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Abe rolls the dice on his political legacy with tax hike

by Isabel Reynolds and Emi Nobuhiro

Bloomberg

Shinzo Abe will almost certainly become the nation’s longest-serving prime minister next month. Whether he will be remembered as a success could well hinge on how the economy weathers the consumption tax hike.

Legislation raising the tax to 10 percent from 8 percent took effect Tuesday, a long-planned step intended to help the government rein in the world’s largest public debt load.

But it’s a risky one — past tax hikes have tanked the economy and derailed political careers.

“This tax hike will be a major part of Abe’s legacy,” said Tomo Kinoshita, global market strategist at Invesco Asset Management Ltd. “Abe is making a very important step forward for Japan’s dire fiscal conditions and this couldn’t be done without him standing on firm political ground.”

Abe has plowed ahead with the tax increase despite global economic jitters, trade tensions and an Upper House election in July. If he pulls it off without major damage to the economy or his public support, the three-term Liberal Democratic Party leader will gain bragging rights that he cracked the formula needed to pass measures to fix the nation’s finances.

In his first comments after the hike took effect, Abe reiterated a line he used frequently leading up to the increase, namely that the government is paying close attention to its effect and has ample measures to make sure the increase doesn’t hurt the world’s third-largest economy.

“In the long term, the biggest problem facing Japan is the low birthrate and the aging population,” Finance Minister Taro Aso, a key architect of the government’s tax hike policy, said Tuesday. “This arrangement is absolutely necessary to build a social security system for all generations.”

Seven years ago, Abe assumed leadership of a country struggling through stagnant growth, a rapidly aging population and a mountain of debt spent battling deflation in the 1990s. His signature Abenomics program coincided with a global upswing that has helped the country break out of the malaise, fueling corporate profits and stock market growth.

Abe has twice delayed the consumption tax increase for fear that the economy might not withstand the blow, most recently ahead of an election in 2016. The last hike in 2014 dragged down consumption and prices, shrank the economy by more than 7 percent and forced the Bank of Japan to expand its stimulus.

The current measure is estimated to bring in ¥5 trillion annually, of which ¥1.9 trillion will go to paying down debt. The plan survived its first big test in July when the LDP-led government came out as the big winner in the Upper House election.

But victory has come at a cost. The government pledged to put part of the proceeds of the tax toward popular programs like subsidizing education and child care fees, helping soften the blow and weaken political opposition.

The tax increase is now expected to reduce economic output by 2.7 percent this quarter, according to economists surveyed by Bloomberg, or less than half the impact of the previous hike. A poll published by the Nikkei financial newspaper on Sept. 13 found that 52 percent of respondents approved of the hike, while 42 percent disapproved.

“If this tax increase is overcome safely, it will be a barometer that shows the stability of the current administration,” said Masahiko Shibayama, a leading member of the ruling party’s Policy Research Council. Success could open the door to other Abe policy priorities, such as revising the pacifist Constitution.

On Tuesday morning, clerks were busy lining store shelves with new price tags and stations unveiled maps showing revised train fares. If the government has gotten its calculations wrong, one of the first signs could come on Nov. 1, with the release of vehicle sales data for October.

The Abe administration has tried to cushion the blow for the big-ticket items that are a key driver of consumption through a complicated revision of the various taxes on autos — a move aimed at keeping the end price relatively stable after the consumption tax increase.

LDP members are confident that the government will be able to absorb the hit as Abe prepares to overtake Prime Minister Taro Katsura, who was in office a century ago, as the country’s longest-serving elected leader on Nov. 20. His current term as ruling party chief expires in September 2021, although a fiscal win could give him support to push through rule changes for an unprecedented fourth term.

Abe could still see his plans torn asunder by a slowing global economy that has been dented by the trade war between the U.S. and China — Japan’s biggest trade partners. In New York last week, Abe said he won assurances from U.S. President Donald Trump that he wouldn’t implement tariffs on Japan’s $50 billion worth of cars and parts it sends to the U.S., but their joint statement didn’t definitively end the tariff threat.

In another possible warning sign, Japan’s factory activity shrank at its fastest pace in seven months last month. Japanese manufacturers’ confidence fell to the lowest level in more than six years, the BOJ’s tankan survey showed Tuesday. Slowing demand overseas has made the economy more dependent on consumer spending, which is likely to take a hit from the tax hike.

“Even a 2 percent difference adds up so that your outgoings will be bigger,” said Tomoyo Fukumori, a 30-year-old office worker in Tokyo. “I will rethink my everyday spending.”

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