Japan: The Next Phase of Abenomics

Published on December 29, 2014

After the sweeping victory of the ruling Liberal Democratic Party in the general elections of December 14 Prime Minister Shinzo Abe was officially re-elected to office on the 24th of December, and the very shortened Diet session adjourned last Friday. Abe’s cabinet is now pressing government workers to rush through their traditional holidays to formulate the Fiscal Year 2015 initial budget that was delayed by the general election this month.

*** The initial budget is expected to be authorized at a Cabinet Meeting on January 14, and its major point will be a reduction in the corporate profit tax rates. The press has reported that the effective tax rate will be decreased by 2.51% (including national and local taxes), and in the case of Tokyo, the corporate tax rate will be cut from 35.64% to 33.13%. Economy Minister Akira Amari has additionally flagged the Government’s intention to reduce the tax rate further in FY 2016, for a total cut of over 3.2% between FY 2015 and 2016 (meaning around 0.7% more in FY 2016 ). Abe’s “Basic Policies for the Economic and Fiscal Management and Reform 2014” furthermore calls for the effective corporate tax rate to be eventually reduced to under 30% (into the twenties) over several years, which means corporate tax reductions of over 5.6% in total. ***

*** While providing a stimulus to the economy, the tax plan is nevertheless coming under some criticism for its gradual pace in reductions. Adding to that, the entrenched bureaucracy at Japan’s powerful Ministry of Finance is trying to fiscally “neutralize”  the cost of the tax cuts by raising tax rates on the assessed size of businesses, using metrics such as the area of buildings held by the corporations or its number of employees. To put that potential offset in context, it is estimated the tax burden of corporations for FY2015 will be reduced by about 1.2 trillion yen through the corporate profit tax cut, but increased by 0.85 trillion yen with a hike in taxes based on business size assessments. ***

The Cabinet also formulated an economic stimulus package worth 3.5 trillion yen on December 27, and that supplementary budget for FY 2014 will be authorized by the Diet around February 2015. The major aim of that package is to support tsunami-damaged areas and to provide subsidies to local governments.

Impact on the BOJ

As far as the Bank of Japan and monetary policy are concerned, Abe’s decision to postpone the hike in the sales tax right after the BOJ’s additional dollop of monetary easing at the end of October is increasingly being perceived in Tokyo as a major political blow to Governor Haruhiko Kuroda, a strong supporter of the sales tax, especially after having expended precious political capital in forcing that ease through on a narrow five to four vote of the Monetary Policy Committee meeting.

The recent continued weak inflation data are furthermore casting near universal doubt over the BOJ’s ability to hits its 2% inflation target as planned, and in the meantime the BOJ is seen now to be monetizing government debt directly, a total “shame” in the view of the more traditional BOJ central banking orthodoxy. That is to say, Kuroda has lost a great deal of political capital in the BOJ by a wide margin.

We certainly do not expect Kuroda to abdicate his goal to hit the official targets, but with the low rate of CPI now resulting from global factors as well as domestic, such as lower energy prices, geopolitical risks, and the slowdown in foreign economies, Kuroda will hesitate to offer any additional massive monetary easing, for now at least. Rather, he may show some reluctance to take additional actions to push up CPI in light of overseas factors, pushing the burden of stimulus more squarely back now on Abe.

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