After two postponements by Prime Minister Shinzo Abe’s government, the excise tax will rise from 8 percent to 10 percent on Tuesday, with the government claiming the increased burden on consumers is essential to promoting welfare programs and reducing growing public debt.
The move remains unpopular with the public, and now attention is focused on how it will affect the already shaky economy.
In parallel to the tax increase, various measures will be implemented on Tuesday to cushion the effects, including bonus programs for cashless payments, a free preschool education initiative and reduced taxes on food and non-alcoholic beverages.
The government hopes to use the high spending programs to support consumption in order to avoid a repeat of the economic success after the previous tax hike in 2014.
Some economists predict that the various measures will to some extent absorb the effects. However, they also warn that consumption will take a hit in the face of weakening consumer sentiment, which in turn could slow overall economic growth.
“The increase in the consumption tax will of course burden households. … There are different views as to whether the impact will be quite small or a little deep, as it was in 2014, ”said Shinichiro Kobayashi, an economist at Mitsubishi UFJ Research and Consulting Co.
When the government increased excise tax from 5 percent in April 2014, the first jump in 17 years, to 8 percent, the economy was dealt a major blow as GDP contracted two quarters in a row between April and September of that year. The damage was enough for Abe to delay a planned increase to 10 percent in 2015.
Kobayashi predicts that the increase will affect consumption for the immediate October-December quarter this time around, but “the decrease will be relatively small and will not last until early next year.”
The Abe government, trying to limit the impact of the tax hike, has turned to high-spending fiscal policies.
It is estimated that the 2 percentage point increase will put a burden of approximately 5.7 trillion yen on households. However, free preschool education, maintaining the 8 percent rate on food and soft drinks, and increasing social welfare are expected to reduce this burden to around 2 trillion yen – about a quarter of the 8 trillion yen of the 2014 hike; according to the government and the Bank of Japan.
Kobayashi pointed out other factors that could limit the damage this time around. Compared to 2014, the nation has lower unemployment, higher incomes and more workers overall, he said.
Some economists are not so optimistic about the outlook.
Takayasu Kudo and Izumi Devalier of Merrill Lynch Japan said in their July report that consumer confidence “is likely to remain weak after the tax hike, leading to a sluggish recovery in household spending”.
“The increase in the consumption tax represents a permanent shock to the real disposable income of private households and is likely to depress household income expectations accordingly,” they write.
Kobayashi also warned of other risks as the escalating trade war between the US and China has made the economy dependent on domestic factors – especially consumption and investment – due to declining exports.
Although overall income has increased, Kobayashi found that consumer confidence has been weak and remains worse than it was in 2014.
According to the cabinet, the consumer sentiment index fell in August compared to the previous month, the 11th month in a row, by 0.7 points to 37.1 points. In March 2014 the value was 37.5.
What exactly is keeping the index down is not clear, but confidence is particularly weak among older generations, Kobayashi said, adding that the current economic situation is more favorable to younger people.
For example, the tight labor market in recent years has made it easier for young people to find work and companies are more willing to pay higher salaries in order to retain talent.
Since some of the tax hike relief measures, like the free preschool program, are primarily aimed at benefiting young people, the higher tax could hit older generations harder than expected, Kobayashi said.
In a report published in September by the Daiwa Institute of Research, it was estimated that the benefits of the free preschool program offset the impact of the tax increase on households of two or more people aged 49 years or younger with one or more children aged 3 to 5 Older or single households might be more shouldering. The report also warned that while the tax hike burden will be 2 trillion yen less than the 2014 hike, consumption will decrease moderately through the next fiscal year.
Yasunari Ueno, chief market economist at Mizuho Securities, predicts the tax hike will lead to an economic downturn and that various government measures to offset the burden will have limited impact.
The tax hike brings the tax rate down to two digits, causing consumers – especially seniors and those who rely on pensions – to tighten their wallets, he said.
The cashless rewards point programs, he added, will only last for nine months and will be limited to younger generations as the elderly are generally unlikely to take up technology-heavy options.
“We really can’t expect too much (from the programs),” he said. “I tend to think that its impact is not that significant.”
Staff writer Masumi Koizumi contributed to this report.
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