After Upper House election, ruling bloc bets political cost of tax hike will be limited
OSAKA – During the Upper House election campaign, one of the main issues weighing on voters’ minds was the implications of the consumption tax hike in October, which will become reality the third time around after being postponed twice.
The decision to double the 5 percent consumption tax to 10 percent in two stages was made in 2012 by the then-ruling Democratic Party of Japan — which has since disintegrated — and the Liberal Democratic Party and its partner New Komeito.
To what extent it will dampen the economy is uncertain, but Abe and his ruling coalition are betting they’ve sufficiently prepared voters in advance to accept the second stage of the hike and that the political backlash will be limited despite widening economic disparities.
The hike is expected to generate an additional ¥5.7 trillion in annual revenue, of which ¥2.8 trillion will be used to defray the national debt, ¥1.7 trillion to provide free education and for child care, and ¥1.1 trillion to reduce health care costs for the elderly.
The introduction of the consumption tax in 1989 and subsequent hikes in 1997 and 2014 had political consequences for the ruling LDP, with the party doing poorly in national elections following the increases.
In the December 2014 Lower House election, Abe postponed the second stage of the hike to 10 percent after going ahead with the first-stage hike to eight percent from five percent that April. He postponed it again just before the 2016 Upper House election.
Since then, the ruling coalition has been building a consensus for the hike to 10 percent — and this time, it appears to be paying dividends.
“Abe may have solved the political challenge of raising consumption taxes,” says Tobias Harris, a Japan analyst at Teneo Intelligence, a consulting firm in Washington. “A prime minister can raise it if, and only if, there are highly visible programs that will return money to the public. Between the Komeito-favored rebate system and the pledge to fund publicly mandated universal early childhood education, the government has probably baked enough into the tax hike to drain some of the passion out of opposition to it.”
During the campaign, the ruling parties touted the various ways the tax burden on consumers will be reduced, but all of the major opposition parties favor freezing or canceling the hike to either first collect more corporate and financial taxes and, in the case of Nippon Ishin no Kai, reduce the salaries of Diet members and civil servants.
With the tax hike a done deal, attention has turned to what the government might do next once the 10 percent rate goes into effect.
For now, Abe has said that there will be no need to raise the consumption tax again for another 10 years.
But pressure to raise taxes more is growing at a time when Japan faces the need to fund a rapidly graying and shrinking society despite its massive public debt.
In April, the Organisation for Economic Co-operation and Development said the consumption tax would have to be raised to between 20 and 26 percent to reduce gross government debt to 150 percent by 2060. Japan’s government debt last year was 226 percent of GDP — the worst among the 36 OECD countries.
But even as the OECD warned Japan that increases in the consumption tax in the coming decades were needed, others were saying there was nothing to worry about.
In recent months, a radical economic theory that cites Japan as a model case has been making political waves on a global scale — and also weighing in on the debate about the tax hike.
Modern Monetary Theory, as it’s known, fundamentally proposes that a government that issues debt using its own currency can borrow as much money as it wants, as long as inflation remains low. This means, in theory, government spending can be increased without the difficult political decision of having to further raise taxes. The theory has been espoused by Stephanie Kelton, professor of economics and public policy at State University of New York at Stony Brook.
Earlier this month, Kelton drew intense political, economic and media interest when she visited Japan to speak about MMT.
Many mainstream economists are critical of the controversial idea, warning it will lead to higher interest rates and kill any predicted economic gains. Japanese officials are also skeptical of the idea.
Politically, the theory is popular among progressive politicians like Bernie Sanders and Rep. Alexandria Ocasio-Cortez.
But U.S. President Donald Trump’s fiscal policies have also been likened by some in the U.S. financial media and on Wall Street as an example of MMT in action. During the 2016 presidential campaign, Trump himself said the U.S. government would never default because it could always print money.
With Japan also being called by some media and financial analysts as a model of MMT, the credibility of the theory will no doubt be fiercely debated.
That may be true as Japanese politicians were to face voters concerned about possible further consumption tax hikes on the one hand, and the huge government deficit on the other — regardless of the results of Sunday’s election or what the economic and financial impact of the October tax hike may be.