Campaign Promises 

 

Ichiro Suzuki

In the House of Councillors (Upper House) in July, parties made great efforts to appeal to voters on what they were going to do about ever-rising prices. After nearly three decades of stagnation, wages and salaries in Japan started to rise the few years at last, only to be eclipsed by consumer prices that were also brought back to life to rise even faster. 

Anti-inflation measures, politicians call such policies, are nothing but a fight to contain inflation. Quite contrary, it was about giving voters some breathing space amid rising prices. They were either cash handouts or reducing consumption tax. Elimination of ‘temporary tax’ on gasoline was also on agenda. This tax has been in place for decades but is still called temporary. Lower gas prices would help rural voters who are a great deal more dependent on cars for mobility than city dwellers, and hence are suffering from higher gasoline prices.. 

A big question is how they are going to finance it. Far right populists Japanese First Sanseito openly embraces modern monetary theory even if MMT has lost its luster lately. They advocate deficit-financed tax cuts and cash handouts. Maybe Sanseito boss Kamiya is not able to imagine the potential wrath of the bond market. All other politicians on the other hand talk about the government’s tax revenue that is running higher than any time in history. The Japanese economy isn’t in a bad shape and inflation is running high, providing a recipe for robust tax revenue. In fact, deficits have come down considerably. In 2024 the government’s budget deficits were estimated at relatively healthy 2.4% of Japan’s GDP,  the second lowest in G7, and almost met Europe’s Stability and Growth Pact, which in turn is being compromised today due to rising defense spending amid recent geopolitical developments. As for stock of debt, the ratio of debt to GDP has fallen to 236% in 2024, down from the north of 250% a few years earlier, in the immediate aftermath of massive fiscal expansion that responded to the coronavirus crisis. Inflation is contributing greatly to lower debt to GDP numbers. 

In the meantime, the bond market keeps politicians in check. Japanese government bonds’ ten-year yield rose above 1.6% following the election, the highest in sixteen years. The fact that the ruling coalition no longer controls majority either in Upper or Lower House raises a chance of more populistic policies. While dubbed as anti-inflation measures, these policies stimulate demand further at a time when prices are rising in response to supply constraints. If anything, politicians are going to push prices further up. In addition, the Bank of Japan appears to have no intention of jacking up interest rates in order to bring inflation down through lower demand. Small and Medium sized corporations are still too highly leveraged to withstand much higher interest rates. Many of them gladly borrowed interest free loans from the government amid the COVID crisis. Interest rates might have been free but SMEs were still requested to pay back the principal. Having hardly thought about it, they are struggling to do so. Weeding weak SMEs out would greatly restructure the economy, enhancing productivity, and that’s what the country badly needs. However, it’s a political suicide. Small business owners traditionally support the LDP. There are many small business owners. Other parties would love to woo their votes if they defected from the LDP. No one can be too tough on them.

 While tax collections are running higher than ever, Japan’s mountain of debt allows little space for fiscal largesse. Even worse, there is more than a reasonable chance that Donald Trump presses Japan for much higher defense spending, after he demanded it on NATO members. NATO has agreed to raise it to  5% of GDP by 2035. It is said that Trump wants 3.5% from Japan. The country has long limited its defense spending at 1% of GDP. Since then, it is rising in the 2020s and is expected to reach 2% in 2027. A potential target of 3.5% of GDP could be met in ten years. That said, much greater defense spending would be possible only at the expense of other major spending items. Whether politicians like it or not, those who run the government will have to keep talking to the bond market.

About the author: Mr. Suzuki is a retired banker based in Tokyo, Japan.