Japan’s Budget Hits Record as Aso Seeks for Recovery

By Keiko Ujikane

Dec. 20 (Bloomberg) -- Japan’s government expenditure will increase to a record next year as Prime Minister Taro Aso tries to spend his way out of a recession and lift his slumping popularity ahead of an election.

Spending will rise 6.6 percent to 88.5 trillion yen ($988 billion) in the year starting April 1, a third year of expansion, according to a budget proposal released by the Finance Ministry in Tokyo today. The government will sell 33.3 trillion yen of new debt, the most in four years on an initial budget base, to help fund a revenue shortfall.

In his first budget since taking the helm in September, Aso is expanding a debt burden that’s already the largest in the industrialized world as the economic slump cuts revenue and forces him to spend more to spur growth. His approval rating fell by half this month as voters and lawmakers in his own party shunned his handling of the world’s second-largest economy.

“Aso has little choice but to take more measures to restore his political leadership and regain support from voters,” said Katsutoshi Inadome, a fixed-income strategist at Mitsubishi UFJ Securities Co. in Tokyo. “Fiscal reform may be put on the shelf for the next three years as the economy is getting worse, forcing the government to spend more.”

Aso’s approval rating fell to 16.7 percent from 38.8 percent last month, Jiji Press reported yesterday.

The budget deficit will widen to the most in four years. The so-called primary deficit, the excess of spending over revenue excluding bond sales and interest payments, will balloon to 13.1 trillion yen from this year’s 5.2 trillion yen, the ministry said.

Yen Rally

The yen has rallied even though Japan is borrowing more to finance the deficit. The currency is up 25 percent against the dollar this year as the seizure in credit markets leads investors to reverse so-called carry trades, where they took out loans in Japan to take advantage of the lowest benchmark interest rates among the Group of 10 industrialized nations. They then sold the yen and invested the proceeds in high- yielding assets outside the country.

The ministry estimates growth in tax revenue will fall 13.9 percent to 46.1 trillion yen next year, compared with this year’s 0.2 percent gain. The government will increase new bond sales 31.3 percent, compared with a 0.3 percent cut in the initial budget last year.

Increasing spending at a time when tax revenue is falling threatens the government’s goal of balancing the budget by 2011. Aso has said that the government shouldn’t prioritize fiscal discipline when the economy is ailing.

“The primary balance goal has turned out to be a pie in the sky,” said Hitomi Kimura, a bond strategist at JPMorgan Securities Japan Co. “There are very few people who believe it will be achieved in 2011.”

With receipts dwindling, Aso tried to come up with ideas to find new sources of revenue, only to have them rejected by members in his party. LDP politicians decided not to pursue an increase in the nation’s tobacco tax next year because the move would alienate tobacco farmers and hurt cigarette sales. The government owned 50 percent of Japan Tobacco Inc., the world’s third-largest publicly traded cigarette maker, as of March 31, according to Bloomberg data.

Aso’s Pledge

Lawmakers also shrugged off Aso’s pledge to raise the consumption tax from 5 percent in three years, omitting it from its tax reform plan this month.

The shortfall in revenue prompted the government to tap so- called special accounts, bureaucrat-run funds set aside from the regular national budget. The government will use the money to pay for an increase in its contribution to the national pension program.

Using such stop-gaps may spur concern among investors that Japan won’t be able to keep refinancing its increasing debt burden.

“The clock is ticking,” said Carl Weinberg, chief economist at High Frequency Economics in New York. “Any run-up in the fiscal deficit in 2009 will drive JGB yields higher.”

The cost of paying interest and redeeming bonds will total 20.2 trillion yen, about a quarter of total spending. A 1 percentage point gain in the yield on benchmark 10-year government bonds will increase those costs by about 1.3 trillion yen next year, the ministry projects.

Tax Cuts

In his stimulus packages, Aso has pledged 2 trillion yen in financial assistance for families, 1 trillion yen for local authorities and about 1 trillion yen in tax cuts.

Japan’s Finance Minister Shoichi Nakagawa said that his ministry compiled the budget in the hope it will keep economic and employment conditions from worsening and make Japan a leader in recovery efforts.

“In the big recession we have now, a big budget is probably a good idea,” said Robert Feldman, head of economic research at Morgan Stanley Japan in Tokyo. “However, it is very important that money will be spent by the government wisely.”

Tax grants and other subsidies to local government will increase 6.1 percent to 16.6 trillion yen next year to aid rural areas, according to the proposal.

The budget will be approved by the Cabinet on Dec. 24 and submitted to parliament in January for passage by March 31.

To contact the reporter on this story: Keiko Ujikane in Tokyo at kujikane@bloomberg.net