An early strength of Abenomics, the plan of Shinzo Abe, the prime minister, to revive Japan's economy, was the tight bond between Abe and his hand-picked central bank governor, Haruhiko Kuroda.
Former chiefs of the Bank of Japan had adopted a defeatist stance toward Japan's deflationary morass. Kuroda, the prime minister believed, was a champion of his desire to revitalize Japan in large part through unorthodox monetary loosening. In early 2013, soon after Abe took office, the central bank duly launched a radical program of quantitative easing.
But now the two men appear at loggerheads.
The main point of contention is fiscal policy, which to date has been very loose, with a primary budget deficit (that is, excluding interest payments on debt) of 6.6 percent of GDP.
Kuroda is making it clear he does not believe Abe is trying hard enough to bring the deficit down. The government, meanwhile, would prefer him to confine his remarks to the bank's monetary remit.
A second and related difference is emerging over monetary easing itself. In the quest to rid Japan of deflation, Kuroda promised whatever it took to push inflation up to 2 percent. The Bank of Japan may not be doing enough to achieve this. Prices are at a standstill. Yet the government appears to be signaling that a fresh bout of bond buying might be too much of a good thing. Having ordained the inflation target, Abe now appears to be undermining Kuroda's ability to reach it.
For businesses and households alike, such discord is itself a cause of anxiety. At first, Abenomics appeared to be going well. While the bank printed money, the government spent more to help ease the pain of a long-planned rise in the consumption tax, from 5 percent to 8 percent in April 2014.
Stronger growth resulting from structural reforms was supposed to soften the effect of a planned second rise in the consumption tax, to 10 percent, this autumn. The government would then gradually fulfill a long-standing commitment to achieve a primary budget surplus by 2020-21. Japan's gross national debt, at around 240 percent of GDP, is easily the rich world's highest.
Things have not worked out that way. The first rise in the consumption tax helped tip the economy back into recession. In response, Kuroda surprised nearly everyone last autumn by increasing the bank's quantitative easing, promising to buy $670 billion of Japanese government bonds every year.
Kuroda wanted the government to stick with the plan to raise the consumption tax once more. His hugely expanded easing appeared as if it was intended to strong-arm the prime minister into the tax hike. But soon after the central bank's action, Abe postponed the rise anyway until April 2017, arguing that the economy could not bear it.
And so a strange thing has happened: A government that was once gung-ho about the central bank printing vast quantities of money to buy government bonds is now concerned about the risks, given no obvious prospects for an improvement in Japan's fiscal situation and given that many of its growth-enhancing structural reforms have not materialized.
Meanwhile, in the face of a government that is reluctant to cut spending now, hoping for higher growth and tax receipts later, Kuroda is airing his misgivings with unusual bluntness, preaching the need for immediate discipline.
Hiroshige Seko, a senior government official, plays down the differences. Both Abe and Kuroda, he says, are trying to balance the need to reduce debt against that of boosting the economy. But, he claims, Abe has edged very slightly toward an emphasis on growth and Kuroda toward fiscal discipline.
There is certainly little to reassure fiscal hawks in the record level of spending budgeted for the fiscal year that has just begun, including swelling outlays on social security as the population ages. Even if the economy grows by 3 percent in nominal terms in each of the next five years — an optimistic assumption — the government says it will need to find another roughly $75 billion to balance the budget, before interest payments, by 2020 as planned.
Abe has promised detailed plans in the summer for reducing future deficits. Severe cuts to social security spending probably remain politically off-limits. Yet radical measures are needed. They will have to include getting elderly Japanese to pay more for their medical care.
A health system that keeps too many people in hospital beds for too long needs to be overhauled. And the retirement age needs to be increased further.
The most important test of the relationship between Abe and Kuroda will come if inflation picks up in earnest, at which point the central bank will begin to tighten its monetary policy. Abe may insist on keeping the monetary taps open to safeguard growth. A premature falling out may only make that moment harder still.
Copyright 2013 The Economist Newspaper Limited, London. All Rights Reserved. Reprinted with permission.
