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Tuesday, Oct. 16, 2012

Curse of the consumption tax

HIKONE, Shiga Prefecture — The Democratic Party of Japan captured a whopping 308 seats in the House of Representatives election in August 2009, only to lose 10 seats in the House of Coucilors election in July 2010. This created the current "twisted" situation in the Diet, where the governing coalition holds a majority in the Lower House but the Upper House is controlled by the opposition.

In a bicameral system, the government would not be able to get anything done if the two houses are controlled by different groups, unless the ruling and opposition camps resort to a "forbidden fruit" measure of colluding with each other.

In my view, it is this split control of the legislature that made it impossible for the DPJ to implement much of the liberal policies enumerated in its original campaign pledges, and has now endangered the DPJ's very survival as a governing party. The administration of Prime Minister Naoto Kan lasted for only 15 months — just a little longer than his predecessor, Yukio Hatoyama.

In my view, the biggest reason that created the "twisted" Diet is the incredibly misguided political strategy of the DPJ under Kan to fight the Upper House election with a pledge to raise the consumption tax.

On Aug. 29, 2011, Yoshihiko Noda replaced Kan as DPJ chief and launched his Cabinet as prime minister on Sept. 3. Noda promised a "comprehensive reform of social security and tax systems," saying he stakes his political career on the consumption tax hike. The outcome was that while the proposed social security reform was set aside, the DPJ reached an agreement with the opposition Liberal Democratic Party and Komeito to raise the consumption tax rate from the current 5 percent to 8 percent in April 2014 and to 10 percent in October 2015.

The consumption tax hike law was enacted in the Upper House on Aug. 10. About 50 followers of former DPJ chief Ichiro Ozawa defected from the DPJ after they voted against the tax hike in both Diet chambers. A few others also left the DPJ, citing their opposition to the government's go-ahead for restart of Kansai Electric Power Co.'s Oi nuclear power plant in Fukui Prefecture.

Now, the Noda Cabinet's approval ratings hover just above 20 percent, and it is seen as almost certain that the DPJ will fall from power if the Lower House is dissolved for a general election anytime soon.

It is quite ironic that Ozawa, who cited his opposition to Noda's tax hike as he bolted from the DPJ to split the party and drove the prime minister to a tight corner, was the very same man who in 1994, as a key strategist behind the administration of Prime Minister Morihiro Hosokawa, abruptly proposed a hike in the consumption tax rate — sowing the seeds of the eventually collapse of the Hosokawa administration.

The Finance Ministry, in charge of the national coffers, has for years pushed for a consumption tax hike. While the DPJ promised to shift decision-making power from the bureaucrats to elected lawmakers right after taking power, the party now appears to be more controlled by the bureaucracy than the LDP had ever been.

While the LDP was in power, it was considered the governing party's primary mission to make the best use of the bureaucracy. It was taken for granted that bureaucrats would answer questions from the opposition camp in Diet committee sessions whenever necessary. When Cabinet ministers needed to answer the questions, they had only to read out the script prepared by the bureaucrats.

When the DPJ took power and the Hatoyama administration emphasized that lawmakers take the lead, at least initially, there was little that high-ranking bureaucrats could do. Most decisions were made by three lawmakers assigned to each ministry — the minister, the senior vice minister and the parliamentary senior secretary — with the assistance of a handful of talented middle-ranking bureaucrats. That effectively left many of the senior-rank ministry officials with little work to do.

Nevertheless, there was a limit to what the lawmakers — often with little administrative and policy expertise in areas covered by each of the ministries — could do to take the initiative. Perhaps one of the reasons that the Hatoyama government proved short-lived was that he clung too much on his emphasis on lawmakers' roles in policy issues.

When Kan took over, the bureaucrats conspicuously started to reclaim the power they had lost under Hatoyama's rule. And the current Noda administration is essentially controlled by the Finance Ministry bureaucracy — more so than any other Cabinets including those led by the LDP.

It is noteworthy that both Kan and Noda were serving as finance minister just before they became prime ministers. With their sophisticated skills in coaxing politicians, the bureaucrats must have found it quite easy to brainwash Noda or Jun Azumi, who served as finance minister under him until recently.

Looking back over the past two decades, non-LDP administrations suffered severe setbacks every time they proposed consumption tax hikes — Hosokawa, Kan, and now likely Noda. Nobody would argue against the need for restoring the nation's fiscal health. European experiences clearly suggest that the easiest way to secure revenue increase is to raise the consumption tax rate. Why is it then that the Japanese voters react so negatively to higher consumption tax that their revolt often proves fatal to governments?

Normally, the word "tax" is prefaced by another word specifying the item that is subject to taxation — like income tax, automobile tax, gasoline tax and liquor tax. The exception is the name "consumption tax."

In the mid-1980s, Prime Minister Yasuhiro Nakasone attempted to introduce a "sales tax" based on the model of the value-added tax adopted in many European countries. The plan, however, was scrapped in the face of strong opposition from small and medium-sized businesses, whose owners were among the LDP's traditional supporters. The European-style VAT is calculated on the basis of invoices, and the small business owners feared that introduction of such a tax would force them to make their accounting transparent.

Noboru Takeshita, who took over from Nakasone, succeeded in instituting the consumption tax in its present form after abandoning the invoice system to allow some loopholes for smaller enterprises, and changing the name of the tax to give an impression that the levies are imposed on the "act of consuming" — all aimed at mitigating the opposition from small businesses operators.

In China, this type of tax is known as "increased value tax" — a literal translation of the value-added tax. In fact, the burden of taxation on a company's added value (or increased value) will ultimately be passed on to the consumers, no matter what the tax is called.

But the different names create large discrepancies in the degrees of aversion to increased tax. A consumption tax increase tends to incur anger and opposition from consumers — and voters — because the term gives the impression that the tax hike directly hits consumers, and it can lead to the collapse of an administration.

Takamitsu Sawa is president of Shiga University.

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