Fiscal rehabilitation remains distant as defense spending pushes next year’s budget to ¥114 tril.

By Hironari Akiyama / Yomiuri Shimbun Staff Writer

2:00 JST, December 25, 2022

The government’s budget proposal for fiscal 2023, approved by the Cabinet on Friday, has ballooned to an unprecedented sum of more than ¥114 trillion in the general account. Two primary reasons are growth in social security spending, in line with the aging population, and a significant increase in defense spending.

As a consequence, the issuance of new government bonds will continue to hover high — as much as ¥35.6 trillion next year — making the realization of fiscal rehabilitation a more distant prospect.

Struggle between ministries

“We have been discussing, for a year since the end of last year, the issue of whether we can really and solidly protect the lives and livelihoods of the people amid a severe security environment.”

In a lecture at a Tokyo hotel on Friday, Prime Minister Fumio Kishida reiterated why he decided to increase defense spending. Next year’s budget reflects a sense of crisis over Russia’s armed aggression in Ukraine and the growing military pressures posed by China and North Korea.

The total amount in the general account increased by approximately ¥6.7 trillion from the preceding fiscal year, of which ¥1.4 trillion is for increased defense spending and ¥3.4 trillion is for a “fund to reinforce defensive strength,” which is to be set aside for future defense preparedness. As a result, the defense budget has exceeded the budgets for education and public works, becoming the second largest outlay, only behind spending on social security.

There was a behind-the-scenes struggle between the ministries of defense and finance. The Defense Ministry called for ¥48 trillion over the next five fiscal years, but the Finance Ministry argued that ¥35 trillion would be sufficient when it totaled up necessary equipment and facility spending based on various examples, including from overseas.

Both sides found it difficult to come to a compromise. Ultimately, Kishida decided on a policy of allotting ¥43 trillion to defense spending. A senior finance ministry official complained, “I wonder whether the necessity and feasibility of the [defense] spending were sufficiently examined, as [discussion of] its overall scale took precedence.”

One-time revenue increase

In the outline of tax system reform approved by the Cabinet on Friday, the government clearly stated that three taxes — corporate tax, income tax and tobacco tax — would be increased as fiscal sources to beef up defense capacity, but it postponed a decision on when the tax hikes would be implemented. The government plans to secure a combined total of more than ¥11 trillion over the next five years through nontax revenues, including the sale of national property, expenditure reforms and a budget surplus.

However, although the government expects to gain revenues from the sale of “Otemachi Place” office complex, which is expected to be sold for approximately ¥400 billion, in fiscal 2023, this will be a one-time revenue source.

Through expenditure reforms, a total sum of more than ¥3 trillion is expected to be generated over five years, but the hurdles to cutting expenditures for public works, education and other areas are high.

A budget surplus will fluctuate in every fiscal year. And more than half of it is earmarked to be used to finance the redemption of government bonds in accordance with the Public Finance Law. In recent years, the remaining half has been used to finance supplementary budgets. If this surplus is used for defense spending, it will highly likely lead to an increase in the issuance of deficit-covering government bonds when a supplementary budget is compiled for fiscal 2023 or later.

Increasing debt burden

The fiscal situation has been worsening. The total of outstanding long-term debt of the national and local governments as of the end of fiscal 2023 is expected to reach ¥1.279 quadrillion, the largest ever. This is approximately 2.2 times Japan’s gross domestic product, the worst ratio among developed economies.

The Bank of Japan has been making outright purchases of a large amount of Japanese government bonds, thereby holding down long-term interest rates. The government has been able to issue national bonds at low interest, but upward pressure on rates has intensified as the BOJ has recently revised part of its monetary easing measures. The government estimates that a 1% rise in interest rates from its presumed level would result in a ¥3.7 trillion increase in the cost of servicing government bonds in fiscal 2025.

The government assumes a nominal GDP growth rate of 2.1% for fiscal 2023 compared to the previous year, and this figure serves as the basis of the tax revenue forecast. Takahide Kiuchi of Nomura Research Institute, Ltd. pointed out: “This is an optimistic view. The actual tax revenues will highly likely be lower than anticipated and the government bonds will be issued to make up the shortfall.”