It is axiomatic to say that the taxes people pay represent the most basic cost of maintaining autonomy and democracy. That’s why the tax code should be written by national legislators, not government bureaucrats. But tax reform is almost always controversial, as evidenced by the fiscal 2005 tax reform package completed by the governing parties Wednesday.
Politicians face painful decisions when an increase in the tax burden is considered inevitable. Tax increases are politically unpalatable and are difficult to implement at a time of sluggish economic growth. So it is not surprising if election-conscious legislators avoid or postpone hard choices. At the very least, however, they have a duty to explain why tax increases are necessary and how they should be implemented.
Of course, persuading a tax-averse public is not easy in democratic politics. Experience shows that Japanese politicians have tended to play safe, creating in the process a broad perception that raising taxes is a bad idea. Japan today has one of the lowest tax burdens among the major industrialized nations.
In the long run, there is no avoiding tax increases, given the worsening fiscal crisis. With public debt reaching about 160 percent of gross domestic product, it would seem that Japan is falling into a bottomless pit. The task for politicians is to devise a credible exit strategy. At the moment, though, there is not much evidence that they are rising to the occasion.
Regarding 2005 tax reform, the biggest question was whether to abolish the flat-rate cuts on income taxes for individuals. The ruling parties have agreed to halve the rate cuts in fiscal 2005 but postponed a decision on what to do with the other half in fiscal 2006. The agreement, they say, could be reconsidered if the economic situation deteriorates. That may be a safe approach, but it should not be forgotten that the tax cuts were introduced as a temporary measure in 1999 when a series of bank and brokerage failures threatened a financial panic and an economic recession. Flat-rate tax cuts under a system of progressive taxation is not the usual way to provide permanent tax relief.
The economy has clearly improved since 1999, although it has shown signs of weakening in recent months. For one thing, banks have made good progress in cleaning up their bad loans. So there seems to be no compelling reason to continue the temporary tax relief. The ruling parties should have decided to abolish it. Extra revenues from its phase-out will help pension planning because they will be used to increase government contributions to the basic pension fund.
The reform package calls for a wholesale review of national income and resident (local income) taxes in fiscal 2006 when local governments are expected to gain more tax-collecting authority from the central government as part of fiscal decentralization. Here, too, the ruling coalition should have presented a more specific plan.
One question that remains is whether to alter progressive income tax rates (ranging from 10 percent to 37 percent), which are said to favor wealthy people rather than middle-income workers. The burden on high-income earners can be raised in other ways, such as eliminating certain deductions.
The package does not measure up in other ways. Halving the tax cuts will hit low- and middle-income groups harder. The phased abolition of resident-tax exemptions for the elderly will particularly affect those who live only on pensions. Treating these low-income pensioners in the same way as those who are better off may not be a good idea.
As for the transfers of tax-collecting authority, the significance is that increased revenues from the resident tax will give local administrations more fiscal freedom. As a result, residents should be able to relate the taxes they pay more closely to the administrative services they receive.
The resident tax is collected in equal amounts from those whose income exceeds a specified level. The National Association of Mayors has requested that the tax be raised to meet the growing needs for administrative services. The ruling parties, however, have rejected the request. This looks like another case of avoiding a hard decision.
The consumption tax is another contentious issue. The question at stake is not whether but when it should be raised. A majority of Japanese expect the tax, now at 5 percent, to increase in the future. The package, however, says only that the question will be studied on a long-term basis.
One major obstacle to tax increases is classic: corruption in public offices. To secure popular acceptance, the ruling parties, as well as the government, must ensure that financial scandals such as misuses of taxpayer money by the Social Insurance Agency are not repeated.
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