Comment on “Is Abe's Fiscal Policy Ricardian? What Does the Fiscal Theory of Prices Mean for Japan?”

• Author: Motohiro Sato
• DOI: http://doi.org/10.1111/aepr.12201
• Date: 01 January 2018
• Published date: 01 January 2018

Comment on “Is Abe’s Fiscal Policy

Ricardian? What Does the Fiscal Theory

of Prices Mean for Japan?”

Motohiro SATO†

Hitotsubashi University

JEL codes: E62, E63, H62, H63

Accepted: 31 August 2017

Doi (2018) considers the sustainability of Japan’s public finance. The Japan govern-

ment has set itself the target of fiscal consolidation by eliminating the primary fiscal

deficit in FY2020 and stabilizing the debt to GDP ratio afterward. As a part of this

consolidation, the consumption tax (Japan’s value added tax [VAT]) was raised from

5% to 8% on April 1, 2014. An additional 2% point increase of the VAT is now

planned in October 2019. Even after incorporating consumption tax hike in October

2019, the Cabinet Office projects that the primary fiscal deficit in FY2020 will be 1.4%

of GDP.

Although the public debt to GDP ratio is alarming, there remains an optimistic

view regarding fiscal sustainability. One may address that the debt to GDP ratio can be

contained without restoring primary fiscal balance if the growth rate exceeds the inter-

est rate according to the Dormer condition. This is so under the contemporary Bank

of Japan’s (BOJ) monetary policy which has lowered the interest rate on Japan govern-

ment bonds (JGBs) to zero or even negative. Indeed the paradox of JGBs is that their

interest rates have declined while public debt accumulates. Hoshi and Ito (2012) attri-

bute this paradox which seems to be working against gravity or economic principles to

the large share of JGBs held by domestic investors including banks and the BOJ. Once

the BOJ’s extraordinary quantitative easing ends and/or public debt builds up more

than domestic financial assets the latter of which implies that the Japanese government

needs to rely on foreign investors to finance its deficit, a non-linear change in JGB

interest rates can occur that can quickly worsen fiscal conditions even further expand-

ing deficit and then triggering a fiscal crisis.

Lately, considerable attention has been paid to the fiscal theory of the price level

(FTPL). FTPL argues that the price level is adjusted so that the real value of the debt

stock matches the present value of the primary fiscal surplus. The long-term govern-

ment budget balance is regarded as an equilibrium condition rather than a constraint.

†Correspondence: Motohiro Sato, Graduate School of Economics, Hitotsubashi University, 2-1

Naka, Kunitachi City, Tokyo 186-8601, Japan. Email: satom@econ.hit-u.ac.jp

66 © 2018 Japan Center for Economic Research

doi: 10.1111/aepr.12201 Asian Economic Policy Review (2018) 13, 66–67