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Source: for net capital stock, https://www.esri.cao.go.jp/en/sna/stock/stock_top.html; for cash and securities, https://www.mof.go.jp/english/pri/reference/ssc/historical/all.xls

In Part I of this series, we detailed that the Kishida administration is debating a hike in corporate taxes as a means to finance a doubling of defense spending from 1% of GDP to 2% over the coming five years. Since corporate tax revenue has averaged 3.8% of GDP during the pre-Covid period of 2015-2019, a 1 percentage point hike in revenue would require a 25% in tax rates. The issue is currently being discussed by the Ministry of Finance Tax Bureau and the Liberal Democratic Party Tax Commission and a decision is expected around mid-December. As of this date, the outcome is uncertain.

The Ministry of Economy, Trade, and Industry (METI) is making the defeat of this hike its “top priority,” according to a senior METI official. That creates concern over what METI will “horse trade” in order to achieve that goal. METI is the chief Ministry charged with coming up with tax breaks that would help promote more startups in line with the Kishida administration’s “new capitalism” agenda. These need to be negotiated with the MOF, which is always loath to accept any tax cut while the country runs a big deficit. Out of the half-dozen or so major tax revisions needed to really propel startups, conversations with policymakers in assorted government entities suggest that only a couple are really on the table: some sort of better tax break for business “angels,” those who invest in the earliest stages of new companies, and an improvement in the tax treatment of stock options, which would help companies attract talented employees. Other vital measures remain off the table, and it is unclear how much will be done even regarding those two. (For details on the substance and importance of these measures, see this article.) There’s a risk that, in return for a rejection of the hike in corporate income taxes, METI will concede on the pro-startup measures.

It’s also unclear how strongly the Prime Minister’s Office (Kantei) is going to push the corporate tax hike. While raising corporate taxes would help fulfill Kishida’s goal of better income distribution between corporations and households, the Kantei is not arguing for the corporate tax hike on these grounds. Rather, it is only saying the hike is needed to finance the hike in defense spending. Perhaps that is the more effective tactic. What remains in question is whether the Kantei will really insist on its agenda, as some past Prime Ministers have done, or whether it will leave it to the Ministries and LDP Tax Commission to hash out. Playing a more passive role has been Kishida’s style so far and the plunge in his approval ratings to just 33% means he has less political capital. Although there is no obvious replacement for Kishida, nor yet a campaign to seek his removal, Prime Ministers whose approval falls below 30% don’t tend to last very long. Even if they survive, their clout to push new initiatives tends to diminish.

On Nov. 22nd, a panel of defense and foreign policy experts appointed by Kishida issued recommendations on how to build up its defense capabilities and to pay for them. On the latter, it simply stated, “Recognizing that the entire nation must cooperate in this, it is necessary to win public understanding with a range of tax measures that spread the burden,” without specifying which taxes. But the language seemed to imply that Japan should not rely solely on any one tax hike, such as the corporate tax.

The LDP’s coalition ally, the Komeito, has said that tax hikes are its least preferred option for funding the increase in defense spending, Some LDP Diet members of a joint committee with the Komeito on security matters called the expert panel’s call for a tax hike “abrupt.”

Nor is there any consensus among the public. In a Nikkei poll, 34% of respondents said a hike in defense spending should be funded by cutting other spending, 15% said the government should increase its debt, and only 9% favored a tax increase. 40% gave no answer.

Where Goes The Fallow Cash

As noted in Part 1, Japan corporations have no need of low taxes since they cannot even productively invest the money that they already rake in. Nor are they raising real wages. Every year, Japan’s 2 million corporations’ cash flow exceeds its investment in new plant and equipment by about 5-6% of GDP. In fact, since the year 2000, the real (i.e., price-adjusted) net capital stock (factories, offices, stores, and equipment) of Japan’s corporations has increased by a barely visible 7%, but their cash and securities almost tripled (see chart at the top).

As a result, their stash of financial assets has soared from just 25-30% of GDP back in the early 1980s to 115% as of 2021 (see chart).

Today, 37% of the cash and securities consists of corporations’ investments in their own overseas affiliates, known as outward Foreign Direct Investment. That is a productive use of capital, assuming it’s invested well. However, it still leaves pure paper investments at more than 70% of GDP.

Source: FDI data at https://www.mof.go.jp/policy/international_policy/reference/iip/6IIP.xls

Coming in Part III: the interplay between corporate excess savings and chronic government deficits.

Japan Economy Watch

Kishida May Raise Corporate Taxes, Part II