After the government lifted the consumption tax in Japan from 5% to 8% in this April, sign of Japanese economic recovery was about to be lost. Prime Minister Shinzo Abe postponed his original plan of increasing the consumption tax from 8% to 10% in 2015. While he claimed later that the consumption tax hike would be carried on in April 2017 regardless of the economic assessment at the time.
Why increasing the consumption tax?
Mr. Abe’s purpose is to solve the primary problem of budget deficit as a percentage of gross domestic product by fiscal 2015. And those who support hiking the consumption tax think it is a matter of “international credibility ”. If Japan doesn’t recover from its debts soon, Japan will lose its credibility internationally.
Situation after lifting the tax from 5% to 8%
With the effect of depreciation of Japanese Yen, imports such as grain and natural gas became more expensive in Japan. For Japanese people, the price of foods, electricity and gas increased largely, while wages didn’t. A “bad inflation” is taking place in Japan.
Shoppers cross a road in the Ginza district of Tokyo. Source: Bloomberg
In 1997, Japan has experienced a similar situation. The consumption tax was increased to 5% from 3%, and since then Japanese economy was back to a recession from a recovering economy. This time, the impact of increased tax is even greater than in 1997. After the first round of increasing consumption tax, the fall in nominal consumer spending has been even more severe than in 1997, and we can observe a sign of recession is again.
Increasing consumption tax: a mistake?
With a growing aging population, the problem called “fiscal child abuse” is also seen in Japan. In order to protect senior citizens, the government is paying huge amount of money on them in terms of social security and public service. While because of the fiscal problem in Japan, it is the young generation that who are going to pay for it. With postponing second round of lifting the consumption tax, issuing more domestic loans may be inevitable. If so, this “fiscal child abuse” problem may get worse because next generation will be paying back these loans.
A Japanese TV program interviewed Japanese people, asking their opinions on increasing the consumption tax. Almost all the people being interviewed showed negative attitude on this issue.
In addition, some Japanese people are also afraid that increasing the consumption tax may decrease the tax income. In 1995, when Japan increased its consumption tax to 5% from 3%, because of deflation and getting-worse economy, enterprises’ revenue decreased. In total, tax income also decreased. 20 years later, Japan is facing the same situation this time. In 2020, the Olympics will be held in Tokyo. There are a good amount of projects for this event going on now. Because of the influence of increased consumption tax, these projects may also get negatively impacted.
Speaking of the consumption tax hike, one hundred consequences may be thought of. But only one of them is positive. One WSJ article on this topic ended with a comment like this,” Please, Mr. Prime Minister, apply the same fortitude you used on the Bank of Japan to overcome tax-and-spend orthodoxy.”