. The LDP and its Komeito coalition partner won just 47 seats of the 124 contested. That follows a lost majority in the lower house last October and a historically weak result in Tokyo municipal elections in June.

“The LDP is facing a once-in-a-decade challenge,” says Shigeto Nagai, head of Japan economics at Oxford Economics. “Ishiba doesn’t have much charm.”

The prime minister vowed to stay in his chair anyway to see through talks with the U.S. administration.

The largest opposition bloc, the Constitutional Democratic Party, treaded water in the upper house poll. The big gainers were two upstarts, the Democratic Party for the People and Sanseito, which played to young voters’ grievances with zippy social media campaigns and a right-populist tinge.

Their success is no surprise. Real wages in Japan have slumped by 5% since 2022, Nagai reports, as long-dormant inflation rekindled to more than 3% annually and taxes for social security and consumption kept sloping upward. The country’s long-waited escape from deflation has been positive for investors. The iShares MSCI Japan exchange-traded fund has climbed 50% since October 2022. For wage-earning Japanese, not so much.

“The result reflects growing public frustration over persistent inflation and a sense of political stagnation,” says Yuko Nakano, associate director of the U.S.-Japan strategic leadership program at the Center for Strategic and International Studies.

Every major opposition party offered voters substantial tax cuts, which a weakened LDP may be constrained to accept, she notes. That could thwart Ishiba’s strategy of using inflation, which increases tax receipts, to reduce a national debt that has swelled above 200% of gross domestic product, Nagai adds. A looser fiscal outlook could increase bond yields, which have already jumped by half this year to about 1.5% on 10-year paper.

Oxford Economics sees yields creeping up to 1.6%-1.7%, “assuming stable developments,” Nagai says. Deepening political chaos or an “external shock” like an earthquake could push that beyond 2%, he says.

Currency traders took a measured approach, the yen rising 1% against the dollar on July 21.

Trade talks with the U.S. were scarcely mentioned on the Japanese hustings, which may count as a missed opportunity, says William Chou, deputy director of the Japan chair at the Hudson Institute. Ishiba’s approach “has been pretty ineffectual,” he assesses, not publicly budging Trump from a threatened 25% “reciprocal tariff” on all Japanese imports, plus “sectoral tariffs” on hot-button items like cars and steel.

Tokyo’s negotiators have stressed prospective investment to build up U.S. industries like shipbuilding, but taken a “maximalist position” on a “long-term pathway toward balancing the trade deficit through market access,” Chou explains.

Easing the way for imports of U.S. rice and other agricultural products might seem win-win when food cost inflation is a big reason Ishiba’s party is bleeding votes. The LDP’s remaining base, though, tilts toward rural areas wary of the competition.

Hanging by a thread politically will likely make Ishiba less rather than more flexible at the table with Trump, CSIS’ Nakano predicts. “This could make it difficult for Japan to offer concessions on sensitive issues such as autos and rice, sectors widely seen by the public as core national interests,” she comments.

Powerful as the approaching trade storm might be, Japan’s election results point to a larger systemic problem. With a median age near 50, 30% of the population over 65, and the lowest births on record last year, working-age Japanese will be increasingly, arguably intolerably, stretched to support pensioners. The fledgling Sanseito party made hay with “Japanese first” rhetoric, threatening an already stingy pipeline of immigrants who might add labor and fertility.

“Many believe that social security reform is essential,” Shigeto Nagai observes. “They also know it’s very difficult politically.”

The July 20 election marked the first skirmish in “a kind of generational war,” he says.

With 13 parties in parliament, numerous factions maneuvering within the LDP, and no clear mandate for anyone, the war could be long and debilitating. “It is difficult to see how this political situation will yield policies that address the public’s anger,” Japan Foresight’s Harris says.

Japan is in for some heavy weather.