Japan risks delay in health, pension reforms over tax debate

* Tax hike set to pass in parliament vote

* Tax compromise pushes back debate on pensions, healthcare

* Social security spending cuts essential to curb debt

* Political turmoil looms if vote splits ruling Democrats

By Stanley White

TOKYO, June 22(Reuters) - Japan's breakthrough deal on sales tax increases, set to be sealed in a parliamentary vote next week, comes at a price of a delay in reforming healthcare benefits and pensions that must be tackled to curb the vast national debt.

Parliament's lower house looks certain to approve on Tuesday a plan to double the sales tax to 10 percent over three years, a first step towards restoring Japan's fiscal health.

But raising taxes will not be enough without proceeding with spending cuts, economists say.

And the plan could split the ruling Democratic Party, with dissenters capable of witholding their support or even leaving the party. If the number of rebels proves large enough, Prime Minister Yoshihio Noda could even lose his majority in the chamber and be forced into calling an election.

As the world's oldest population ages further and drives up social security costs, spending cuts must follow to check public debt already exceeding two years' worth of economic output.

However, in order to push ahead with the tax plan, the ruling Democrats and the opposition skirted debate on the more contentious social security part of a tax and welfare reform package.

"What the compromise lacks are measures that cut payouts to the elderly," said Naoko Horie, senior economist at Mizuho Research Institute. "There are a lot of options, but you get the sense that politicians dodged this issue."

Economists say raising the retirement age, cutting pension benefits and raising the share of medical costs to be borne by patients are unavoidable in any serious bid to fix finances.

It is unclear when such reforms may get on the political agenda. The tax compromise referred a debate to a cross-party body still to be established and politicians have shown little appetite for such a debate.

The opposition Liberal Democratic Party and the smaller New Komeito have criticised changes proposed by the Democrats, saying they would make social security more costly and, as part of the tax compromise, forced them to drop a campaign pledge of guaranteed minimum pensions.

But opposition parties have yet to put forward proposals on making the system sustainable. In the meantime, they have made the Democrats promise cash payouts, tax breaks and possibly lower taxes on food to ease the burden of a flat tax on low earners, which could eat into any increase in tax revenue.

POLITICAL TURMOIL

Possible political turmoil further clouds reform efforts.

While the tax bill looks likely to pass with opposition help, dissenting Democrats allied with former party leader Ichiro Ozawa could cause upset the established order.

Media have speculated that around 50 Ozawa followers could break ranks and the Democrats would lose their majority if 54 or more left the party, leaving Noda with little choice but to call an early election. With none of the major political parties seen capable of winning a working majority, that could produce further policy paralysis.

Moody's Investors Service, which welcomed the tax deal as "one of the first serious efforts in many years" to address the bulging deficit, appealed to politicians not to let up.

"Even with the agreement to raise the consumption tax, the government will not achieve its ultimate goal of eliminating the primary deficit by 2020 without implementing further reforms," it said this week.

"Therefore, resolute political leadership is essential to advance a reform agenda and overcome policy inertia and gridlock."

To illustrate how pressing the need was for spending cuts to accompany tax hikes, BNP Paribas economists in Tokyo calculated that even with the sales tax raised to 10 percent, Japan's debt would climb to more than 260 percent of GDP by fiscal 2023.

"If you were to solve the problem by raising taxes you'd have to keep raising taxes forever and it simply can't work," said BNP Paribas senior economist Hiroshi Shiraishi.