Speaking Out | Economic Growth Should Be Top Priority in Fiscal Management

On June 11, the Japanese government released a draft Basic Policy on Economic and Fiscal Management and Reform for 2024. This document sets the direction of future economic and fiscal policies. 

The 2024 draft aims to ensure Japan's breakaway from deflation by addressing various social challenges. It seeks to create a society in which people can feel a sense of prosperity. Notably, the draft includes an indicator for fiscal consolidation, which has garnered significant attention.

Aiming for a Primary Balance Surplus

The government retained in the draft its target of achieving a primary balance surplus in the fiscal 2025. The primary balance, or PB, is an indicator that shows whether government spending other than government bond expenses can be covered by tax and other revenues. A surplus means that such government spending is fully covered by these revenues.

Certainly, it is desirable that the vitalization of economic activities will push up tax revenue to bring about a PB surplus. However, the surplus should be achieved as a result of economic growth. Even if expenditure cuts are made to achieve a surplus when the economy is stagnant, the surplus cannot be sustained. Economic growth should be a top priority.

Therefore, the target timing for achieving a PB surplus should be set flexibly according to actual economic conditions. It should not be set on a calendar basis, as is the case with the 2024 Basic Policy draft.

The Policy's PB Surplus Target Year

The annual Basic Policy has traditionally advocated "fiscal policy based on the economy" as a basic principle. However, it should clearly state that it "aims for fiscal consolidation through economic growth."

The latest draft includes a six-year "Economic and Fiscal Revitalization Plan." It covers fiscal years 2025-2030 as a near-term fiscal consolidation plan. The framework retains fiscal year 2025 as the target year for achieving a PB surplus, as previously set.

The government's expenditure guidelines set de facto ceilings for each expenditure item. They practically work as standards for budgetary assessment. The 2024 Basic Policy draft calls for continuing efforts to realize the expenditure guidelines for the new plan's first three years (fiscal 2025-2027), following on from the previous three years. However, the draft also says, "The specific details [of the efforts] will be considered through the budget formulation process, taking into account economic and price trends."

The government says that achieving a PB surplus in fiscal 2025 is within sight. However, whether this will be achieved depends on the size of a supplementary budget for that year. 

Interestingly, the draft notes that if a certain level of PB surplus is maintained between fiscal 2025 and 2027, fiscal sustainability can be secured. This is similar to the idea that a modest PB surplus can be maintained if the economy remains stable after its initial achievement.

The Flexibility Clause as Abe's Legacy

The expenditure guidelines play a significant role in the budget formation process. However, in the draft policy, they are relegated to a footnote rather than being included in the main text. This disrupts the balance. 

At the same time, the draft retains a clause stating that the expenditure guidelines or any other fiscal constraints should not limit the range of important policy choices. This is a so-called flexibility clause. It is designed to allow fiscal policy to adapt to major policy shifts, such as a substantial increase in defense spending. The clause reflects the vision of the late former Prime Minister Shinzo Abe, who wanted to ensure the Basic Policy was flexible enough to respond to various situations.

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(A version of this article was first published by the Japan Institute for National Fundamentals. Find it in Speaking Out #1154 in Japanese on June 17 and in English on June 19, 2024.)

Author: Etsuro Honda

Etsuro Honda is a member of the Planning Committee of the Japan Institute for National Fundamentals and a former special adviser to the cabinet. He advised the late Prime Minister Shinzo Abe on the implementation of Abenomics.