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Japan's Rating Cut On Fiscal Concerns

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

26 December 2011


Rating and Investment Information, Inc. (R&I), the Japanese credit rating agency, has cut Japan's sovereign long-term debt rating to AA+, from AAA, due to concerns over its existing level of public debt, and doubts whether the government can raise sufficient tax revenue to halt the continual increase in borrowings in the foreseeable future.

R&I is the first Japanese credit agency to reduce Japan’s long-term rating, while still putting it two notches higher than Japan’s ratings by Moody's, Standard & Poor’s and Fitch. While the risk of a Japanese default is still extremely low, the agency “can no longer consider the government's ability to adjust fiscal conditions on its own to be at a level required for the highest rating.”

While R&I views positively the intention of Prime Minister Yoshihiko Noda’s government to increase the consumption tax rate, it believes that “outstanding government debt would inevitably rise for an extensive period of time even if the consumption tax rate is successfully raised”.

It points out that outstanding government borrowing has exceeded JPY1,000 trillion (USD12.8 trillion) for the first time, after reaching a debt to gross domestic product (GDP) ratio of 200% at the end of 2010. Even the government’s outstanding net debt (liabilities less financial assets of the government) had reached 116% at the end of last year, higher than added value per annum.

This, it says, is “obviously an excessive burden on the economy. Moreover, it is quite uncertain when a rise in the ratio will halt. Accordingly, a path towards the stabilization of outstanding government debt to GDP, which is already the worst among industrialized countries, is still unclear.”

The agency has seen that, “with households and firms holding sizable savings and the current account balance consistently in surplus, the government is still able to issue a large amount of (bonds) at low interest rates.” However, it is now assuming that the government will be able to continue bond issuance of the current scale only for a restricted number of years in the future, and “fiscal consolidation has become a race against time”.

R&I therefore now looks to the government for the implementation of appropriate policies, and it has factored an increase in the consumption tax rate by the mid-2010s into the baseline scenario for its rating review this time.

However, R&I notes that “with a number of lawmakers even within the ruling Democratic Party of Japan opposing consumption tax hikes, it remains to be seen whether these initiatives will be actually implemented. Should a consumption tax rise be postponed, the rating could come under downward pressure again.”

The government has a long-held medium-term policy target of halving Japan’s primary budget deficit by 2015, largely by the means of doubling consumption tax to 10% in stages, and it has recently re-emphasized that it will provide a detailed plan for those consumption tax rises before the end of this year.

It has also been indicated that the timing of the consumption tax increases would be determined by the strength of future growth in the domestic economy, and that, in that case, it is likely that the first 3% rise would have to be introduced around October 2013, with another similar increase to be expected in March 2015.

Noda has previously given a commitment to submit a bill for the consumption tax rate rises to parliament before the end of the current 2011 fiscal year at end-March 2012. However, Japan’s opposition parties, that are able to block any government legislation and are sensing the opportunity of regaining control of the lower house, are continuing to insist that a general election be held before they will agree to consider the government’s measures.

In addition, given the government’s continued relative unpopularity, many of Noda’s colleagues in the ruling Democratic Party of Japan are also loath to put forward tax increases before an election (due in 2013), and may oppose his prospective action.

In reply, Noda has re-asserted that he is determined to press ahead, but any slippage or back-tracking on the tax hike proposal would be likely to mean further credit rating downgrades in 2012.

TAGS: tax | economics | sales tax | fiscal policy | law | budget | tax rates | Japan

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