On August 8, 1989, a Joint Plenary Meeting of Party Members of Both Houses of the Diet was held in place of a party convention to select a successor for President Uno through a vote of the Party's Diet members and regional representatives. Yoshiro Hayashi, Toshiki Kaifu, and Shintaro Ishihara stepped forward as candidates. Kaifu received a majority of votes and became the 14th LDP President. While the Lower House chose Kaifu as the new head of the government, the Upper House selected Takako Doi of the Socialist Party. However, as rules dictate that the Lower House's decision is given precedence in this matter, Kaifu was formally appointed as the new Prime Minister on August 9. Because Kaifu had taken over from President Minister Uno before the latter had been able to fully complete his term running until the end of October, a Party election was held on October 6 with Kaifu, as the only candidate, being elected to serve in the following term as well. This decision was relayed to the LDP's 51st Extraordinary Party Convention held on October 31 where he was then formally re-appointed.

In a policy address he gave at the 116th Extraordinary Session of the Diet at the end of September, Prime Minister Kaifu expressed his desire to foster a "fair and compassionate society" through the "politics of dialog and reform." He further pledged to pay careful attention to public sentiments on the issue of a consumption tax and keep the welfare of consumers in mind as he conducted thorough reviews of policies related to it. In foreign policy, Kaifu announced his intention to continue the work began by the Takeshita Cabinet to advance the country's "vision for international cooperation." Speaking in reference to the skyrocketing prices for land that had undermined public confidence in the equity of Japanese society, he also promised to formulate new policies for property and housing.

The Diet during this period was at the center of conflict between the LDP and opposition parties that, buoyed by their success in the Upper House election, were hoping to abolish the consumption tax and even take control of the government if possible. The Socialist Party, Komeito, Democratic Socialist Party, and Japan Trade Union Confederation cooperated in the introduction of nine bills to the Upper House designed to roll back the consumption tax. These bills were passed, but later required revisions when they were found during deliberations to contain numerous mistakes. In response to these developments, the Party took public opinion into careful consideration and formulated its own set of recommendations in early December. The resulting plan to revise the consumption tax included provisions to (1) lower the tax rate on food and beverages, (2) make school entrance fees, childbirth fees, and rent exempt from taxes, and (3) introduce a system whereby prices displayed on products were inclusive of taxes placed on them. The Party then decided to submit this plan as a bill to the next regular session of the Diet.

The first year of the Heisei Era was a time of great change in Japanese politics. However, changes taking place abroad were perhaps of even greater magnitude.

In Asia, the tragedy in Beijing's Tiananmen Square stood in sharp contrast to the normalization of diplomatic relations for the first time in thirty years between China and the Soviet Union. In another region of the world, the spread of Soviet policies of "Perestroika" and "Glasnost" to countries in Eastern Europe had made it readily apparent that socialism had failed both politically and economically. While each of these countries began to experiment with market reforms and democratization, it was in East Germany that the transition was most rapid and dramatic. Demonstrators demanding social reform took to the streets and an exodus began of citizens fleeing from East to West in large numbers. In the midst of this regime transition, the Berlin Wall was finally brought down in November and the issue of reuniting the two Germanys took center stage. These events triggered a wave of similar changes throughout the region where socialism was abandoned at the same time that movements for ethnic self-determination began in many different countries, including the Soviet Union.

In December of 1989, leaders from the Soviet Union and the United States met at a summit held on the Mediterranean Island of Malta and announced that the Cold War had ended. This historic announcement not only marked the end of the international system that had been in place since the 1945 Yalta Conference, but also heralded the beginning of a new world order.

In Japan, attention was understandably focused on the timing of the next general election. Prime Minister Kaifu dissolved the House of Representatives at the start of the 117th Ordinary Session of the Diet in January of 1990 and campaigning officially began for the 39th General Election.

In a bid to repeat their Upper House victory the previous year and deprive the LDP of its majority in the Lower House, the opposition parties once again made the consumption tax a major campaign issue. The mass media joined them in working to focus public attention on this issue as well. However, with almost a full year having past since its introduction, the consumption tax had already begun to be accepted by the public.

In the February 18th election, not only did the Party retain its majority in the House of Representatives, but it also managed to increase its strength well beyond the threshold for a safe majority to a total of 275 seats. Only seven months after the disappointing the Upper House election, the public had expressed renewed confidence in the Liberal Democratic Party. The Socialist Party also fared well with 136 seats. On the other hand, the Komeito, Communist, and Democratic Socialist Parties all suffered major setbacks.

The Second Kaifu Cabinet was formed on the last day of February. In his first policy speech at the 118th Special Session of the Diet, Prime Minister Kaifu stressed the need for the LDP, despite having secured a safe majority in the Lower House, to avoid becoming complacent. In light of the Party's weakened position in the Upper House, he expressed his intention to work to form a "national consensus" and emphasize dialog in politics. He then traveled to the United States to discuss the Structural Impediments Initiative (SII) with President Bush. Faced with a U.S. threat to enforce the new Super 301 provision of the Omnibus Trade and Competitiveness Act on certain trade items, the Prime Minister promised to "tackle this issue as a top priority of the new cabinet."

During this same period, the Party also worked diligently to promote political reform. As part of this effort, the LDP established a Project Team for Basic Problems of the Party (To Kihon Mondai Purojekuto Chiimu) to deepen debate on reforms of the electoral system. It also held a Conference on the Parliamentary System (Gikai Seido Kyogi Kai) and enlisted the cooperation of opposition parties to advance discussion on reforms of the Diet as well.

Meanwhile, dramatic changes continued to take place around the world at an astonishing pace. In the Soviet Union, Lithuania's declaration of independence prompted similar actions in other republics, including the largest, Russia. In East German, free elections were held and the victory of the conservative Alliance for Germany accelerated movement toward reunification with West Germany. The two Germanys integrated their currencies on July 1 followed by full reunification on October 3, 1990.

Major events were taking place in Asia as well. In June, a conference on peace in Cambodia was held in Tokyo. At the conclusion of the talks, representatives from the national coalition government and the Phnom Penh government signed a joint communique calling for a voluntary truce. This conference was of particular importance for Japan as it was the first time in postwar history that the country had played a direct role as a mediator in an international dispute. Also in June, South Korean President Roh Tae Woo held an unexpected meeting with Soviet President Gorbachev in San Francisco. This encounter indicated that work had begun on the normalization of diplomatic ties between the two countries, a goal that was finally reached in late September of 1990. On the Korean Peninsula, dialog continued between North and South, eventually resulting in summit talks between the two countries being held in September as well.

Just when it seemed as though the entire community of nations was moving in the direction of peace and security based upon the principles of freedom and democracy, the Iraqi invasion of Kuwait at the beginning of August astonished people throughout the world. The UN Security Council reacted swiftly by demanding Iraq's immediate and unconditional withdrawal and imposing economic sanctions on the country. Japan cooperated by banning oil imports from Iraq, suspending investment and loans, and halting economic cooperation with this country. When the Iraqi army continued to advance southward despite these international pressures, the United States, along with other Western nations, dispatched troops to form a multinational military force. Arab leaders decided to send their own Arab Coalition forces to support these international efforts. When the Soviet Union deployed naval ships to the region, it seemed that the entire international community was mobilizing to resist the Iraqi invasion of Kuwait. In response, Iraq took foreign expatriates living in that country hostage and attempted to use them as "human shields." In order to ensure the effectiveness of economic sanctions, however, the UN Security Council adopted an additional resolution that authorized the limited use of military force against Iraq.

For Japan, the decision as to what sort of concrete contributions the country should make to help resolve this crisis was a difficult one. Prime Minister Kaifu canceled the visits he had planned to Saudi Arabia and other Middle Eastern countries and instead sent Foreign Minister Nakayama to the region to exchange opinions with leaders there. Upon Nakayama's return, the Japanese government formulated a support package for the Middle East in late August that included measures to provide transportation, materials and equipment, medical personnel, and financial assistance. This came in the form of a total contribution of one billion dollars to the multinational military force and another ten million dollars to countries in the region to support refugee assistance activities. In late September, Prime Minister Kaifu approved an additional one billion dollar contribution to the multinational military force and another two billion dollars of official government assistance to countries in the region. He also advocated the passage of the International Peace Cooperation Law (Kokuren Heiwa Kyoryoku-ho) through which Japan would be able to make not only a financial contribution, but a human contribution as well to international efforts to resolve crises of this nature.

When his term came to an end, LDP President Kaifu chose to take responsibility for his administration's failure to pass legislation related to political reform by declining to step forward as a candidate in the Party's election for this post scheduled for October of 1991.