Newspaper reports indicate that Japan’s Tax Commission has used its role as an advisory panel to the prime minister to propose lowering the minimum taxable individual-income level. Raising taxes on the poor is justified by attempting to share the income-tax burden more widely. A wide range of allowable deductions has raised the minimum taxable level to a point that is high when compared to other industrialized countries.
The panel also recommends that the government review the “permanent” flat-rate cuts on income and resident taxes that were implemented in fiscal 1999 and raise consumption tax rates in the future. Proposals also include allowing local governments to implement a new corporate tax.
However, raising taxes during this period of slow growth might be the worst possible solution for restoring balance to the public treasury. It is hard to imagine a worse course of action than increasing taxes at a time when unemployment is high and economic growth is sluggish.
Japan should find a way to reduce the government’s budget deficits before the growing flood of debt swamps the economy. Japan’s public-sector debt is now well over 130 percent of gross domestic product. This has ballooned during the 1990s due to tax cuts and unbridled deficit spending.
Japan might take a page from the successes of “supply side” economics from the 1980s and implement sharp cuts in income and corporate taxes. One element of this is portrayed vividly by the so-called Laffer Curve, whereby permanent tax cuts can lead to increased tax revenues. This would occur because households and businesses would work and invest more when granted greater control over their prospective earnings.
One approach might be implementing a flat tax with a low marginal tax rate to replace the maximum income tax that was recently reduced to 50 percent from 65 percent. And then there are the punitive rates on inheritance taxes. Death duties reach 70 percent on estates valued over $18.5 million, which results in about $18 billion being taken from families and individuals. These sums hinder capital formation and new investment by diverting funds from possible business expansion. Lowering the overall tax burden on households would encourage an increase in consumption more than would passing out freshly printed money.
Evidence of the efficacy of tax cuts can be seen in what is arguably the only bright spot in Japan’s economy, business investment. This is largely due to a cut in the corporate tax rate from 46.5 percent to 40 percent. These are steps in the right direction and bring Japan a bit more into line with international standards.
The imposition of the consumption tax is widely viewed as the final straw that brought on the current recession by reinforcing negative forces in the economy.
The decision to rely upon higher taxes for deficit reduction is indicative of an outmoded mind-set. Things might be different if political choices were made solely on the basis of equity and fairness or service to the community. Few citizens in Asia believe that happens, however.
A superior approach to reducing public-sector deficits would rely upon restoring economic growth that will bring about revenue increases without imposing new taxes or increasing existing levies. Globalization shows that high economic growth is a matter of choice for policymakers.
Moving to high growth requires that governments take the initiative to implement policies and support institutional arrangements that provide incentives for private entrepreneurs to take risks. In the end, only private-sector actions can provide a sustainable source of job opportunities and additional wealth for a community. It is time to unleash more of these forces and allow greater scope for market transactions. In so doing, entrepreneurs can better discover what their fellow citizens want most on the basis of the prices they are willing to pay.
In too many instances, raising taxes will place more money into a political culture tainted by mismanagement and corruption, and increase the government presence in the economy at the very time it should be cutting back.
Instead of raising taxes, Japan’s leaders should abandon the flawed and largely fruitless policy of deficit spending and implement radical and permanent tax reform. Attempts to stimulate the economy that are based on deficit-spending packages will eventually lead to rising interest rates, inflation or both. In all events, deficit spending is normally meant to address cyclical problems. It seems obvious to all but its leaders that Japan’s economy is in a long-term structural slump.
A permanent lowering of taxes would help end the deflationary spiral that has kept Japan’s economy in recession. Returning funds to households and businesses would create an effective “wealth effect” that should boost consumption and inspire new capital formation.
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