Japan’s Once Dominant Finance Ministry Rises Again With Noda Tax

Prime Minister Yoshihiko Noda
Japan's Prime Minister Yoshihiko Noda has vowed to stake his political career on boosting the levy to rein in record debt and soaring welfare costs. Photographer: Haruyoshi Yamaguchi/Bloomberg

Japan’s Ministry of Finance is back.

The bureaucratic body that dominated the nation’s postwar boom before being stripped of powers in the 1990s amid corruption scandals and an economic slump, is regaining control thanks to a ruling party that promised to rein it in.

The Democratic Party of Japan took office in 2009 pledging not to raise taxes and to curtail bureaucracy and devolve power to citizens. Last month, Prime Minister Yoshihiko Noda defied opinion polls and allowed the breakup of his own party to push through the ministry’s decade-old plan to double the sales tax.

“The Ministry of Finance is not just on its way back to power, it’s already there,” said Yoichi Takahashi, a professor at Tokyo’s Kaetsu University and former finance ministry official. “Since the Democrats took over the administration, that has become obvious.”

The ministry’s tax victory is an echo of the influence it wielded when it helped orchestrate a 50-fold, export-led expansion in the economy between 1955 and 1990, in tandem with the trade ministry. The MOF’s diminished role during the stagnation of the two decades that followed is coming to an end as bureaucrats take advantage of the inexperience of DPJ lawmakers to expand influence on policy making, said Takahashi.

Noda and predecessor Naoto Kan abandoned their party’s no-tax pledge after both served as finance minister, heading up the control of budget outlays. The DPJ reached a deal to double the five percent tax with the main opposition Liberal Democratic Party, whose leader is also a former finance chief.

Party Revolt

Noda pushed the tax bill through the lower house of parliament on June 26, sparking the resignation from his party of about 50 lawmakers led by power broker Ichiro Ozawa and only just conserving his majority. After the bill passed, MOF bureaucrats were ordered to avoid drawing attention to themselves by drinking in the ministry building or even smiling, the Nikkei newspaper reported.

Noda’s lobbying for the tax increase prompted opposition Your Party lawmaker Kenji Eda to publish a book in March entitled: “Finance Ministry Mind Control: The frightening methods of finance ministry bureaucrats, who brainwashed Prime Minister Noda to engineer the tax increase.”

“I think that’s just about right,” said Democratic lawmaker Sakihito Ozawa, who abstained from the tax vote. “Neither Mr. Kan nor Mr. Noda mentioned the need to raise the sales tax before becoming finance minister.”

Elite Lawyers

The ministry, which recruits many senior officials from the elite University of Tokyo law department, traces its history back to the Meiji restoration in the 19th century. Unlike the military and conglomerates that were broken up by the postwar U.S. occupation, MOF was left almost untouched until 1998, when it was stripped of its banking supervision role and lost much of its influence over the Bank of Japan.

Advocating the MOF’s sales tax increase may cost Noda the next election, which must be held by August 2013, said Koichi Nakano, a political science professor at Sophia University in Tokyo. A poll in the Asahi newspaper on June 28 showed 52 percent of respondents opposed the bill.

“The fact that he committed himself so strongly to the consumption tax increase shows the very heavy influence of the Ministry of Finance,” said Nakano. “Politically it’s remarkable that the MOF managed to convince Noda to bring about a collective suicide of the whole party.”

Democratic Party lawmaker and former Bank of Japan official Keisuke Tsumura denied bureaucrats have more influence over the DPJ than they did over the LDP, which governed for half a century. “We have not gone back to where the LDP was,” he said.

MOF Pedigree

Noda succeeded Kan as prime minister in September after serving as finance minister for 15 months. Kan spent six months as finance chief before becoming premier in June 2010, and began to push the consumption tax policy as Europe’s debt crisis heightened focus on Japan’s sovereign debt, which is forecast to exceed 1 quadrillion yen ($12.5 trillion) next year.

Hirohisa Fujii, a former finance minister in the ruling party who handled negotiations with the opposition over the bill, said raising the tax is essential to avoid further downgrades of Japan’s debt and a sell-off of government bonds.

Fitch Ratings cut the country’s sovereign credit rating in May, citing a “leisurely” approach to shoring up its finances. The downgrade has had little effect on interest rates, which are the second-lowest in the world after Switzerland.

Debt Risk

The prospect of tighter fiscal policy has won favor in the credit market. After the lower house passed the tax bill on June 26, five-year credit-default swaps that protect investors from the risk of non-payment of Japan’s debt touched 88.85 basis points, the lowest since July 2011, and were at 91.50 on July 5. Yields on 10-year Japanese government bonds traded at 0.8 percent on July 6, close to a nine-year low.

“From the point of view of foreign investors, the sales tax will make it easier to buy, so it’s positive for the JGB market,” said Satoshi Yamada, manager of fixed-income trading at Okasan Asset Management Co. in Tokyo.

Noda said in a speech on Jan. 24 that the tax increase was “imperative” to ensure Japan had “a robust fiscal structure that is not swayed by the power of financial markets.”

As well as the tax bill, which still has to pass in the upper house of parliament, the MOF is becoming more aggressive in restraining gains in the yen that hurt exporters. The ministry spent at least 14.3 trillion yen ($179 billion) last year, including a record 8.07 trillion yen in one day, trying to curb the currency’s rise.

That intervention on Oct. 31 was the fourth time in almost 14 months the ministry acted to stem the yen’s gains by directing the Bank of Japan to sell the currency. Before September 2010, when then-finance minister Noda oversaw the first of those moves, Japan hadn’t intervened in the market for six years.

Yen Watching

“The Noda administration and the Ministry of Finance may be willing to go to great lengths to prevent an economic slowdown,” Citigroup currency strategist Osamu Takashima wrote in a June 27 note. “They will be increasingly cautious about further yen appreciation.”

The yen traded at 79.68 to the dollar on July 9 in Tokyo, about 5 percent weaker than its postwar high of 75.35 in October.

Focusing on Japan’s record debt could detract attention from other means of reviving the economy, said Sakihito Ozawa, an advocate of more aggressive action by the Bank of Japan. “You have to think of taxes as one aspect of overall economic policy,” he said.

Consumption Curb

Supporters of Democratic party rebel Ichiro Ozawa say the increase in the sales tax will fail to boost government revenue because the higher rate -- 8 percent in 2014 and 10 percent in 2015 -- discourages consumption. Each 1 percentage point gain in the tax will cut growth in real gross domestic product by 0.32 percentage point in the year after implementation, according to the Cabinet Office’s Economic and Social Research Institute.

When the tax was last raised, at the start of the Asian financial crisis in 1997, Japan entered a 20-month recession.

The ministry’s victory over the sales tax isn’t the only sign of its increasing influence. A DPJ plan to remove the tax collection agency from ministry supervision as part of a package of bills submitted with the sales tax was quashed during negotiations with opposition lawmakers.

The MOF’s resurgence increases control of policy by an unelected body that presided over the expansion and subsequent collapse of Japan’s 1980s real estate bubble, leading to more than a decade of deflation.

“The Finance Ministry is in charge of fiscal policy and they tend to think that if they raise the consumption tax, everything else will somehow sort itself out,” said Hiroyuki Kishi, a professor at Keio University near Tokyo and a former trade ministry official. “What Japan really needs is for politicians to take an overview of the economy and society and set policy priorities.”

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