IV. JAPAN

1.2. Reforms of budget system laws

The budget system laws have operated since the late 1940s with only a few minor amendments. Detailed input-oriented annual appropriations are maintained.

The PFA prohibits the issuance of any government bonds, with the exception of bonds for financing public works and similar expenditures (Art. 4). If the government cannot finance current expenditure with current revenue, a special law is needed to override Article 4 of the PFA. During 19752004, new laws were adopted to address macro-fiscal stability issues (Ministry of Finance, 2004, pp. 26-32). First, in 1975, the Diet enacted a special law to enable the government to issue deficit-financing bonds to stimulate the stagnant economy caused by the 1973 oil crisis. The Special Law was in effect initially for only the fiscal year concerned. However, it was renewed annually (with the exception of a few years) to override the golden rule in the PFA. This resulted in the rapid increase in government debt, which rose to 155% of GDP in 2003 (OECD, 2003).

Second, a Fiscal Structural Reform Act (FSRA) was enacted in 1997 (Box 2) to strengthen fiscal sustainability and reduce the issuance of public bonds. In early 1998, the government amended the FSRA to allow the government to issue additional bonds and to extend the fiscal consolidation target from 2003 to 2005 due to the domestic consequences of the Asian economic crisis. As the economy worsened further during 1998, the FSRA was suspended in December of that year.

The experience of FSRA suggests lessons for any future legislation aimed at fiscal consolidation (Tanaka, 2003). First a new act would need to be more flexible in expenditure control at the time of an economic downturn. Second, the cap for each category’s expenditure should target not only the initial

Box 2. Japan: Main contents of the 1997 Fiscal Structural Reform Act

The Act:

●Restored the “golden rule”, whereby the net bond issuance is limited to the level of public investment by FY 2003.

●Aimed to reduce the general government deficit (excluding social security), to below 3% by FY 2003 and to ensure that the sum of taxes, social security contributions and the fiscal deficit does not exceed 50% of GDP.

●Imposed ceilings on most major individual expenditure lines such as social security transfers, spending on public works and education spending.