NEW YORK (KWR) - October 27, 2007 -- As of September 25th, Yasuo Fukudo, 71 years of age and former cabinet chief for Junichiro Koizumi and Yoshiro Mori, became Japan's new prime minister. The Prime Minister just before him, Shinzo Abe, resigned on September 12th after exactly 365 days in office and disappeared into a hospital having reached his "physical limits", now defined as stress-related stomach problems. It can said that Abe's problems were enough to give most people stomach pains - a series of cabinet level scandals, the discovery that the national pension system has some severe accounting problems, and a complete misreading of public concerns, culminating in one of the ruling Liberal Democratic Party's (LDP) worst defeats in the Upper House elections on July 29th. Although the LDP lost control of the upper house, it still holds sway over the more important lower house where elections do not have to be called until 2009. But pressure is mounting for an early election. Fukuda, however, could be just the man that the LDP needs.

Fukuda will have no honeymoon period. He faces multiple challenges, including a slowing economy (probably a little under 2% real GDP for 2007), a jittery financial system (related to concerns over the global credit crisis), and an aggressive opposition actively pushing for early elections. In the short-term the new prime minister must seek to renew via a vote in the Diet the mandate for Japan's re-fueling mission to support U.S. anti-terrorist operations in Afghanistan which expires on November 1. The opposition, led by Ichiro Ozawa, head of the Democratic Party of Japan (DPJ), has been clear in its opposition to renewing the re-fueling mandate, in large part to force the LDP into an early election.

Fukuda also faces challenges from within the LDP. First and foremost, his rival for LDP leadership, Taro Aso, was not expected to win many votes against him. Instead, Aso won 197 votes, many of them from regional LDP offices who were disenchanted with Fukuda's quick lining up of more traditional LDP factions to back his bid. This meant that Aso carried 37 percent of the vote, leaving Fukuda with 330 votes, a less that perfect vote by Japanese political standards. Aso also declined to join Fukuda's cabinet, leaving him on the outside, where he is likely to continue to build his own power base.

But that is not the extent of Fukuda's challenge with his own party. While the new prime minister has stated his intention to continue with Koizumi's and Abe's policies of fiscal prudence, public sector debt reduction and structural reforms, he faces an LDP that is far more concerned with getting re-elected. This means that the pressure is mounting for the LDP to resume spending, especially in the rural areas, where voters defected to the DPJ, partially due to Koizumi's earlier efforts to slash spending and pork. The DPJ's Ozawa is not shy is reminding voters of the impact of Koizumi's fiscal prudence and economic reforms, by stating: "The coalition's policies created inequalities in Japanese society. This government must be dissolved as soon as possible."

Fukuda should not be underestimated. He comes from a political family (his father was prime minister 1976-1978), has been in government since 1990, and has a reputation of being "a quiet compromiser". The last is probably the most important as he will need to find common ground within the LDP, with its coalition party ally, Komieto, and probably with the DPJ. It also means a more cautious approach to economic reform. An interesting test case will be Japan's Fair Trade Commission proposed changes to anti-monopoly laws that would broaden the definition of anti-competitive behavior and increases fines to bring the country in line with the European Union and U.S. standards. He has also tentatively reactivated the debate over raising a consumption tax from its current five percent, with a target date of 2009 at the earliest for implementation.

At the same time, Fukuda is not going to forfeit any votes to the DPJ. Soon after his inauguration as prime minister, he started discussing the "plight of the working poor", the difficult nature of life in the regions, and the need to deal with the "fall-out" from market reforms. In a sense, Fukuda is sending the message that while he believes that the market reforms and globalization are necessary, the downside can be better managed. The rest of the message is the process can be better managed by the LDP, rather than the DPJ.

The most probable outcome is for Fukuda to allow some degree of spending, seek to smooth matters over the re-fueling mission, and consolidate his position, leaving the door open for elections, possibly in the spring. This would allow the LDP to regain lost ground among rural voters and hopefully put the DPJ in the role of a spoiler with relations with the United States over the re-fueling mission. At the same time, the LDP should benefit from continued economic growth. Consequently, Mr. Fukuda has tough challenges ahead, but he also appears to have the skills and experience to deal with the challenges.

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KWR International Advisor

Editor: Dr. Scott B. MacDonald, Sr. Consultant

Deputy Editors: Dr. Jonathan Lemco, Director and Sr. Consultant and Robert Windorf, Senior Consultant

Publisher: Keith W. Rabin, President

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