Prepared by Tamim Bayoumi, Christopher Towe, and Ichiro Oishi.
A more detailed description of Japan’s fiscal accounts is provided in Tamin Bayoumi, “The Japanese Fiscal System and Fiscal Transparency,” in B. Aghevli, T. Bayoumi, and G. Meredith (eds.), Structural Change in Japan (Washington: International Monetary Fund, 1998).
Further details can be found in Japan—Economic and Policy Developments, IMF Staff Country Report No. 97/91 (October 1997).
Japanese government debt is divided into construction bonds (used to finance public investment) and deficit-financing bonds. Eliminating the issuance of deficit-financing bonds would bring Japan back to the “golden rule” policy (in which debt is only issued to finance investment spending) followed before the first oil shock.
¥26,000 per taxpayer and ¥13,000 per dependent.
The tax rebates comprised ¥1.4 trillion in central government income tax cuts and ¥0.6 trillion in local income taxes. The timing of the rebates in 1998 varies by the type of taxpayer (worker or self-employed) and the type of tax (national or local).
FILP lending to small- and medium-sized enterprises was also raised by over ¥1 trillion, to help alleviate the effects of the “credit crunch.”
In addition, in March 1998 the DIC injected ¥1.8 trillion in funds to the banks, out of ¥13 trillion set aside from this purpose. While this had no impact on the general account, these injections are included in the calculation of the general government deficit.
The FY1998 initial budget also included plans for the government to take responsibility for ¥26 trillion (5 percent of GDP) in debts of the Japan National Railway Settlement Corporation (JNRSC) and the Japan Forestry Service, raising government debt by an equivalent amount.
Discretionary expenditures (total spending excluding national debt payments and local allocation tax grants) were projected to fall even more than overall expenditures.
This refers only to ODA expenditures that pass through the general account.
¥1.5 trillion for the environment and energy, ¥1 trillion for telecommunications, science and technology and another ¥1 trillion for social welfare, medical care and education, and ¥0.8 trillion each for transportation, disaster prevention, and redevelopment of urban districts.
The 1998 tax cuts will be administered in a very similar manner to the earlier ¥2 trillion in tax rebates—each taxpayer and dependent will have their tax allowance increased by ¥29,000 and ¥14,500, respectively. The nature of the 1999 tax cuts has yet to be determined.
More details can be found in Japan—Economic and Policy Developments, IMF Staff Country Report No. 97/91. The reduction in demand for health services stemming from this increase in charges has been larger than anticipated. Health care costs, which rose by 4.5 percent in FY1995 and 6.0 percent in FY1996, were projected to have risen by only 2.0 percent in FY1997 (compared to an estimated increase of 4.7 percent if no reforms had occurred). The Ministry of Health and Welfare is also committed to proposing significant further health reforms by FY2000, although no legislation has been proposed. Proposals will likely include reforms to drug pricing (to eliminate the premium between the prices paid by the health insurance system and those charged to patients), increasing medical charges for the aged, and reforming the nursing care system.
By contrast, Japan’s structural balance improved steadily in the 1980s while those in other countries remained relatively stable or deteriorated.
For example, Japan—Economic and Policy Developments, IMF Staff Country Report 97/91 (October 1997) included a discussion of the impact of the credibility of future fiscal actions on fiscal multipliers. On the other hand, simulations rely on a given model structure, which may not always capture all of the mechanisms at work in the economy.
For more details on the simulations, see G. Lipworth and G. Meredith, “Indicators of Monetary and Financial Conditions: A Reexamination” in Japan—Selected Issues, IMF Staff Country Report No. 96/114 (October 1996), reprinted in B. Aghevli, T. Bayoumi and G. Meredith (eds.) Structural Change in Japan: Macroeconomic Impact and Policy Challenges (Washington: International Monetary Fund, 1998). Other models produce similar results. For example, the Economic Planning Agency model has a multiplier of around 1¼ on government spending (K. Kawasaki, “Development of the ERI Compact Model,” Discussion papers No. 64, (Tokyo: Economic Planning Agency, April 1996) and the OECD INTERLINK model has a short-term multiplier of 1.2 for government spending and 0.8 for taxes (OECD Economic Surveys—Japan 1996, Paris: Organization for Economic Cooperation and Development, 1996).
See, for example, M. Matsuoka, “Measuring the Effects of Fiscal Policy on Japan,” mimeo, Daiwa Institute (November 1996) and J. Saito, “The Japanese Business Cycle After 1991,” Journal of Asian Economics, Vol. 8:2, pp. 263–93 (1997). Both papers, which use vector autoregressions to identify the impact of fiscal policy on the economy, conclude that the multipliers are quite small.
By contrast, the coefficient on real land prices, which is not included in the FCI, is highly significant, indicating that much of the deflation associated with the bursting of the asset bubble may have come through the effect of land prices on wealth and the banking system.
The staff equation was also estimated as a VAR, which produced similar overall results.
The marginal propensity to consume may also vary depending on the instrument being used, with changes in top tax rates and interest payments likely to have a smaller impact on private sector activity than equivalent changes in welfare benefits.
More generally, the high quarter-to-quarter volatility of government investment (Chart II.2), as well as uncertainties created by a lack of fiscal transparency, may well have impaired private sector activity.
This is one of the major results from the permanent income/life cycle models of consumption. Temporary changes in direct government spending, on the other hand, will, if anything, tend to be more effective as the impact on interest rate and the needed offset through tax policies will be less.
There have been a number of papers on “expansionary fiscal contractions,” surveyed and extended in A. Alesina, R. Perotti, and J. Tavares, “The Political Economy of Fiscal Adjustments,” paper presented at the spring 1998 Brookings Panel and forthcoming in Brookings Papers on Economic Activity. European countries may have also benefited from the credibility provided to fiscal consolidation programs by the fiscal criteria laid out for entry into EMU.
A temporary shock is maintained for one year, a permanent shock for 5 years.
Although there were ¥3.5 trillion in permanent income tax cuts in 1995, the revenue losses were subsequently offset by the 1997 consumption tax hike.
This section focuses on fiscal data using the national income account definition of the general government. In addition to making international comparisons easier, this choice reflects the lack of fiscal autonomy of local governments and the complexity of the Japanese fiscal system, which make it difficult to assess the overall fiscal position from the central government’s budget accounts.
An alternative approach is to calculate very long-term projections of general government net debt to take account of future social security obligations, which yields very similar results to the staffs approach. For example, longer-term projections prepared through 2080 by the OECD indicate that, because of the rapidly aging population, Japan’s net debt will rise more rapidly than that in other major industrial countries over the future. See “The Macroeconomic Implications of Ageing in a Global Context,” OECD Report ECO/CPE/WP 1(98)1.
This is the largest deficit ratio since the current national income accounts were started in the mid-1950s.
This includes a 5 percent of GDP increase in 1998 caused by acceptance of responsibility for debts of the JNRSC and Forestry Service.
The staff projection assumes a relatively smooth adjustment of the fiscal deficit to the medium-term goal set out in the FSRA. The debt trajectories are relatively insensitive to reasonable alternative paths for the deficit.
The Pension Bureau of the Ministry of Health and Welfare estimates that the unfunded pension liability at current contribution rates is ¥490 trillion (close to 100 percent of GDP) for those in the system in March 2000, while the implied future liabilities of the system add a further ¥420 trillion (80 percent of GDP) to this total. J. Sakamoto, “Pension Reform and the Funding Alternative,” paper given at the International Social Security Association held in Tokyo May 20–21 (ISSA/ACT/SEM/2/1(b)).
This reflects the reliance on income-based taxes and contributions in the fiscal system, together with generous allowances and benefits for retirees, which means that the working population is the main provider of general government revenue while most transfers accrue to the elderly. A. Auerbach, L. Kotlikoff and W. Leibfritz, “Generational Accounts Around the World,” Bank of Japan Institute for Monetary and Economic Studies (IMES) Discussion Paper 98-E2.
These are the contribution rates for the EPI, the earnings-related public pension system for most private sector employees. Half of the contribution is paid by the employee, the other half by the employer. Alternative economic assumptions generate somewhat different estimates for the final contribution rate, but this variation is relatively small compared to the projected increase in rates.
These indicate that it would be possible to cap the contribution rate at around 20 percent of basic pay through a combination of costing-saving measures including raising the age of eligibility of the earnings-related scheme from 60 to 65, indexing benefits to consumer prices rather than wages (net of taxes), and cutting the income replacement rate from 62 percent to 50 percent.
As noted earlier, the staff projections assume a relatively smooth adjustment path for the general government structural deficit (excluding social security), but the calculations are relatively insensitive to reasonable alternative paths.
The aging population will increase government transfers to the health care system, which is funded on a pay-as-you-go basis. The impact of higher medical costs on general government transfers to the health service is estimated by the staff to add around 1¼ percentage points of GDP between 1995 and 2025. In addition, rising transfers to the public pension system are estimated to raise spending by ¾ percent of GDP over the same period. See K. Okamura, “Japan’s Medium- and Long-Term Fiscal Challenges,” in Japan—Selected Issues, IMF Staff Country Report No. 96/114 (October 1996).
One source of double counting is that the official data include “non-profit institutions controlled by the government” in general government. The OECD adjusts the official data by placing these non-profit institutions in the public financial institution sector, on the basis that the most important of these corporations perform similar activities to other public financial intermediaries. Adjusting for this double counting reduces the figure for gross debt by just over 10 percent of GDP. See OECD “Policy Considerations in the Current Economic Situation,” ECO/CPE/WP/98/5.
Potential bad loans associated with the FILP are discussed further in D. Asher and A. Smithers, “Japan’s Key Challenges for the 21st Century,” SAIS Policy Forum Series, Johns Hopkins University (March 1998).
This reflects, at least in part, the government’s ability to achieve significant fiscal consolidation during the 1980s (albeit at a somewhat slower pace than originally planned), and the clear concern to address medium-term consolidation demonstrated by the recent passage of the FSRA.
Bayoumi, “The Japanese Fiscal System and Fiscal Transparency.”
Exceptions exist, such as the medium-term investment plan, which originally involved a commitment to spend ¥630 trillion on government investment between FY 1995 and FY 2004. However, there is little evidence that the investment plan was integrated into the annual budget process.
H. Takahashi, “Prospects for Personal Income Tax Reform in Japan,” JEI Report 24A (June 26, 1998) contains a more detailed discussion of personal tax allowances.
On the other hand, no tax benefits are currently provided for defined-contribution pension plans.
Tax avoidance is believed especially significant in the case of the self-employed and the agricultural sector, as exemplified by the “9-6-4 (Ku-ro-yon)” and “10-5-3 (To-go-san)” sayings. These numbers refer to the proportion of income that is understood to be reported to the tax authorities: 90–100 percent for salaried workers, 50–60 percent for the self-employed, and 30–40 percent for farmers.
The national tax rate is 34.5 percent, while local taxes add a further 10 percent. SMEs are subject to a lower national tax rate of 25 percent on income of less than ¥8 million.
For example, Sony has over 800 “subsidiaries.”
The estimates are based on a regression equation relating economy-wide productivity to private capital-labor ratio and the government capital stock:
where Y is real GDP, L is a measure of trend employment, K is the net stock of business capital, and G is the net stock of government capital (estimation was over 1960–97, t-statistics in parentheses).
Despite rapid government investment growth, in some areas Japan’s social capital does lag behind that of other industrial countries. For example, only 54 percent of the population has access to underground sewers, versus ratios of 70–100 percent in other industrial countries. Park area per capita also is low, as is the ratio of high speed motor ways. See Japan 1998: An International Comparison (Tokyo: Keizai Koho Center, 1997).
Daiwa Institute of Research Ltd., Economic Forecasts & Review, April 1998. Annual reports by the Board of Audit suggest frequent cases of waste and inefficiency. The FY 1994 report noted ¥85 billion had been spent on six sub-projects of the Multipurpose Dam Project over 19–29 years, but that there seemed to be no particular plan for the start of the main project. For a discussion, see the Economic Planning Agency, Economic Survey of Japan: 1996–1997, (Tokyo: Government of Japan, 1997), p. 77.
For a discussion of fiscal federalism in Japan, see D. Mihaljek, “Intergovernmental Relations and Local Public Finance in Japan,” in Teresa Ter-Minassian (editor). Fiscal Federalism in Theory and Practice (Washington DC: International Monetary Fund, 1997). Mihaljek presents evidence to suggest that decentralization of spending responsibility has tended to help reduce total public spending in Japan, but notes that the relatively modest local government tax base reduces the incentives for expenditure efficiency.
Funding of local government projects from the central government’s general account is principally in the form of grants, earmarked for specific projects. In addition, the FILP provides loans, either directly to public enterprises and public financial institutions, or in the form of purchases of local authorities’ bonds.
See, for example, the June 1997 Cabinet decision on fiscal structural reform.
Yoshihisa Kitai, “The importance of public investment in local regions,” in LTCB Monthly (November 1997) reports that there has been a strong positive correlation between the number of Diet seats per capita and cumulative public investment per capita in different regions. Rural areas also have a disproportionate voting weight in the Diet owing to the massive shift in the population toward urban centers occurred during the 1950s and 1960s. The emphasis on using public investment to equalize income across regions also intensified after 1970 in response to the disparities that resulted from rapid growth of urban areas during the previous decade. The November 1994 Election System Reform Bill, which shifted a number of seats from a proportional constituency to a winner-take-all basis, is expected to reduce relative importance of rural constituencies in the Diet.
The social capital stock in urban areas is considerably lower than in rural regions. For example, in Tokyo, Osaka, and Nagoya is there is only one mile of paved road per automobile versus over two mile per automobile in the regions. Other indicators (including number of hospital bed, libraries, and nursing homes) are similarly skewed. See Economic Planning Agency, Economic Survey of Japan: 1996–1997 (Tokyo: Government of Japan, 1997), pp. 75–85.
A recent report by the Central Council on Construction Contracting Business “Future Directions of the Construction Industry Coping with Structural Change of the Market” (February 4, 1998) has called for limits on the practice.
For a discussion, see Takatoshi Ito, The Japanese Economy (Cambridge MA: MIT Press, 1996), Chapter 6.
OECD, Economic Survey, Japan 1997 (Paris: Organization for Economic Cooperation and Development, 1997), pp. 66–69.
For example, it is reported that books are published that list preset prices for construction projects and lists companies that are allowed to supply materials. For a discussion, see Mark Tilton, “Regulatory Reform, Antitrust, and Market Opening in Japan,” in Mark Tilton and Lonny Carlile (editors), Is Japan Changing Its Ways? Regulatory Reform and the Japanese Economy (Washington, D.C.: The Brookings Institution Press, forthcoming). Efforts to reduce bid rigging intensified following a number of high-profile bribery scandals in 1994.
William H. Cooper, “Japan—U.S. Trade: The Construction Services Issue,” Congressional Research Service: Report No. 93-957E (November 1993).
Although the cost-benefit analysis appears to be somewhat rudimentary, insofar as it focusses on comparing projects within sectors, but not across different sectors.