Jesper Koll is a Managing Director and Head of Research at JP Morgan Japan Securities Inc. He has been analyzing and investing in Japan since becoming a resident in 1986.
Yes, there is a “magic bullet” for Japan’s economy. Yes, I really think it does exist, that one policy action that will put an end to economic stagnation. Of course, it is my personal view, but here we go: Japan should pass a law that automatically raises the consumption tax by an additional one percentage point every year on April 1.
And, yes, this law must not specify how many consecutive years this step-up is supposed to happen. Toriaizu—for the time being—the consumption tax will be going up with the start of the new fiscal year, end of story.
Why do I think this will work? First of all, it is great economics. Second, it is good politics. Let me explain. The economics is simple—it aims directly at both deflation and fears of a bankrupt pension, social welfare and heathcare system. Survey after survey confirms that by far the single biggest worry is uncertainty (or should I say certainty?) that the states’ promises to cover a graceful retirement cannot be honored. This is what drives up private savings, which in turn depresses demand, which leads to further deflation.
Politicians have been quick to find excuses for not hiking the consumption tax ever since it became clear that Japan’s demographics dictate a shift away from direct taxation to indirect taxation. But the consumption tax is the right thing to do. As Japan’s workforce declines, the tax base drops off. Fewer and fewer people earn income that can be taxed. To offset the revenue loss the easiest thing to do is start taxing at the point of consumption. Also, the consumption tax is much fairer as it is basically impossible to avoid. As the famous politician Michio Watanabe said at the time of the introduction of the sales tax in 1989, “The consumption tax is good because even the yakuza and politicians will have to pay it.”
Unfortunately, every year that the decision to raise the consumption tax is postponed, the need for a more aggressive hike increases. With debt-to-GDP at almost 200 percent, Japan’s risks of a debt-spiral are considerable. Most economists calculate that the tax would need to be raised from the current five percent to almost 20 percent to make fiscal consolidation credible. Scary prospects, but to be fair, it is simply impossible to predict and calculate what exact level of consumption tax would be optimal for Japan. All we do know is that it is not five percent but higher. Hence my proposal to—toriaizu—hike the tax by one percentage point every year. We can then see how effective the new system is, how quick and efficient the impact on total tax revenues will be. Clearspeak: Let’s not pretend we know how much is needed now, but let’s be pragmatic and realistic.
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