Japan's ruling Liberal Democratic party was last night scrambling to keep its grip on power, saying it would hold elections next week to find a replacement leader for Shinzo Abe who stunned his party by resigning as prime minister.

Taro Aso - LDP secretary-general and, like Mr Abe, a social conservative and nationalist - is favourite to take over, but his selection by a deeply divided party is far from certain. Other challengers are likely to emerge, though last night Junichiro Koizumi, former prime minister, was reported to have turned down a request to run again.

Whoever prevails will come under intense pressure to hold a general election that could topple a ruling party that has had a near-monopoly on power for the past half-century.

Political analysts expect the LDP to go to the polls next year, though an election is not constitutionally necessary until September 2009.

Ichiro Ozawa, leader of the opposition Democratic Party of Japan, which mauled the LDP in July's upper house elections, said his party would continue to oppose an extension of the anti-terrorism bill. Difficulty in passing the special bill - which allows Japan to refuel US and other allied ships in Afghanistan-bound operations - was the ostensible reason for Mr Abe's surprise resignation.

Mr Abe said he had decided to go in order to prevent "a political vacuum" and ensure that a new prime minister was in place to push through what he said was Japan's vital contribution in the fight against terrorism.

Yukio Hatoyama, secretary-general of the DPJ, said there "was something suspicious" about Mr Abe's decision to resign only two days after he had opened an extraordinary session of parliament. Mr Abe's cabinet has been plagued by scandals over money and other matters.

The sudden resignation calls into question the ability of Japanese leaders to pursue what Mr Abe called "assertive diplomacy", a stance welcomed by Washington, which wants Japan to shoulder more of a global burden.

Mr Abe - at 52, Japan's youngest postwar prime minister - has struggled to persuade an electorate worried about pensions, healthcare and growing wealth disparities about the importance of his international agenda. His resignation could also set back the related cause of revising the pacifist constitution.

Markets reacted calmly, with the Nikkei 225 average down just 0.5 per cent and the yen treading water. But economists said there was concern among some foreign investors that Mr Abe's bitter experience might lead the government to backtrack on reforms introduced under Mr Koizumi.

Heizo Takenaka, considered the architect of the small-government, market-oriented policies pursued by Mr Koizumi, said: "If reforms stop, it will be bad for regions as well as the Japanese economy as a whole."

Jesper Koll, president of Tantallon Research Japan, part of an Asian hedge fund, said he was baffled by the timing of Mr Abe's resignation. The premier had steadfastly refused to quit after July's electoral defeat. Referring to the samurai code of honour that Mr Abe has sometimes invoked, Mr Koll said: "This is not bushido. This is chicken."

Kaoru Yosano, chief cabinet secretary, said Mr Abe's physical condition may have been afactor.