The government and the ruling Democratic party of Japan agreed on Friday on a draft plan to raise the country's controversial sales tax from 2014, taking a key step towards improving the country's stretched finances.
Prime minister Yoshihiko Noda has faced an uphill struggle to convince some members of his own party, the opposition and the public that the tax is needed to help restore Japan's fiscal health at a time of global fears over sovereign debt. The tax has been opposed on the grounds that it could damage an already weak economy.
The consumption tax, which is the government's most stable income stream at about a fifth of total revenues, has long been an obvious candidate for reform.
Last raised in 1997, Japan's 5 per cent national sales tax rate is the lowest among OECD countries. The central government's expenditure, meanwhile, has risen by more than a third since then. The budget for the next fiscal year is the fourth in a row in which the government expects to get more revenues from selling bonds than through taxes.
Naoyuki Yoshino, professor of economics at Keio university in Tokyo, said the bill was "essential" in order to get Japan's fiscal policy "under control".
In the plan approved last month by the DPJ, the consumption tax rate will rise to 8 per cent in April 2014 and to 10 per cent in October 2015. The doubling of the rate is expected to generate an additional ¥12.5-trillion ($162-billion) in annual revenue, equivalent to 30 per cent of the government's total tax take in the current fiscal year to April.
Mr. Noda has already faced strong opposition over the proposed hike. Nine lawmakers left the DPJ in revolt last month, weakening the party's majority in the Lower House, and analysts say more defections are possible.
"Japan's politics will be more unstable in coming months," said Masaaki Kanno, chief economist at JPMorgan in Tokyo. "The possibility of the dissolution of the lower house and [a]general election should not be ruled out."
Mr. Noda must now secure support for the plan among opposition parties, before submitting related bills to both houses of the Diet by the end of March. The DPJ lacks a majority in the upper house, and faces stiff opposition to the bill from the Liberal Democratic party.
"Our biggest hurdle is the unified reform of social security and taxes," Mr. Noda said in Tokyo this week, at his first press conference of the year. "This is something we can no longer postpone."
Mr. Noda says he will seek public acceptance of the plan by accelerating the government's efforts to curb public spending through such measures as reducing the number of Diet seats and cutting salaries for public servants.