By Linda Sieg and Chisa Fujioka
TOKYO (Reuters) - Voters dealt Japan's government a stinging blow in upper house elections on Sunday, a reverse that could thwart its ambitions to curb the country's massive public debt and threaten Prime Minister Naoto Kan's job.
Exit polls showed Kan's Democratic Party of Japan (DPJ) was set to win just 47 seats and its tiny partner, the People's New Party, none, losing their majority in parliament's upper house.
That was fewer than the 50 seats projected for the main opposition Liberal Democratic Party (LDP) and far short of Kan's goal of winning 54.
The result leaves Kan vulnerable to a challenge from inside his own party, though he was quoted by broadcaster NHK as saying he planned to stay on. He is already the fifth prime minister that the world's second-largest economy has had in three years.
The DPJ swept to power in a historic landslide just last year, ousting the long-dominant conservative Liberal Democrats with promises to cut waste and focus spending on consumers.
But public backing nosedived due to indecisive leadership and mishandling of a feud over a U.S. airbase.
Public support for the DPJ rebounded when Kan took over last month, but tumbled almost as quickly after he floated a rise in the sales tax from 5 percent to help rein in debt.
"There will certainly be pressure for Kan to go, given that the only explanation for the DPJ's loss is his mishandling of the advantage he acquired after he became PM," said Koichi Nakano, a political science professor at Sophia University.
"There is going to be tremendous dissatisfaction within the party and they will have a hard time finding anyone outside the DPJ willing to work with them."
The Democrats will almost certainly keep running the government given their grip on parliament's more powerful lower house. But they will need to seek new partners to control the upper chamber, which can block bills, as they struggle to engineer growth and rein in a public debt almost twice the size of its nearly $5 trillion economy.
Two of Kan's LDP predecessors threw in the towel after less than a year in face of a similar divided parliament.
"Kan lost the election calling for a sales tax hike," said Koichi Haji, chief economist at NLI Research Institute. "That is a huge setback for fiscal reform. Now the question is whether Kan can stay in power or not."
PM VULNERABLE TO CHALLENGE
When markets open on Monday share prices could fall on concern about the policy gridlock ahead and Japanese government bond yields may rise on fears that fiscal reform will stall. But analysts said wild swings are not likely given that a reverse for the DPJ had been widely expected.
The poor election outcome leaves Kan vulnerable to a challenge from party powerbroker Ichiro Ozawa -- a critic of his sales tax hike proposal -- ahead of a September party leadership vote. Few, though, would expect Kan to go without a fight.
"You can assume Ozawa will argue that this is a vote of no-confidence in Kan and it's his fault," said Gerry Curtis, a Columbia University professor.
"It's going to be a weak government ruling with a minority in the upper house because I don't think anyone will join the coalition."
Democratic Party Secretary-general Yukio Edano said his party might ask opposition parties to cooperate on a policy-by-policy basis rather than invite them into a formal coalition.
The leaders of two potential partners, the pro-reform Your Party and the Buddhist-backed New Komeito, swiftly rejected the idea of joining the government anyway, and LDP leader Sadakazu Tanigaki said his party was willing to talk about policies but ruled out any "grand coalition.
Analysts have said that opposition parties would drive hard policy bargains with the Democrats in exchange for any support, raising hopes among some experts that a deal with the Your Party would foster the deregulation many see as vital for growth.
(Additional reporting by Yoko Nishikawa, Yoko Kubota, Kiyoshi Takenaka, Isabel Reynolds; Editing by Rodney Joyce and Jonathan Thatcher)
