Japan needs to reduce debt mountain, says IMF

Japan needs fundamental reforms and a credible plan to reduce its debt mountain, says the Executive Board of the IMF (International Monetary Fund).

The IMF praised Japan’s new government in December 2012 for introducing a new policy framework to end the country’s long-term deflation and increase growth.

During the first quarter of 2013, Japan’s economy grew by a seasonally adjusted annual rate of 4.1%, after six months of stagflation. A weaker Yen and strong regional demand lifted exports. Rising equity values fuelled consumption.

The Japanese economy is forecast to grow by 2% this year, and only 1.2% next year “as a continued pick-up in private domestic demand is offset by fiscal withdrawal from the consumption (sales) tax increase – from 5 to 8 percent – and an unwinding of reconstruction spending.

Over the medium term, growth is expected to converge to 1 percent as a recovery in investment is offset by a slowdown in labor supply due to population aging.”

Prime Minister Shinzo Abe says the government will decide whether to raise sales tax from 5% to 8% during the next two months.

Bloomberg quoted Frederick Neumann, co-head of Asian economics research at HSBC, who said “Increasing the sales tax would “knock back growth. The temptation is thus to back off tax reform. That would be a mistake. Markets need reassurance that the government is set on long-term fixes.”

Expectations for inflation have started to appear in the Japanese economy. June saw a positive inflation figure.

The IMF says Japan’s short-term outlook has improved significantly, thanks to higher government spending and Prime Minister Abe’s monetary easing.

Mr. Abe has asked the Bank of Japan to aim for a 2% inflation rate within the next 24 months.

Factors that could undermine economic growth in Japan

The IMF report also warns that incomplete domestic reforms and a weaker external environment could undermine growth outlook. The best way to minimize the factors that could negatively affect economic growth is the “sustained implementation of the authorities’ reform program”.

Japan’s public debt will be 250% of the country’s GDP (gross domestic product) in 2013. The report stresses the need to reduce this urgently.

In a press release, the IMF wrote:

“In this regard (reducing public debt), Directors generally supported the authorities’ plans to double the consumption tax rate by 2015, although a few Directors expressed concern over the possible adverse impact on growth. Directors also underscored that additional revenue and expenditure measures will be needed beyond 2015.”

The report emphasized that the new monetary framework need to be supported by far-reaching structural reforms in order to address deflationary expectations and achieve long-term growth.

The executive board called on the Japanese government to focus on:

  • creating fiscal incentives to work and invest
  • deregulating agriculture and services
  • further relaxing immigration requirements
  • getting rid of constraints on the provision of risk capital to companies
  • reducing excessive labor market duality
  • revitalizing small- and medium-sized businesses

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