by Jon Day
TOKYO, Oct. 1 (Xinhua) -- Japanese Prime Minister Shinzo Abe on Tuesday went ahead with a planned sales tax hike hedging his bets that recent economic indicators are showing Japan's economy is recovering and even in its embryonic state is strong enough to absorb the potential economic fallout from the hike.
Abe told his ruling Liberal Democratic Party (LDP) and other top government officials Tuesday that the planned hike would go ahead after more than a year of debate on the matter and the sales tax will rise to 8 percent in April 2014 from the current 5 percent, as the first of a two-stage hike to a planned 10 percent.
The Japanese leader came to the conclusion that neither stimulus measures alone would help the nation emerge from decades of deflation and economic malaise and the tax hike alone would not be enough to combat the nation's mounting public debt at more than twice the size of the nation's economy as social security costs continue to balloon.
Abe said in a nationally televised speech following the Cabinet approving the sales tax hike that having weighed up the costs and benefits, the decision to raise tax was based on an understanding that fiscal consolidation and economic revitalization can work together.
The prime minister's final decision was in part swayed by favorable sentiments being reported by businesses in a key quarterly survey released earlier Tuesday.
The latest results from the Bank of Japan's (BOJ) "tankan" quarterly survey on Tuesday showed large manufacturers were especially upbeat regarding their future business sentiment, compared to the last quarter.
The BOJ's key diffusion index measuring sentiment among major manufacturers rose to plus 12 in September, from plus 4 in the previous June survey, the central bank said in its report.
The reading came in higher than economists' median forecasts of plus 8 and logged the third straight quarter of improvement and the most optimistic corporate sentiment has been since December 2007, providing Abe with some of the impetus to go ahead with the tax hike, economists said.
But economists also pointed out that Abe must still be mindful to ongoing downside risks to the economy including growing unemployment, slumping industrial production and household spending. The latest figures of which were also released recently by the Ministry of Economy, Trade and Industry.
Leading economists attest that with the sales tax increase the labor market will need to improve its hiring numbers and increase wages, in order to trigger consumer spending at higher prices to underpin Abe's plans for a sustainable recovery.
The Finance Ministry has estimated in the mid-to-long-term the tax hike will increase annual revenues by around 80 billion U.S. dollars, with Abe on Tuesday stating that some of these funds have been earmarked to maintain and modernize the ever-burgeoning social security system as the population continues to age as the birthrate remains comparatively low.
Many analysts have pointed out that prior to the April tax hike, there will likely be a noticeable uptick in consumer spending, followed by a period of decline once the new tax rate kicks in.
Private consumption, which accounts for about 60 percent of Japan's economy, is the most important component of its gross domestic product, but once the hike is put in place, consumer sentiment will be dashed as prices are increased, according to leading analysts.
According to the latest statistics from The Japan Center for Economic Research, the majority of economists expect the economy to grow by 4.53 percent in annualized terms in the three months before the hike compared to the previous three-month period, due to last-minute personal consumption spending and housing investment.
Following the rate hike, however, the research center said that economists foresee a sharp slowdown, as consumers spend less due to higher prices and prior spending on cheaper goods.
It said that were a stimulus measure not to be put in place, the country's economy will grow by only 0.34 percent in the next fiscal year, which starts in April.
Economists, thus, have also warned that the negative effects of the tax hike could derail Abe's medium-term plans to reverse the nation's decades of deflation in two years, with the help of ultra- easy monetary policy from the central bank and have urged that tangible stimulus measures will be needed to be put in place to counter the inevitable economic fallout from the tax hike, as consumers and corporations subsequently tighten their purse strings.
The BOJ believes that it can respond with new fiscal policy in the event of such significant downside risks and to this end BOJ Governor Haruhiko Kuroda has said that increasing the levy on consumption won't break the economy, but omitted to state the bank 's contingencies beyond that stating the bank would "take appropriate steps."
To this point and in a bid to settle global markets, Abe has set out a number of economic measures to minimize the negative impact from the hike. Abe said the government will draw up a supplementary budget worth 50 billion U.S. dollars with some of the funds being allocated directly to low-income earners to support their households and help mitigate the burden of rising prices.
Abe also said the government will also consider scrapping a special corporate tax designed to raise money for reconstruction efforts in areas hit by the 2011 disasters in Japan's northeast.
The special reconstruction levy was scheduled to end at the end of March 2015, but the prime minister is now pushing for it to end early.
But the planned tax cuts for large corporations in Japan is rattling some economists who believe this could severely impair the growth and fiscal health of the nation in the long run.
Abe's administration has said it will implement 730 billion yen in tax cuts to boost capital spending and make provisions for 160 billion yen in tax breaks to firms willing to increase wages for their workers.
But looking ahead, as plans for industrial deregulation to boost the nation's competitiveness and attractiveness to overseas business have yet to come to fruition, and the yen's weakening following the central bank flooding the country with cash from its asset purchasing programs, the road ahead for Abe could be a tricky one.