January 19, 2006
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January 19, 2006

TOKYO -- The Council on Economic and Fiscal Policy on Wednesday hammered out its fiscal 2005 medium-term economic and fiscal outlook, in which it sees Japan achieving a primary balance surplus in fiscal 2011, a year ahead of schedule.
According to the finalized outlook, the government must cut spending by 20%, or 15 trillion yen, to turn the country's primary balance to the black. The future of tax and fiscal reforms will hinge on whether the council can paint a picture in which fiscal reconstruction, including a consumption tax hike, can contribute to economic growth.
This economic and fiscal outlook points out that prices will start rising by fiscal 2006 and will continue to increase if the government and Bank of Japan can work together.
Prime Minister Junichiro Koizumi said he hopes to push ahead with reforms in line with this projection. While estimates do not include policies that have not been set yet, such as a consumption tax hike, there is strong opposition to slashing spending.
Consequently, the government is expected to take a two-pronged approach by cutting expenditures and raising taxes.
The focal point of the finalized outlook is revising the relationship between economic growth rates and interest rates. The latest outlook projects nominal economic growth at 3.2% in fiscal 2011, lower than last fiscal year's estimate.
The fiscal 2004 forecast had anticipated 4% growth in fiscal 2011. It also had projected that long-term interest rates, represented by the secondary market yield on government bonds, would be lower than the economic growth rate. But the latest version sees interest rates outpacing economic growth starting in fiscal 2009.
The natural gain in tax revenue is expected to be offset by higher debt servicing costs, with the central government's tax revenue seen increasing 10 trillion yen by fiscal
2011, but payments on government bonds rising by roughly the same amount. Placed in the context of a household, it means that workers are using their enhanced salaries to pay interest on loans.
At Wednesday's CEFP meeting, Internal Affairs and Communications Minister Heizo
Takenaka asked that the outlook's projected economic growth rate be lifted by another percentage point. He believes that by aiming for strong economic growth and boosting tax revenue, tax hikes can be reined in.
However, for this scenario to work, interest rates must remain low. This plan could be deemed shaky because it relies on the continuation of monetary easing. CEFP members, including Koizumi, did not support Takenaka's proposal, and the outlook draft was approved as is.
The latest outlook offers estimates on how much spending needs to be cut for Japan's

primary balance to see a surplus. The country's policy-related spending, which is expected to balloon to more than 80 trillion yen in fiscal 2011 due to higher social security expenses and other costs, effectively would have to be slashed by about 20% to 66 trillion yen.
"Cutting spending by 15 trillion yen is no simple matter," Kaoru Yosano, minister of state for economic and fiscal policy, told reporters Wednesday, suggesting that tax hikes need to be considered as well.
The latest economic and fiscal outlook will serve as the basis for the tax and budgetary reforms the government will compile in June. The CEFP sees revenue and spending reforms as the biggest issue, and has begun listing options such as tax hikes.
At Wednesday's meeting, Yosano and nongovernment members of the CEFP also discussed setting other targets to gauge progress on these reforms. Some proposed that once a primary balance surplus is achieved, a target for the balance of long-term debt should be set.
The debate now is expected to focus on how to estimate the relationship between economic growth rates and interest rates as well as ways to balance spending cuts and tax hikes while drawing up guidelines for fiscal reconstruction.
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