IMF Supports Japanese Tax Reform

by Mary Swire, Tax-News.com, Hong Kong

09 June 2011

At the conclusion of their 2011 consultation with Japan, International Monetary Fund (IMF) staff have stated that new tax measures are needed to limit bond issuance and strengthen the commitment to fiscal reforms.

The IMF statement agreed that the immediate priority for Japanese fiscal policy is to repair damaged infrastructure and facilitate a swift recovery, after the earthquake and tsunami in March this year. It has estimated that the fiscal cost of reconstruction could range between 2% and 4% of gross domestic product (GDP), spread over several years.

While, it says, the government has moved quickly to pass its first supplementary budget of around 0.8% of GDP to address immediate needs, “the timely passage of a second, sizeable supplementary budget, which is well targeted and focused on revitalizing the affected regions, would help address downside risks.”

At the same time, the IMF adds that new tax measures are needed to limit bond issuance and strengthen the commitment to fiscal reforms. “While other tax measures could also be considered, we recommend a moderate increase in the consumption tax, from 5% to 7%-8%, starting in 2012 when a cyclical recovery is underway.”

“As the new revenue would support reconstruction, the net impact of this tax increase and spending on growth is unclear but would likely be moderate,” it continues. “The alternative, relying mainly on debt financing would add to fiscal risks stemming from an already high level of public debt, which at over 220% of GDP in gross terms is the highest among advanced economies.”

However, while the IMF welcomes the government’s fiscal strategy committed to halving the primary deficit as a percentage of GDP by FY2015 and reducing the debt ratio starting in FY2021 at the latest, it is its view that “more needs to be done to put the net debt-to-GDP ratio on a downward path earlier by the middle of this decade”. Given the limited scope for cutting expenditure, it feels that fiscal adjustment will need to rely mainly on new revenue sources and limits on spending growth.

In the IMF’s opinion, “the key revenue measure would be a gradual increase in the consumption tax to 15% over several years, yielding 5% of GDP. To promote domestic investment, the corporate income tax rate, currently at 40% could be lowered to 35%, with revenue losses offset by reforms of personal income tax that reduce allowances and base exemptions, the Fund said.

Recommended