Japan’s consumption tax rate is scheduled to increase substantially in April (from 5% to 8%). The motive is to address the long-term problem of very high debt. (Takatoshi Ito has stated the case in favor of the tax increase.) Prime Minister Shinzō Abe has apparently decided to go ahead with it. Many observers, however, are worried that the loss in purchasing power resulting from the sharp increase in the sales tax rate will send the Japanese economy back into recession.
It is very reminiscent of April 1997. I remember Larry Summers, who was then Undersecretary of the US Treasury, repeatedly warning the Japanese government that if it went ahead with the consumption tax hike that was scheduled for that date, Japan’s economy would go back into recession. I was in the US government then too. As the date drew near, I asked Summers why he persisted in offering Tokyo this unwanted advice, given that the prime minister of the day was clearly locked into the policy politically. Summers told me that he knew he was unlikely to change their minds, but that he wanted to be sure the Japanese would realize their mistake when they went ahead with the tax increase and his prediction subsequently came true – as it did.read more