Political turmoil casting doubt on public finances

by Shinya Ajima

Kyodo

Four months after the devastating earthquake and tsunami in the northeast, the economy shows some signs of recovery, but at the same time uncertainty is growing over public finances as the government struggles to implement budgets and push through fiscal reforms amid political turmoil.

Firing a rare warning shot, Finance Minister Yoshihiko Noda said last week the government may run out of money as early as October unless the Diet allows it to issue financing bonds by passing a bill that has been blocked by opposition parties, which control the Upper House.

Without the passage of the bill, the government would be unable to execute some 40 percent of its ¥92.41 trillion initial budget for fiscal 2011 and could possibly lead to shutdowns or reductions in public services.

Noda wanted to ensure cooperation from the two major opposition parties, which had confirmed they would support the bill on condition that Prime Minister Naoto Kan would review the Democratic Party of Japan’s main policies, which they dub “pork-barrel spending,” such as monthly child allowances and toll-free expressways.

“As finance minister, I will make all-out efforts to win the Diet’s approval” before the current session ends in late August, Noda said.

The uncertainty over expenditures comes in tandem with frustration among the opposition parties over Kan’s attitude.

The prime minister spoke in June of his readiness to step down after making “certain progress” in rebuilding the areas devastated by the March 11 disaster, a move that helped him survive a no-confidence motion in the Diet.

But more than a month after his surprise announcement, Kan still has not clarified when he will leave office, instead outlining a number of goals he wants to achieve before his exit, including the enactment of the debt-issuance bill, as well as of another bill to promote the use of renewable energy, which may take longer to get Diet approval.

“I doubt the opposition camp will easily accept those conditions,” said Hiromichi Shirakawa, chief economist at Credit Suisse Securities (Japan) Ltd.

“They would be rather fond of the strategy to buy as much time as possible while taking into account public opinion and reactions from financial markets.”

The political wrangling casts a shadow over the country’s attempts to rehabilitate its fiscal health, the worst among major developed countries.

With a strong push from Kan, the government and ruling coalition agreed last month on a draft reform plan featuring the doubling of the politically sensitive consumption tax to 10 percent in stages over the next several years to secure funds for swelling welfare costs.

Kan originally aimed to clarify that the government should achieve the 10 percent rate by fiscal 2015.

But given protests from within his DPJ, Kan finally gave up on the idea, making some concessions by employing the vague wording of “by the mid-2010s,” with a Cabinet minister confirming this ranges from fiscal 2014 to 2016.

The ambiguity was called for by some of Kan’s DPJ colleagues, who were opposed to deciding on such a crucial — and universally unpopular — policy under a leader who is seemingly about to quit.

Analysts say the failure to set up a specific schedule for the envisaged tax hike means it has become increasingly difficult for the government to draw up a bill for the reforms, and that the conflict within the DPJ only gives the opposition camp further opportunity to topple Kan’s reform drive.

“Now only one thing is evident. We will not have a higher consumption tax for a while,” said Lee Chi Woong, economist at Goldman Sachs Japan Co.

Ryutaro Kono, chief economist at BNP Paribas Securities (Japan) Ltd., echoed this view, writing in his report that “the social security and tax reforms will be shelved at least until the formation of a new administration,” adding it is uncertain whether Kan’s successor will have the same zeal.

The natural disaster has led the government to create two extra budgets for fiscal 2011 to finance reconstruction work, totaling some ¥6 trillion, and to prepare a third supplementary budget, which could be even bigger.

Unlike the earlier budgets, the latest one, possibly worth more than ¥10 trillion, would be chiefly funded by fresh government bonds, and the debt would be repaid with the government temporarily raising taxes.

But talk of tax hikes adds further uncertainty.

Some lawmakers, both ruling and opposition, are opposed to placing additional burdens on taxpayers before elections, suggesting the Bank of Japan underwrite the debt and supply ample funds, an unconventional method the central bank warns could trigger inflation without economic growth.

No time can be wasted on fiscal restoration, however.

Moody’s and Standard & Poor’s, the world’s two biggest credit-rating agencies, have threatened to downgrade their evaluations of Japanese government bonds, urging Tokyo to set up credible long-term rehabilitation goals despite rises in public spending after the disaster. A lower rating could lead to higher borrowing costs.

Under the current goals, the government seeks to achieve a primary balance surplus in fiscal 2020, which means the nation can finance all of its spending, except for debt-servicing costs, without issuing new debt, after halving by fiscal 2015 the ratio of primary deficit to nominal gross domestic product. The government is due to review the goals later this year.