Scott Morrison now claims Christine Holgate's position is a matter for the Australia Post board after declaring if the embattled chief executive did not wish to stand aside "she can go".
The prime minister says he stands by the statement, but the post chief's position is not up to him.
"It's a government-business enterprise, the government owns Australia Post on behalf of taxpayers, which is why we've set out our very clear standards on this," he told Sydney radio 2GB on Friday.
"But the direct engagement between the board and Ms Holgate is for the board."
Ms Holgate says there are no legal grounds for her standing aside and she has not been given any information about an investigation into watches bought for senior staff.
She has accused the prime minister of humiliating her after he labelled the gifts disgraceful and appalling in a fiery speech to parliament.
The allegations raised in a letter from Ms Holgate's lawyer are a clear sign of a brewing legal battle.
Australia Post is being investigated by two government departments over its gift and expense culture after watches worth almost $20,000 were handed to senior executives.
Business leaders have defended Ms Holgate and argue she has been grossly mistreated.
Home Affairs Minister Peter Dutton said Ms Holgate was a very decent person who made a mistake in relation to the Cartier watches.
"It's a perfectly acceptable act if you're in a publicly-listed company or a private company," he told the Nine Network.
"But when you're dealing with taxpayers' money as part of the Australia Post network it's a different standard and different expectations."
Deputy Opposition Leader Richard Marles said the luxury watch scandal was completely unacceptable, particularly given service and mail delivery times were going backwards at Australia Post.
"I think Christine Holgate and Australia Post have a lot to answer for," Mr Marles said.
The prime minister is unmoved by support for Ms Holgate among business leaders.
"This is a government-business enterprise, it is owned by the taxpayers of Australia," he said.
"So every dollar that goes through Australia Post is managed on behalf of Australian taxpayers and it should be done in a way that respects taxpayers."
Communications Minister Paul Fletcher dead-batted questions about the sidelined Australia Post boss.
The chairman of the government-owned business, Lucio Di Bartolomeo, says the decision for her step aside was mutually agreed on October 22.
An Australia Post spokesman told AAP it had communicated frequently with Ms Holgate and ensured she received support.
Australian Associated Press
