Summer will soon be over. So far, the season has been plagued by climatic disturbances, such as heavy rains in western Japan that caused flooding and landslides and extraordinary heat waves across the country. Meantime, summer traditionally marks the beginning of the Japanese government's drafting of a new budget for the upcoming fiscal year to be completed by the calendar year's end.
Budget compilation is literally a fundamental process of statecraft, and, therefore, it is a theme the whole nation should think over. The general account budget for fiscal 2018, which began in April, amounts to about 98 trillion yen. It is widely speculated that the comparable total for fiscal 2019 may surpass 100 trillion yen for the first time. Multiple "trillions" of yen are so large for people on the street that their minds boggle.
It is said that a 1 trillion yen stack of 10,000 yen bills would be approximately 10 kilometers high. It is an incredibly colossal number, indeed. Nonetheless, the state budget, presented in trillions of yen, is a reflection of Japanese society.
Let's think about why a state needs a budget in the first place. People live their lives every day by spending their own money -- they commute to work or school by train or bus, go on a trip with family members or friends and buy food and other daily necessities at the supermarket. They thus pay on their own to get things for their own consumption.
As people spend their own money for themselves, the economy works. However, certain matters must be determined and dealt with by society as a whole. For example, it is beyond the discretion of any individual to determine how much expenditure should be allocated to road construction, the judiciary, police, foreign affairs and national security, among others. This is why a state budget is essential for a country.
In what areas and to what extent should the state spend money? Who, and to what extent, should pay taxes to finance state expenditure? Everyone must have their own ideas about those questions. In a country with a population of 100 million, there are 100 million opinions. But, at the end of the day, there should be one "answer" or decision. Politics is responsible for listening to people and reaching a decision in a democratic way.
The 19th century was an era of "small government," when the areas of government responsibility were limited to basic infrastructure initiatives, the judiciary, police and defense. However, late in the same century, the governments of Europe's advanced countries took the lead in assuming much greater roles in order to fight the income inequality caused under capitalism.
Social security takes top share
What policy plays the greatest role in the advanced countries of today in alleviating income inequality? Of course, the answer is social security, which includes public pension schemes and medical insurance, among others.
In fact, of Japan's 98 trillion yen budgets for fiscal 2018, a total of 33 trillion yen was earmarked for social security, dwarfing public works expenditures of 6 trillion yen and accounting for far and away the largest percentage in the policy expenses category. Overall social security expenditures are projected to keep increasing every year in the future due mainly to growing medical and nursing care costs.
Pension benefits and medical and nursing care costs are designed to be covered by "social insurance" premiums, most of which are paid by active employees and employers. But those payments have chronically fallen short of fully covering the benefits and costs. To make up for such a shortfall, the central and local governments have continued to inject public funds. For instance, the state covers one half of the basic pension benefits distributed to each retiree aged 65 or older.
If the state's fiscal burdens to fill the shortfall in social insurance premiums were entirely offset by tax revenues, it would pose no problem for state coffers. But, in reality, the central government's tax and "other" revenues in the fiscal 2018 budget are projected to amount to 64 trillion yen -- 34 trillion yen short of total expenditures. For many years now, the government has had no choice but to issue "deficit bonds" to make up for the shortfalls. As a result, the government's outstanding debt has continued to accumulate year after year, now amounting to 1 quadrillion yen, or more than 200 percent of Japan's nominal gross domestic product. The European Union obliges its member states to keep their debt-to-GDP ratios below 60 percent. This clearly shows how serious Japan's fiscal conditions are.
Against such a background, budget compilation for fiscal 2019 is under way. The key characteristic of the new annual process is the government's decision to allow each ministry or agency to request budgetary allocations for "economic stimulus measures" to keep the economy from weakening due to the scheduled hike of the consumption tax rate from 8 percent to 10 percent in October 2019. To that end, the government will put in place an ad hoc fund that will be separate from the main budget.
Eventual rise in consumption
In Japan, government leaders and politicians tend to say in chorus that a consumption tax is "bad for the economy." It is undeniable that any increase in the consumption tax erodes consumers' purchasing power accordingly, resulting in a decrease in household consumption, which accounts for about 60 percent of the GDP. However, this "decrease" will end up being a temporary phenomenon because household income -- or the country's GDP when seen from the macroeconomic perspective -- will increase in tandem with economic growth. This means that if we take a slightly longer view, there will eventually be an upturn in consumption.
For instance, Japan's real-term household consumption aggregate totaled 256 trillion yen in 1996 when the consumption tax stood at 3 percent. In 2016 when the consumption tax was 8 percent, the comparable aggregate rose to 297 trillion yen. As is widely known, there had been virtually no change in the country's population from 1996 to 2016 -- to be exact, the population increased by 0.8 percent. Therefore, per capita consumption in the country rose by 15 percent over the two-decade period even though the consumption tax had been raised from 3 percent to 8 percent.
Recovery in consumption is said to have remained lackluster since 2014, when the consumption tax was raised to the current level of 8 percent. What is to blame for this is not the tax hike but the continued weakness of the economy.
When we discuss the issue of the consumption tax, it is natural to focus on how the economy will be affected. But we should answer a more fundamental and important question: Why should the consumption tax be raised further?
First and foremost, consumption tax hikes are purported to cover the ever-growing social security costs amid the super-aging of society. The Cabinet Secretariat and the Cabinet Office estimate the country's social security costs will rise by 60 percent from 120 trillion yen in fiscal 2018 to 190 trillion yen in fiscal 2040. As mentioned earlier, the general account budget for fiscal 2018 has set aside 33 trillion yen for social security expenditures, which is almost equivalent to the current fiscal year's budget deficit. Given the falling birth rate and aging population, the budget deficit is likely to grow as time goes by.
Don't kick can down road
Some pundits call on the government to realize, before all else, economic growth as a way of getting rid of a budget deficit. They are not necessarily on the mark, however.
I do not mean that it is wrong to pursue economic growth. As I explained earlier, it is economic growth that can lead to an increase in consumers' purchasing power in the long run. When the economy keeps growing, tax revenues automatically increase even without raising tax rates. Nonetheless, advocating economic growth ahead of anything else tends to mislead the public to wrongly think that economic growth is good enough for the country to achieve fiscal consolidation, letting the nation as a whole just kick the can down the road instead of exerting effort to fix the budget deficit.
Japan is not the only country facing an ever-swelling social security expenditure amid super-aging. To ward off pressure on member states' fiscal resilience, the EU has set a minimum standard rate of 15 percent for their value added tax (VAT) on goods and services. Here in Japan, attention is being paid only to the plan to raise the consumption tax to 10 percent in October 2019. It is important to note that the forthcoming tax hike will be just one milestone in our society's unavoidable endeavor toward fiscal restoration.
In our super-aging society, to prevent income inequality from worsening and the birth rate from falling further, we need to expand social security coverage to include the younger generations. The consumption tax -- a pay-tax-as-you-spend approach -- will have to be raised to ensure the future of society in which we live our lives day after day. In this regard, politicians are responsible for providing the public with thoughtful and detailed explanations.
The government leadership has authorized each ministry or agency to include in their annual budget proposals requests for "economic stimulus measures" through an ad hoc fund, instead of choosing to work hard in giving sufficient explanations to the public. This decision makes me feel gloomy about both the future state of social security and that of fiscal health.
Special to The Yomiuri Shimbun
Yoshikawa is a professor at Rissho University. Prior to this, he was a professor at the Graduate School of Economics of the University of Tokyo. He concurrently served as a member of the Council on Economic and Fiscal Policy and as the chair of the National Council for Social Security. He is a member of the Fiscal System Council, of which he was chair for seven years from April 2010.
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