December 17, 2012 / 10:01 AM / 5 years ago

Moody's says spending will give Japan short term lift, add debt

TOKYO (Reuters) - An increase in fiscal spending could help Japan’s economy temporarily but would leave the government with a bigger debt pile unless there are policies to improve the country’s long-term growth prospects, credit rating agency Moody’s Investors Service said on Monday.

On Sunday, Japan’s Liberal Democratic Party scored a landslide victory in an election, which will see the party return to government with promises to increase public works spending, while pushing the central bank to aggressively ease monetary policy.

“Our big concern is how does Japan raise its long-term potential growth rate,” Tom Byrne, a senior vice president at Moody‘s, told Reuters in a telephone interview.

“I don’t think there is a case in history where potential growth is increased by fiscal expenditure.”

The LDP’s agenda has raised concerns that Japan’s public debt burden could worsen.

A delay in a plan to double the 5 percent sales tax would also be a negative development unless the government can cut spending to help stabilise public finances, Byrne said.

Moody’s rates Japan at Aa3, three notches below the top AAA rating, with the outlook at stable.

Shinzo Abe, head of the LDP, has pledged to deliver 200 trillion yen ($2.40 trillion) in public works spending over 10 years and aggressive central bank purchases of government debt.

The LDP’s policies are focused on the short term, and more details are needed on long-term policies to improve Japan’s economy, Byrne said.

Pursuing more free trade agreements is an important way to improve Japan’s potential growth rate, which is around 1 percent, according to Byrne.

The LDP’s Abe has said he wants to review economic data from the second quarter next year before deciding whether to carry out an increase in the sales tax, sparking speculation that he could try to cancel the tax increase.

“If (the sales tax) is abandoned and you still have this widening gap between social expenditure and intake to finance social expenditure, that would be negative,” Byrne said.

The LDP, when it was still in the opposition, agreed in August to double the 5 percent sales tax in two steps from 2014 to pay for welfare spending, but the law says a precondition for higher taxes is that the economy has to improve.

The LDP government is planning a stimulus package early next year, which could be worth around 10 trillion yen, to help the economy recover from recession.

Unease about the LDP’s fiscal policy has started to impact the bond market, sending yields on 20- and 30-year government debt to eight-month highs on Monday.

Yields would need to spike much higher before becoming a cause of concern, Byrne said.

Japan’s public debt burden is the worst in the world at nearly twice the size of its $5 trillion economy, but domestic investors hold most of this debt as commercial banks tend to invest deposits in JGBs instead of lending to other firms.

Japan spends half of its tax income just to service its debt. Each year it adds more than the combined gross domestic product of Greece and Portugal to its debt pile. ($1 = 83.5000 Japanese yen)

Editing by Simon Cameron-Moore

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