July 2010
IMF Country Report No. 10/211© 2010 International Monetary Fund

June 17, 2010
May 19, 2010

July 2, 20102010

June 25, 2010
January 29, 2001

Japan: 2010 Article IV Consultation—Staff Report; Public Information Notice on the
Executive Board Discussion
Under Article IV of the IMF’s Articles of Agreement, the IMF holds bilateral discussions withmembers, usually every year. In the context of the 2010 Article IV consultation with Japan, thefollowing documents have been released and are included in this package:•

The staff report for the 2010 Article IV consultation, prepared by a staff team of the IMF,
following discussions that ended on May 19, 2010, with the officials of Japan on economic
developments and policies. Based on information available at the time of these discussions,the staff report was completed on June 17, 2010. The views expressed in the staff report arethose of the staff team and do not necessarily reflect the views of the Executive Board of the
IMF.

•

A Public Information Notice (PIN) summarizing the views of the Executive Board as
expressed during its July 2, 2010 discussion of the staff report that concluded the Article IVconsultation.

The document listed below has been or will be separately released.
Selected Issues Paper
The policy of publication of staff reports and other documents allows for the deletion of market-sensitive
information.
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International Monetary Fund
Washington, D.C.

INTERNATIONAL MONETARY FUND
JAPAN
Staff Report for the 2010 Article IV Consultation
Prepared by the Staff Representatives for the 2010 Consultation with Japan
Approved by James Gordon and Tamim Bayoumi
June 17, 2010This report is based on discussions held in Tokyo during May 10–19. The teamcomprised Mr. Gordon (Head), Ms. Kochhar, Messrs. Kang, Danninger, Syed, andTokuoka, Ms. Berkmen (all APD), and Mr. Steinberg (OAP). Mr. Lipsky joined themission for the policy discussions and to chair a seminar co-hosted by OAP and theMinistry of Finance on reshaping the global financial landscape and the implications for
Asia. Messrs. Kotegawa and Yamaoka (both OED) participated in the policy discussions.

Counterparts. The mission met with Bank of Japan (BoJ) Governor Shirakawa, SeniorVice Minister of Finance Noda, Senior Vice Minister of the Cabinet Office Furukawa,
Senior Vice Minister of the Cabinet Office Ohtsuka, Vice Minister of Finance forInternational Affairs Tamaki, BoJ Deputy Governors Nishimura and Yamaguchi, and othersenior officials, academics, and private sector representatives.

Context of past surveillance. In its last consultation, Fund staff and the authorities agreed
on the need for fiscal consolidation with adjustment to begin once the crisis abates. Staff
also supported the BoJ’s accommodative monetary policy stance and recommended
strengthening the resilience of the banking sector to a protracted slowdown. There was aconsensus that growth needed to be rebalanced towards stronger domestic demand.



Selected Issues Papers assess the impact of fiscal consolidation and structural reforms on
growth in Japan and explore policy options to raise medium-term growth (investment andhousehold spending).

Japan’s exchange rate is market determined. Japan has accepted the obligations ofArticle VIII. The exchange system is free of restrictions on the making of current
international transactions, with the exceptions of those notified to the Fund in accordancewith Executive Board Decision 144-(52/51) and UN-sanctioned restrictions on external
payments for security reasons.

2Contents
I.
II.
III.
IV.

V.
VI.

Page

Introduction ................................................................................................................... 3
Economic Developments .............................................................................................. 4
Economic Outlook and Risks........................................................................................ 7
Policy Discussions ...................................................................................................... 10A. Mapping A Credible Fiscal Reform Strategy ...................................................... 10
B. Monetary Policy Options to Combat Deflation ................................................... 16
C. Strengthening the Financial System .................................................................... 18
D. Reforms to Raise Medium-Term Growth ........................................................... 22
Exchange Rate, External Stability, and Spillovers ..................................................... 24
Staff Appraisal ............................................................................................................ 25

Boxes
1.
2.
3.

Potential Impact of Global Sovereign Debt Strains on Japan ........................................9
Estimating the Growth Impact of Fiscal Adjustment ..................................................13
Exploring Supply-Side Reforms to Raise Growth .......................................................23

Tables
1.
2.
3.
4.
5.

Selected Economic Indicators, 2006–11 ......................................................................27
General Government Operations, 2005–11 .................................................................28
External and Financial Indicators, 2005–11 ................................................................29
Balance of Payments, 2004–09 ....................................................................................30
Medium-Term Projections, 2008–15 ...........................................................................31

AppendicesI.

Public Sector Debt Sustainability ................................................................................32

3

EXECUTIVE SUMMARY
Context: Japan’s economy continues to improve led by robust exports and policy stimulus
while deflation pressures appear to be easing. The recent turmoil in Europe has raised
the uncertainty and downside risks around the outlook and sharpened the focus on
Japan’s high public debt ratio, which is one of the highest among advanced economies.
Bringing down the debt ratio will require a large and protracted adjustment that will bemade more credible by an early increase in the consumption tax. Further easing
measures by the Bank of Japan would support the recovery and help combat deflation.
Policy messages:










The cyclical upswing offers an opportunity to embark on critical reforms. Fiscal
adjustment should start in FY2011 (starting April 2011) beginning with a modest
consumption tax hike.
To put the public net debt ratio firmly on a downward path, the authorities should
aim for a 1 percent of GDP annual reduction in the structural primary deficit overten years. Achieving this goal will require a combination of additional tax rateincreases, expenditure containment, and entitlement reform.
A fiscal rule capping the level of public debt and targeting a primary surplus would
strengthen credibility and help lock-in fiscal gains.
Further easing measures by the Bank of Japan (BoJ) could help support the recovery
and reduce deflation pressures.
Supervisors should ensure that banks properly manage risks from a slower recovery
and heightened market volatility and take appropriate steps to strengthen theircapital position.
To raise potential growth and support fiscal consolidation, structural reforms should
aim to raise labor participation, improve access to financing for innovative firms,
and increase productivity in new growth sectors (e.g., health care and environment).
I. INTRODUCTION

1.
Japan’s economy is gaining strength, but vulnerability to sovereign risk is rising.
Sizeable policy support and strong external demand, especially from Asia, are driving therecovery, but large fiscal deficits driven by fiscal stimulus and the recession have pushed
public debt to unprecedented levels. With global scrutiny of public finances on the rise, theneed for early and credible fiscal adjustment has increased. At the same time, deflation has
re-emerged, while the financial system faces a number of challenges including from renewed
financial market turmoil and changes in global financial regulations.
2.
The new government has signaled a greater willingness to consider needed fiscal
reforms. In response to growing concerns over Japan’s public debt, Prime Minister Kan has
voiced support for greater fiscal discipline and an early debate on the consumption tax—
issues which will likely feature in the government‘s medium-term growth and fiscal
strategies due at end-June. The future direction of reforms, however, will likely depend on

4
the outcome of July Upper House elections with possible ramifications for the government’s
policy priorities.
II. ECONOMIC DEVELOPMENTS
3.
Japan’s export-led recovery continued to strengthen through the first quarterof 2010. Following a deep recession—GDP declined 5.2 percent in 2009—growth
accelerated to 5 percent (s.a.a.r.) in the first quarter of 2010 amid signs of exports spillingover to domestic demand.
105

105



100

95

95

90

90

85

85

80

80

Japan
G6
Korea
Small NIEs /1

75
70

75
70
65

65

60

60
2008Q1

2008Q3

2009Q1

2009Q3

2010Q1

Source: IMF WEO database.
1/ Hong Kong SAR, Singapore, and Taiwan Provice of China

10
8

10

Growth in Final Domestic Consumption

8(y/y, in percent)

6

6

4

4

2

2

0

0

-2

-2
Non-durable Goods
Semi-durable Goods
Durable Goods
Other

-4
-6
-8

-4
-6
-8

-10

2010Q1

2009Q4

2009Q3

2009Q2

2009Q1

2008Q4

2008Q3

2008Q2

2008Q1-10

2007Q4

Consumption. Despite a sharp fall in
disposable household income,private consumption contributed
positively to growth in 2009.
Spending was supported mainly byfiscal stimulus, especially subsidies
on “green” durable goods that
accounted for much of the spending
growth.

100

2007Q3

Exports. Japan’s real exports haverebounded after falling by almost
40 percent (y/y) at the trough of thecrisis. Strong demand from Asia,
especially for capital goods, has
supported the recovery, pushingexport growth to 30 percent s.a.a.r.
in Q1 2010. The rebound, however,has lagged that of other advanced
economies due to the yen’s
appreciation and a shift in demandaway from higher-value added
products in which Japan specializes.

2007Q2

Real Exports(2008Q1=100)

Source: CEIC database.

1.2

6.0

Unemployment Rate and Job-to-Applicants Ratio
Labor market. The labor market is(In percent)5.5
gradually recovering. The
unemployment rate declined from its
5.0
peak in mid-2009 to 5.1 percent in
4.5
April 2010, while the ratio of job
offers-to-seekers has begun rising
4.0
from depressed levels. Total
Unemployment Rate, SA
earnings grew for the first time in
3.5
Job-to-Applicants Ratio, SA (RHS)
March (1 percent y/y) after having
3.0
fallen continuously since the
2000
2002
2004
2006
2008
Lehman shock.
Source: Labor Force Survey, Ministry of Internal Affairs and Communications.

1.0

0.8

0.6

0.4
2010

5

4.
Deflation has re-emerged, mainly reflecting the large output gap as well as
structural factors. Since the onset of the Lehman crisis, consumer prices have steadily
declined as a result of an unwinding of the commodity price boom and falling demand.
Structural factors. Japan has a long 5
5
Inflation in Japan (In percent)history of persistent low-grade44
VAT hike
ZIRP 1/
Quantitative
inflation. Headline CPI inflation
Lehman33Easingturned negative as early as 1995
2
2
while core inflation has hovered1
1around –½ percent for most of the00
decade. This reflects not only a-1-1
CPI overall
series of large shocks (including-2-2
CPI core (excl. foodthe 1980s asset bubble burst andand energy)-3-3banking crisis), but also structural
1990
1992
1995
1997
2000
2002
2005
2007
2010
Source: CEIC database.
factors such as deregulation in
1/ Zero interest rate policy.
product and labor markets, lower
trend growth from population aging, and competitive pressures from China.

Output gap. Since the onset of the
global crisis, core inflation in Japan
has fallen by more than in otheradvanced economies. A significant
part of the decline can be attributed
to Japan’s deeper recession andlarger output gap (estimated ataround 6 percent of GDP at end2009). With the recovery gaining
strength, core inflation has
stabilized at around -1.1 percent
since late 2009.1

3

3

Deflation and Disinflation in Japan and the G6(CPI excl. food and energy; y/y percent change)

2

2

1

1

0

0

-1

-1

G6
Japan

-2

-2
2008

2009

2010

Source: IMF WEO database.

5.
Financial markets have been hit hard by the renewed global turmoil. After
showing signs of recovering through March of 2010, equity prices have fallen and the yen
again appreciated on Europe-related fears, but the fallout on money and credit markets has so
far been limited.

1Core inflation (excluding fresh food) fell to -1.5 percent (y/y) in April 2010 as a result of a one-off
administrative price change related to the introduction of high school tuition waivers which staff estimated tohave lowered the CPI by ½ percentage point. The impact of the price change is expected to disappear after one
year.

6







Financial conditions. Financial
conditions continued to improvein 2009, but remain tighter than preLehman reflecting the yen’s realappreciation and falling equity
prices. Since end of March 2009,
the Nikkei index has rebounded byaround 20 percent (as of end of May
2010), but the rally has lagged thatin the rest of the region andelsewhere, partly reflecting
weakness in bank shares.
Money markets. The 3-month
LIBOR-OIS spread, an indicator ofcounterparty risk, has gradually
narrowed to pre-Lehman levels. The
BoJ’s liquidity operations havehelped to stabilize short-termmoney markets, but term spreads
beyond 3 months still remain
elevated.
Sovereign debt markets. Despite
higher public debt and larger
deficits, 10-year Japanese
government bond (JGB) yields havebeen stable at around 1.2–
1.4 percent, supported by ample
demand domestically and safe
haven flows. The market has also
been aided by rising corporatesavings, which have been channeledinto JGBs through the banking
system.

3

3

Japan: Financial Conditions Index
Financial Conditions Index
Interest rate spread
Stock prices
Real exchange rate
Lending attitudes of banks

2

Loosening

2

1

1

0

0

Tightening

-1

-1

-2

-2
1995

1996

1998

1999

2001

2002

2004

2005

2007

2008

2010

Source: CEIC database.

3.0
2.5

3.0

Term spread(6 month interbank rate versus policy rate,
in percent)

2.5
2.0

2.0
1.5

1.5

Japan
Euro area

1.0

1.0

US

0.5

0.5

0.0

0.0

-0.5
Jan-05-0.5
Nov-05

Sep-06

Jul-07

May-08Mar-09Jan-10Source: CEIC database.

4
3.5

6

10-year Sovereign Yields(In percent)

5

3
4

2.5

3

2
1.5

2
Japan
U.K. (right scale)
Germany (right scale)
U.S. (right scale)1
0.5
0
Sep-0810
Dec-08Source: Bloomberg.

Mar-09Jun-09Sep-09Dec-09Mar-107
6.
The current account surplus has fallen, but the recovery in external demand hasstemmed the decline.


Current account. The current
account surplus shrank further
in 2009, as a result of lower global
interest rates and a stronger yen.
Although export volumes recovered
along with world demand, therecovery was not as pronounced asin other countries. As a result, thetrade surplus remained roughly
unchanged at around 1 percent ofGDP, while the income balance
deteriorated in line with low global
interest rates.
Exchange rate. Since the Lehman
shock, the yen has appreciated by
16 percent in real effective terms(down from close to 25 percent inearly 2009), reflecting an
unwinding of yen carry-trades and aflight to safety, most recently from
Europe-related concerns.

88Current Account(In percent of GDP)
Investment income
Goods balance
Nonfactor services
Other invisibles

6

6

4

4

2

2

0

0

-2

-2
2005

2006

2007

2008

2009

Source: IMF WEO database.

170
150

170

Real Effective Exchange Rate
(Index, 2000=100)

150

130

130

110

110

90

90
Euro Area
Japan
United States

70
50
1990

1992

1995

1997

2000

2002

70
50
2005

2007

2010

Source: Information Notice System.

III. ECONOMIC OUTLOOK AND RISKS
7.
The recovery is expected to4
Contributions to GDP Growthcontinue but its pace will likely
2
moderate. GDP growth is projected to rise
to 2.4 percent in 2010 with the pace of the0
recovery likely to moderate in the second-2
half of the year as stimulus measures expire
and export growth levels off. Growth of-4
Real GDP
1.8 percent is expected in 2011. With agrowth-6
narrowing of the output gap, headline
2008
2009
2010
2011
inflation is projected to turn positive in
Source: Cabinet Office of Japan and IMF staff estimates.
late 2011. Supported by a resumption of
investment, potential growth is projected to increase from around ½ to 1 percent over the
medium term.
Business investment

4

2

0

-2

Private consumption
Public demand
Net exports

-4

-6

8
3.0
8.
Considerable uncertainty
CPI Inflation(Year-on-year percent change)
2.0
surrounds the outlook. Sustained yen
appreciation could dampen external
1.0
demand, while sovereign risk pressures
0.0
may force governments around the world-1.0
to scale back their spending. Similarly, a
CPI inflation 1/
slowdown in China would weaken import-2.0
excl. food and energy
demand from the region and Japan.
-3.0
2005
2006
2007
2008
2009
2010
2011
Domestic risks to growth stem primarily
Sources: CEIC; and IMF staff calculations.
1/ 2010 excludes the effect of high school waiver.
from a worsening of deflation, which could
depress investment and consumption. On the upside, more robust growth in the UnitedStates and emerging economies would sustain higher export growth.

3.0
2.0
1.0
0.0
-1.0
-2.0
-3.0

9.
Recent events in Europe have increased the chances of a tail risk event (Box 1).
A loss of market confidence in sovereign debt could lead to a sudden rise in risk premia
worldwide and push up long-term interest rates in Japan. Under such a scenario, growthwould slow sharply, further prolonging deflation, and undermining the fiscal position. A
sharp slowdown would also spill over to the rest of the region through reduced trade andcapital flows.
The Authorities’ Views
10.

The authorities broadly agreed with staff’s assessment of the outlook and risks.



Near-term outlook. Officials noted that the outlook had improved in recent months on
the back of robust exports and encouraging signs of strengthening domestic demand.
This view was shared by the BoJ’s Policy Board, which raised its growth forecast in
the April semi-annual Economic Outlook for Economic Activity and Prices to
1.8 percent in FY2010 and 2.0 percent in FY2011. With concerns over deflation
diminishing with the strong recovery, the BoJ forecasts core inflation (excluding freshfood) to turn positive in FY2011, in line with staff’s projections.



Risks. The authorities noted that the uncertainty around the economic outlook had
increased in light of the renewed financial turmoil. In addition, they expressed
concern about rising asset price inflation and a possible hard landing in China, which
is a significantly larger export market than Europe (19 vs. 12 percent of exports
in 2009).

9

Box 1. Potential Impact of Global Sovereign Distress on Japan.
To assess the impact of sovereign distress on growth, two downside tail-risk scenarios were
explored using the IMF’s Global Integrated Monetary and Fiscal (GIMF) model.

1. Sovereign debt crisis and increased risk premium. Assessing the macroeconomic
implications of a sharp rise in government bond yields, this scenario assumes an increase in
the risk premium by 100 basis points for the U.S. and 200 basis points for the euro area
without offsetting fiscal policy. If the risk premium in Japan remains unaffected, growthwould slow through the export and exchange rate channel by between 0.5 to 1 percentage
points in 2010. If, on the other hand, the risk premium in Japan also increases (by 100 basis
points), growth could fall by as much as 2 percentage points. Given depressed demand,deflation would worsen by about 0.5 to 1 percentage point below the baseline in 2011.

2. Double dip in the advanced economies.

104

Real GDP levelA second scenario models the effects of
102 (2007=100)
a sharp growth slowdown in the
U.S. and euro area on Japan. The
100
Projection
scenario assumes a confidence driven
98
decline in both consumption andinvestment in the U.S. and the euro area 96
Baseline
Double dip scenario
pushing growth in both areas below
94
Loss of market confidence
zero in 2010. As a result, real export
Double dip and loss of market
92
confidence
growth in Japan could slow by 4–
5 percentage points, with negative
90
2007
2008
2009
2010
2011
spillovers to investment andSource: IMF WEO database and staff estimates.
consumption. Japan’s GDP growthwould be about 1 percentage point lower relative to the baseline and remain subdued
in 2011. Deflation would worsen by about 0.5 percentage point.

104
102
100
98
96
94
92
90

Both tail risk scenarios can potentially occur together significantly affecting exports and growthprospects. The two scenarios, however, have opposite exchange rate effects. Some of theappreciation pressures created by a flight to quality in the second scenario would be offset by adepreciation from a loss in trade in the first scenario. Overall, the negative impact on the growthrate could be as large as 2–3 percentage points, with deflation remaining below the baseline byabout 1 percentage point in 2011. If accompanied by an independent growth slowdown in China(e.g. by 5 percent) growth in Japan could be dampened by a further ½-1 percentage point given
the importance of Asia as an export destination (about 50 percent of overall exports).
In the event that inflation expectations become unanchored and deflation self propagates, aforceful policy response may be needed. With interest rates already at the zero bound,
unconventional measures may be needed, such as full-scale quantitative easing, to stimulate
activity and anchor inflation expectations. In contrast, fiscal policy has limited room to respondand adjustment would need to proceed, although possibly at a more moderate pace. However, if
the slowdown was linked to a rise in the sovereign risk premium, fiscal consolidation may needto accelerate to restore confidence in public finances.

10
IV. POLICY DISCUSSIONSJapan’s recovery continues, but vulnerability to sovereign risk has risen. Timely and decisive
policy action and strong external demand are driving the recovery, but large fiscal deficits
have pushed public debt to even higher levels. With global scrutiny of public finances
increasing, the need for policy action to rein in the large fiscal deficit has risen. Such efforts
would be helped by additional measures to combat deflation and policies to spur growth
while safeguarding financial stability. Against this backdrop, this year’s Article IVconsultation focused on policies to achieve lasting fiscal adjustment, measures to support therecovery and combat deflation, and reforms to raise medium-term growth.
A. Mapping A Credible Fiscal Reform Strategy
Background
Japan's Fiscal Stimulus 1/
11.
Decisive government action has(in percent of GDP)helped to support the recovery. Fiscal
2009
stimulus in Japan is sizeable, estimated
Overall stimulus
2.8
Of which:
at around 2½ percent of GDP in
Cash payment
0.5
Employment support
0.4
both 2009 and 2010. Measures haveSubsidies for energy efficient products
0.2
focused on employment support andChild allowances and child care support 2/
0.0
Subsidies for high school tuition
0.0
subsidies for energy efficient products.
Income subsidies for farmers
0.0
Public investment
0.5
Starting in June 2010, the government
Source: Ministry of Finance, Cabinet Office, staff estimates.
will also provide child allowances, which 1/ Excluding financial measures.
2/ Excluding existing child allowances.
if fully implemented would amount to¾ percent of GDP annually (excluding existing allowances).

2010

2011

2.2

1.6

0.0
0.4
0.3
0.2
0.1
0.1
0.2

0.0
0.1
0.0
0.7
0.1
0.1
0.0

12.
The severe recession and the fiscal response have pushed debt to unprecedented
levels.


Fiscal developments. The overall
fiscal deficit is estimated to havewidened to 10¼ percent of GDP
in 2009 compared to 2½ percent of
GDP in 2007, reflecting lower
nominal GDP, fiscal stimulus, and a
sharp drop in corporate revenue. The
deficit is projected to narrowmoderately to 9¾ percent of GDP
in 2010, with a modest reduction instimulus and a gradual recovery inrevenue.

Holdings of JGBs (In percent) 1/
Others, 7.6

Bank of Japan,
7.4

Foreigners, 5.2

Public Pension,
11.6

Households , 5.1

Life and Nonlife
Insurance, 20
Banks, 43.1

Source: Ministry of Finance.
1/ As of end-2009.

11



Debt position. Net public debt rose sharply from 80 percent of GDP in 2007 to
110 percent of GDP at end-2009 (215 percent in gross terms), one of the highest among
advanced economies.

Fiscal risks. Although the near-term funding risks are lowered by the large share of
public debt held domestically (95 percent), sizeable household savings, and a current
account surplus, the capacity of the market to absorb JGBs will gradually diminish as
population aging reduces saving.2

13.
The authorities are planning to release their medium-term fiscal strategy by
end-June. A strategy for reducing Japan’s public debt will need to take into account Japan’s
comparatively low expenditure ratio and a low revenue share from indirect taxes.


Expenditure. The scope for further
spending cuts is limited. General
government expenditure including
social security was 33 percent of
GDP in 2007, the lowest among G-7
economies. Since the early 2000s,
non-social security expenditures havebeen flat, but social security related
spending has risen and will continue
to do so with an aging population.

100
90

Japan: General Government Nominal Expenditure(in trillions of yen)

80

100
90
80

Social security benefits

70

70

60

Non social security
spending (excluding capitalspending and interest
payment)

50
40
30

60
50
40
30

Capital spending

20
10

20
10

Interest payment001995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
Source: Cabinet Office.

Tax revenue. Japan’s overall tax
revenue is small by international
standards at 18 percent of GDP
in 2007, partly due to the low
consumption tax rate at 5 percent. In
addition, the personal income tax
system features large deductions thatserve to reduce average tax rates. By
contrast, the corporate tax rate
(40 percent) is comparatively high.

35

30

25

General Government Tax Revenue in 2007 (In percent of GDP)

30

Corporate Income Tax
Personal Income Tax
Consumption Tax
Others

25

20

20

15

15

10

10

5

5

0

0
Japan

U.S.

U.K.

FranceGermany

Source: Cabinet Office (Japanese Government)

235

Tokuoka, K. (2009) “The Outlook for Financing Japan’s Public Debt,” IMF Working Paper No. 10/19.

12

Policy Issues and Staff Views
14.
Fiscal adjustment should begin in FY2011 to capitalize on the cyclical recovery
and be sustained for at least a decade. Staff analysis suggests that stabilizing the net debtto-GDP ratio at 140 percent of GDP (240 percent in gross terms) in 2014 and placing it
firmly on a downward path would require a reduction of the structural primary deficit by
about 1 percent per year for the next 10 years (see Appendix I). This adjustment path would
strike a balance between reversing the debt dynamics in a decisive manner (benefiting
medium-term growth prospects) and safeguarding the recovery given Japan’s low current trend
growth (estimated at 1 percent). Announcing an upfront increase in the consumption tax
would strengthen credibility of the adjustment plan and boost confidence in the long-term
viability of the social security system.
15.
Adjustment could be achieved in a number of ways centered around an increasein the consumption tax rate (see table). Given the limited scope for cutting expenditures,fiscal adjustment will need to rely mainly on new revenue sources and limits on spending
growth. In addition to letting fiscal stimulus expire (savings of 1–2 percent of GDP), themain elements of a credible package could include:Comprehensive tax reform. A gradual increase of the consumption tax to 15 percent
beginning in FY2011 and distributed over several years, could generate 4–5 percent of
GDP of revenue. This measure could be combined with a reduction of personal income
tax allowances and corporate tax reform to stimulate domestic investment. The progress
made in introducing a single number system for taxpayers and social security should
help in strengthening collections.



Limiting expenditure growth. Containing public spending growth and reforming
pension entitlements in line with rising life expectancy could generate additionalsavings of around 3–4 percent of GDP over the next decade. Measures could include
freezing non-social security spending in nominal terms; limiting fast-rising health-carecosts and other social entitlements; introducing an income cap on social transfers; andraising the statutory retirement age (currently at 65 years).

16.
Fiscal adjustment may dampen activity in the near term, but would raise growthover time (Box 2). Based on GIMF model simulations, staff estimates that relative to its
baseline, the fiscal reform program would slow growth by about ⅓ percentage point per year
on average over the first 3–5 years. Thereafter, GDP would expand at a faster rate than in thebaseline as public debt declines and gains in confidence boost investment and consumption.
If accompanied by reforms to boost productivity, longer-term growth benefits could belarger.

13
Box 2. Estimating the Growth Impact of Fiscal Adjustment1
Simulations based on the IMF’s GIMF model were used to assess the possible growth impactof a 1 percent of GDP per year fiscal adjustment over the next decade. The scenario assumes aphased-in increase of the consumption tax (raising revenues by 5 percent of GDP) and a
decline in corporate income tax (reducing revenues by ½ percent of GDP). In addition, thescenario assumes a decline in government consumption by 2 percent of the GDP and in public
investment by ½ percent of GDP. The rest of the adjustment comes from transfers. The
simulations also assume some frontloading of adjustment with more than half of the adjustment
taking place within the first 3 years, mainly as a result of higher consumption taxes.
In the short-term, fiscal adjustment could
depress growth by as little as0.3-0.5 percentage points per year. The
negative impact stems from a reduction indomestic demand as a result of a gradualincrease in consumption taxes, lower
government consumption, and declining
public investment. The demand effect ismagnified by the limited scope formonetary policy at the zero interest ratebound, but could be partly offset by the
positive investment response from a
reduction in corporate taxes.

22Real GDP Growth(Percentage point difference from baseline)

1

1

0

0

-1

-1
Fiscal consolidation
No policy response

-2

-2
2010

2011

2012

2013

2014

2015

2016

2017

2018

2020

Source: IMF staff estimates.

However, in the medium term, assuming accrued benefits from improved consumer andinvestor confidence, growth could rise above the baseline by about ½ percent per year. In
addition to higher investment from lower corporate taxes, the main growth benefits from fiscal
consolidation are:



Reduction in precautionary savings. Part of the decline in consumption due to higher
consumption taxes would be offset by a reduction in precautionary savings. In particular,
younger generations appear concerned about fiscal sustainability and the pension system
and are potentially saving more now than otherwise.

Reduction of the risk premium. Japan is likely to pay a risk premium on its debt over thelong term in the absence of fiscal consolidation. Such an increase in risk premium would
increase the cost of capital, depressing investment and growth.

Confidence effects. A credible fiscal consolidation could also improve business
confidence and encourage investment.

As these benefits are likely to materialize gradually, the negative demand effects will dominate
in the short term. Fiscal adjustment will also raise national savings compared to the baseline,
pulling up the medium-term current account balance. In contrast, real GDP could be depressedsignificantly if no policy action is taken, with risk premium increasing gradually over time andpotential GDP declining as investment prospects worsen.
____________
1
See Selected Issues Paper on “Fiscal Consolidation and Structural Reforms Implications for Japan.”

14
17.
Fiscal adjustment would be aided by the adoption of a fiscal rule. An explicit
long-term fiscal rule would strengthen the commitment to cap public debt and anchor
expectations of sustainable fiscal policy. Such a framework was recently adopted in Germany
and has generally been effective in constraining debt growth in Switzerland (“debt brake”).3
In Japan, a new fiscal framework could target a primary fiscal balance consistent with a debt
limit and be based on prudent economic assumptions and narrowly defined escape clauses.
18.
Given the large and growing public debt stock, effective debt management
remains critical. The authorities have gradually raised the average maturity of outstanding
public debt (including short-term financing bills) to an estimated 5–5 ½ years. Nonetheless,gross public financing needs for maturing and new debt is large partly due to a sizeable
increase in short-term financing bills.4 Adopting an asset-liability management approachcovering both JGBs and financing bills could strengthen public debt management and themonitoring of maturity risk.
Potential Options for Gradual Fiscal Adjustment Over Next 10 Years

1/(In percent of GDP)
Option2/Consumption Tax Rate
(In percent, currently at 5 pct)

14

15

17

18

22

Revenue from consumption
tax hike

4.5

5.0

6.0

6.5

8.5

✔

Assumed impact
over 10 years
Withdrawal of fiscal stimulus

1.5

✔

✔

✔

✔

Freeze non social security spending(excluding interest payment) in nominal
terms

2.5

✔

✔

✔

✔

Hold nominal growth in non pensionsocial security spending at 1-1.5 percent(annually)

1.0

✔

✔

Freeze national contributions to the
public pension in nominal terms,
including through raising eligible age

0.5

✔

✔

Corporate tax cut-0.5

Total savings 3/

✔
10.0

10.0

✔
10.0

10.0

10.0

1/ Nominal GDP growth is assumed to be around 2 percent per year over the next 10 years, while the (nominal) interest
rate growth differential is assumed to converge to 1¼ percent (pre-crisis average since 2000) over the long term.
2/ To be adjusted gradually over a 10-year period.
3/ With this adjustment, the net debt-GDP ratio (general government basis) would peak at around 140 percent in 2014(240 percent of GDP in gross terms) and steadily decline afterwards.

3

Switzerland’s debt brake rule from 2003 sets a one-year ahead ceiling on government expenditures andmandates that any cyclical overruns be offset by adjustments in future budgets.
4

In FY2010, financing needs amount to around 30 percent of GDP for JGBs and 20 percent of GDP for shortterm financing bills.

15

The Authorities’ Views and Policy Intentions
19.
The authorities are determined to tackle fiscal consolidation to maintain publicconfidence.


Timing and composition. While the authorities shared the view that fiscal
consolidation was needed, they stressed that given downside risks, including fromexternal developments and deflation, the timing and pace of the adjustment should be
decided prudently. That said, they agreed that current events in Europe provided
greater urgency to embark on reforms. In this regard, options were being explored tolimit JGB issuances in FY2011 to the current level. The authorities shared the staff’s
conclusion that revenue measures focused on raising the consumption tax would benecessary to close the fiscal gap. They observed that a higher consumption tax would
have the additional advantage of reducing the cyclical volatility of the tax base. They
also indicated that discussions were ongoing about a possible reduction in thecorporate income tax rate.

Growth effects. The authorities concurred that credible fiscal consolidation could
have positive confidence effects in the near term, potentially overcoming the negative
demand effects from fiscal consolidation. They also noted that raising trend growththrough their soon-to-be-released growth strategy would support adjustment.



Fiscal strategy. As part of a possible fiscal rule, the authorities are considering a“pay-as you-go” requirement (where new expenditures would be funded by offsetting
spending cuts or additional revenue) and introducing a multi-year expenditureframework to strengthen budget discipline and planning. The authorities stressed thatany medium-term adjustment plans would need to be based on prudent
macroeconomic assumptions and include sufficient flexibility to avoid the fiscal
strategy being derailed by unexpected swings in growth. Because of synergies
between fiscal and structural reforms, the authorities were exploring the possibility ofcomprehensive reform legislation linking fiscal consolidation to growth enhancing
measures and social security reforms.

Debt management. Given the large domestic investor base, the authorities saw little
near-term financing risk. They indicated that demand for long-term debt was robust,
particularly among life insurance companies, and that they would continue
lengthening maturities of JGBs to reduce roll-over risks. The authorities stressed thatin assessing fiscal risks, short-term financing bills should be treated separately from
JGBs since the former are primarily used for cash management and are backed by thegovernment’s foreign exchange reserve holdings.

16

B. Monetary Policy Options to Combat Deflation
Background20.
To combat the recession and re-emergence of deflation, the BoJ adopted anumber of additional measures:

Reducing term premia. In December 2009, the BoJ introduced a 3-month funds
supplying facility to lower short-term interest rates that was doubled in size inMarch 2010 to 20 trillion yen. The introduction of the new facility was followed by amodest decline of the 3-month interest rate and coincided with a leveling off of theinflation rate. In December 2009, the BoJ also unwound its commercial paper andcorporate bond purchasing program in response to improved market conditions.

Communications. In December 2009, the BoJ clarified its understanding of medium
to long-term price stability to correspond to an inflation rate in “a positive range of
2 percent or lower” (previously “in the range approximately between 0 and
2 percent”). The BoJ also reiterated that an inflation rate of 1 percent was the midpoint of most Policy Board members’ understanding of price stability.



Loan facility. To “strengthen the foundations for economic growth”, the BoJ
announced in April 2010 the introduction of a new facility that would supply funds at
a very low interest rate to private banks to finance lending to innovative firms.

Dollar swap agreement. In response to financial market strains in Europe and topreempt any emerging dollar funding pressures, the BoJ re-activated in May 2010 its
dollar swap agreement with the U.S. Federal Reserve and re-established its U.S. dollar
funds supplying operations.

Policy Issues and Staff views
40
40
21.
While deflation pressures are
Share of Respondents with Deflationary Five-Year
35
35 Inflation Expectations (In percent)easing, a slow recovery carries risk that30
30
deflation could become more
Below -5
0 to -525
25
entrenched. A stalled recovery or sharp
Zero
yen appreciation could push prices down
20
20
further and unhinge inflation expectations
15
15
which have declined in the past year.
1010
According to survey data, the share of the55public that expects prices to fall or remain002007Q1
2007Q3
2008Q1
2008Q3
2009Q1
2009Q3
2010Q1unchanged over the next five years has
Source: Bank of Japan.
almost doubled to 30 percent since
early 2007. If deflation expectations spread and growth slows again, the risk could rise that17
deflation self-propagates by depressing wage growth, discouraging investment, andundermining the fiscal position.
22.
Additional easing measures could address deflation risks and support therecovery.
Additional easing. Building on the BoJ’s success in lowering short-term interest rates,consideration could be given to extending the size and maturity of its funds supplying
operations to 6 months or beyond to reduce still elevated term-spreads. Such action,in turn, might alleviate some appreciation pressures on the exchange rate. In addition,
the BoJ could consider purchasing a wider array of assets, such as low-rated corporate
bonds, to stimulate activity and help close the output gap.

Supporting growth. As part of the BoJ’s proposal to support growth, consideration
could be given to improving access to credit for small and medium-sized enterprises(SME), which are an important source of innovation and change but continue to facefinancing constraints according to the Tankan survey. For example, the BoJ could
broaden the scope of acceptable collateral to include low-rated securitized SME
loans, which could encourage the development of a new market for lending to SMEs.

23.
If the recovery falters and deflation worsens, the BoJ could consider a formal
quantitative easing framework to stimulate activity and anchor inflation expectations.
Such a move, however, would need to be balanced against the risks that large scale purchasesof JGBs without a credible fiscal strategy in place would undermine fiscal discipline andraise sovereign risks.
24.
During this period of heightened uncertainty, clear communication is essential.
This is especially so in light of a number of administrative price changes (e.g. to high school
tuition and tobacco taxes) and the rebasing of the CPI in 2011 which could affect inflation
expectations. The BoJ has already clarified that the Policy Board does not “tolerate” year-onyear inflation that is equal to or below zero percent. To further guide expectations, the BoJ
could consider communicating its intention to maintain easy monetary conditions until Policy
Board members’ one-year core inflation forecast exceeds 1 percent (the midpoint of theunderstanding of price stability) provided that financial imbalances remain absent under the“second perspective.”55The BoJ’s Policy Board bases its monetary policy on the assessment of economic developments from two
perspectives. The first perspective involves analysis of the most likely outlook for economic activity and prices
1–2 years ahead. The second perspective assesses a broad variety of risks to the outlook, including lowprobability but high-cost events (such as asset bubbles) over a longer time horizon.

18
The Authorities’ Views and Policy Intentions
25.
The BoJ remains open to further policy options, but at this juncture, views its
monetary policy stance as appropriate.
Deflation. The BoJ viewed deflation as primarily the result of large excess capacity inan environment of structurally low inflation and judged the growing recovery to havecontributed to an easing of deflationary pressures. As a result, in its current economic
outlook report, Policy Board members projected deflation to end in FY2011, one year
earlier than previously anticipated.

Monetary stance. With the recovery gaining strength, officials thought that the current
accommodative monetary policy stance with a virtually zero policy rate wasappropriate. Along with the economic recovery and improvement in prices, thestimulating effects of the current easing measures would be more enhanced.
Conditions in the commercial paper and corporate bond markets have returned tonormal with credit spreads declining and funding constraints appear having abated. As
a result, the BoJ saw little benefit from expanding the range of eligible collateral as
current facilities already accepted a wide range of financial assets including assetbacked securities and banks were not facing liquidity constraints. Expanding eligibility
to include lower-rated assets was unlikely to have a significant impact while raising
substantial risks, such as moral hazard and distorting resource allocation.

Communication. Officials felt that the BoJ’s monetary policy communication was
effective and that the market had fully internalized the Policy Board’s intention of
consistently maintaining accommodative monetary conditions. They had reservations
about linking the BoJ’s policy more explicitly to the inflation outlook and mentionedthat recent international experience had underscored that focusing narrowly on
inflation could result in overlooking the build-up of financial imbalances. The BoJ
reiterated that it remained committed to explaining its monetary stance, assessing boththe economic and price outlook and risks from its “two perspectives”.
C. Strengthening the Financial System

Background26.
The banking sector has returned to profitability and strengthened its capital
position.
Profitability. Following their first annual loss in five years, both regional and majorbanks returned to profitability in FY2009. The turnaround mainly reflected a pickup
in fee income, lower credit costs, and gains on securities holdings.

Credit quality. NPL ratios rose for major banks to around 2 percent while falling
marginally for regional banks to under 4 percent, partly due to an easing of loanclassification criteria in November 2008.

19


Capital ratios. Major banks’ Tier-1 ratios have increased to around 9 percent in thefirst half of FY2009, bolstered by common equity issuances amounting to over
¥3 trillion, while the ratio for regional banks remained stable at 8.7 percent.

27.
Bank lending has been declining since end-2009, partly reflecting weakcorporate demand and a pickup in bond issuances by large companies.


SME credit. Overall bank lending
has declined, primarily due to weakcorporate demand as well as a shiftback to market funding by higherrated companies. Meanwhilelending to SMEs continued tocontract, despite the earlier
expansion of public credit
guarantees.

15
10

Japanese Bank Lending to Corporates(y-o-y, percent change)

15
10

5

5

0

0
-5

-5
Total
Large companies
SMEs

-10

-10

-15
-15
2002M1 2003M3 2004M5 2005M7 2006M9 2007M11 2009M1 2010M3
Source: CEIC.



JGB holdings. As loan demand has fallen, banks have shifted to holding moregovernment bonds, with the share of JGBs in total assets growing from 11 to
16 percent since September 2008.

Policy Issues and Staff views
28.
The main risks to the financial system are from a slow recovery and increased
market volatility.


Credit risk. Nonperforming loans could rise if the recovery slows and financial
conditions tighten. Prolonged deflation could further undermine bank profitability
through low net interest margins. In this environment, supervisors should encouragebanks to rigorously monitor credit risks and, where appropriate, take action to
restructure distressed borrowers.



30
Market risk. Despite the progress in 30
Interest Rate Risk
(100
basis
point
rise,
in
percentofTier
1)
reducing banks’ stockholdings
25
25(which declined by an estimated
6 percent in FY2009), major banks
Major banks
20
20
Regional banks
still carry significant equity exposure
as a share of Tier 1 capital (around15
15
50 percent). In contrast, banks,
1010especially regional ones, haveincreased their exposure to interest
5
5
rate risk along with their larger JGB
FY2000FY2003
FY2006
FY2009 (H1)
Source: Bank of Japan.
holdings. Supervisors should
highlight the importance of proper

20
risk management and emphasize the need to follow prudential guidelines, as recently
done by the FDIC in the United States.
Spillovers and volatility. Japan’s financial system so far has largely been unaffectedby recent events in Europe. According to BIS data, Japanese banks’ direct exposure
to Southern European banks is limited at around $40 billion (½ percent of total
assets), but reliance on European cross-border funding is large ($484 billion
representing two-thirds of cross-border financing). While Japanese banks thus far
have not experienced funding problems, the impact of a sharp pull back by European
banks or prolonged market volatility could be substantial U.S. dollar funding
pressures (similar to the Lehman shock). In this regard, the BoJ’s recent decision tojoin other central banks in re-establishing US$ swap facilities with the U.S. Federal
Reserve provides a useful backstop.

29.
Japanese banks may need to raise additional capital and boost core profitability
to adjust to changes in global regulations and the domestic environment.


New global financial regulations. To strengthen the resilience of the financial system,
the Basel Committee (BCBS) has proposed strengthening capital standards andlimiting leverage. Although the impact will depend on the definition and level of thecapital standards and leverage ratios, these changes could have an impact on majorbanks in Japan who rely relatively heavily on hybrid capital and deferred tax assets or
hold significant amounts of JGBs. Although Japanese banks’ average leverage ratio,(measured by Tier 1 to total assets) is low by international comparison, banking
systems in countries with similar levels of leverage tend to have higher core Tier 1
capital ratios. To ensure financial stability, the authorities should continue to standready to inject public funds where necessary and facilitate the consolidation of bankswith weak capital bases.6

Japan Post. Proposals to double Japan Post’s deposit ceiling (to ¥20 million) andbroaden its range of lending activities would increase the size of an already large
financial institution, raising the potential for systemic risk. New lending activities
may also weaken profitability of private banks through unfair competition.

The Authorities’ Views and Policy Intentions
30.
The authorities broadly shared staff’s assessment of the risks and policy
directions, and noted that they were monitoring developments closely.

6

The authorities have made ¥12 trillion in public funds available to help banks bolster their capital ratios, ofwhich about ¥300 billion has so far been tapped.

21
Credit risk. The authorities shared staff’s concerns regarding credit risks, particularly
if the recovery should falter. However, they noted that bank credit costs had declined
over the last year, and cautioned against impeding the ability of banks to play theirintermediary role and support the recovery.

Interest rate risk. The supervisors acknowledged that the rising share of JGB holdings
posed interest rates risks to bank portfolios. The BoJ’s March Financial System
Report notes that a 100 bps value of interest rate risk relative to Tier 1 has risen toaround 12 percent for the major banks and to around 30 percent for the regionalbanks. To contain these risks, banks are required to adopt appropriate risk
management tools, including various stress-tests. On their own part, supervisors wereusing prudential guidelines to monitor these risks, such as the outlier criteria which
flags institutions whose interest rate risk exceeds 20 percent of the sum of Tier 1 andTier 2 capital.



Spillovers from Europe. The authorities shared the view that direct risks to Japan’s
financial system from exposure to Southern European banks were low. Moreover, therecent improvement in profitability had bolstered the resilience of the banking
system. Nevertheless, they remain vigilant regarding potential liquidity pressures,
particularly if stresses were to spread to other parts of Europe.

Japan Post. The authorities noted that Japan Post was subject to the same supervisory
oversight as private banks. They considered it difficult to predict the impact of the
proposed doubling of Japan Post’s deposit ceiling, but noted that deposits at Japan
Post had declined in recent years indicating that a higher deposit ceiling may have
only a limited effect on regional banks. They also expected that as reforms were
finalized, the provisionally titled Committee for Postal Reform would ensure a levelplaying field with respect to private banks in Japan.

31.
The authorities stressed the importance of carefully examining the impact of any
changes in global financial regulations, especially as the global recovery was still fragile
and bank loans were weak.7 Imposing additional burden on banks might raise the risks of
discouraging bank intermediation. Also uncertainties in future regulations and too abruptchanges in regulatory frameworks might harm banks’ lending attitude. The authorities also
pointed out that Japanese banks rely less on risky business models and have more stablesources of funding, such as household deposits. With the impact studies on the proposed
BCBS reforms still underway, the precise calibration of the new rules not expected before
year-end, and extremely limited exposure of Japanese banks’ to risky structured products andSouthern European government bonds, it was too early to determine whether banks would
need additional capital.
7

These topics were discussed in a seminar co-hosted by the OAP and the Japanese Ministry of Finance during
the Article IV mission (http://www.imf.org/external/pubs/ft/survey/so/2010/new051910a.htm).

22

D. Reforms to Raise Medium-Term Growth
Policy Issues and Staff Views
32.
Growth enhancing structural reforms would support fiscal adjustment. In theoutline of the growth strategy (to be finalized in June), the authorities focused on creating
new demand in areas such as the environment, health, and technology. Rapid growth in these
sectors would make an important contribution towards reaching the government’s ambitious
long-term real growth target of 2 percent. In addition, supply-side reforms to foster start-ups,
boost employment, and raise competition could complement demand measures in boosting
medium-term growth (Box 3):Promoting start-ups. Business start- 8 Japan: Business Start-ups and Closures of Establishments 8(in percent of existing establishments, annual average)
7
7
up rates are low compared to thestart-ups
closures
United States and have fallen below 6
6closure rates since the mid-1990s.
55Allocating a very small share of
44public pension assets to venture
3
3capital could jump-start this sector22
and promote start-ups.8 Reorienting
1
1
public support systems away from00
1996-1999
2001-2004
2004-2006
credit guarantee on SME loans to
Source: Establishment and Enterprise Census
reforms that promote more riskbased (as opposed to guarantee based) lending could also help nurture start-ups
during their early development.



Boosting employment. Staff supports the authorities’ plans to raise female labor force
participation by addressing workplace needs for families with children. Introducing a
new, more flexible regular labor contract could improve employment by encouraging
new hires, especially among temporary workers.

8

Presently, the Government Pension Investment Fund (GPIF) does not undertake any alternative investments(such as venture capital, real estate and private equity). By contrast, a number of OECD countries allocate nontrivial shares of their assets to such investments, including CalPERS in the U.S. (14 percent), New ZealandSuperannuation Fund (11 percent), Government of Singapore Investment Corporation (11 percent), and Korea
National Pension Service Fund (2.5 percent).

23

Box 3. Exploring Supply-Side Reforms to Raise GrowthThis box summarizes policy options to boost consumption and investment, which are discussed in moredetail in two Selected Issues chapters.1
Private consumption. Japan’s private consumption
share at 55 percent of GDP is low compared to theG-7 (versus 60 percent). Weak consumption reflects
stagnant disposable income, in particular wages, andlow household property income (representing
4 percent of disposable income in 2007 compared
to 20 percent in the United States). To stimulate
private consumption, wages and property income
could be supported by: Service deregulation. Raising productivity inservices, particularly in health care, would boost
wages and corporate profits, which in turn could
further boost income through higher stock returns
and dividend payouts.
 Labor reform. Creating a new regular contract
with weaker employment protection could
encourage firms to hire more regular workers. This
would not only lead to more human capital
investment, but might also address concerns about
inequity between regular and non-regular workers.

54

54

Wages and Salaries (In percent of GDP)

52

52

50

Japan
U.S.

48

48

46

46

44

44

42

42

40

40
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007
Source: National Accounts.

Composition of Investment By Sector 1/(in percent of total, at constant 1995 prices)Non-manufacturing
Manufacturing

100

100

90

90

80

80

70

70

60

60

50

50

40

40

30

30

20

20

10

10

0

0

Japan
GermanyUKUS Aged support. In addition, new retirement
1990 2000 2007
Source: EU KLEMS Database.
divestment instruments for the elderly could boost
1/ Excluding finance, insurance, real estate and public utilities.
spending. For example, promoting reverse homemortgages could help retirees to access home equity but may require public support as for instance inthe United States, where insurance to banks is provided.

Business investment. At 23 percent of GDP, aggregate investment in Japan is close to the OECDaverage, but the share of investment by SMEs and firms in the services sector—the main source of
employment in Japan—has fallen significantly. Staff analysis suggests that this is largely due to credit
constraints and that despite progress with financial restructuring, excess leverage and dependence on
debt financing has held back investment. Germany displays a similar pattern, but there is less evidenceof financing constraints or detrimental effects of debt for U.S. and U.K. firms in recent years.
Promoting investment by SMEs and firms in the services sector would provide an additional engine of
growth. Priorities should include promoting more risk-based (as opposed to collateral-based) lending;measures to facilitate a wider range of securitization (beyond real estate and other fixed assets); andwidening the pool of venture capital funding for start-ups. Investment could also be strengthened byfacilitating restructuring, including through phasing out full credit guarantees and assisting the exit ofnonviable companies through out-of-court workouts and further bankruptcy reforms.
___________
1

50“Boosting Private Consumption in Japan” and “Raising Medium-Term Growth: What Role can Investment Play?”24

Increasing competition. Further deregulation and market opening, particularly inhealth, childcare, and other services, would give a boost to productivity and makeJapan a more attractive destination for foreign investment.

The Authorities’ Views and Policy Intentions
33.
The authorities view the growth strategy as important to help support the fiscal
adjustment. While full details of the growth strategy had yet to be agreed, the authorities
recognized that some of the reforms put forth by the staff—specifically, to foster start-ups
and boost employment—could complement their own efforts.
Start-ups. The authorities broadly agreed with staff's assessment regarding Japan’s
low business start-up rates and limited venture capital, but expressed reservations
about staff's policy suggestions regarding the use of public assets. The authorities
cautioned against making venture capital investments with public pension assets,noting that the level of risk may not be appropriate for public funds. While
recognizing that reforms are needed to increase risk-based lending to SMEs, theauthorities view credit guarantees as an effective tool to support SME employment,
which accounts for almost 70 percent of the labor force.

Boosting employment. The authorities were optimistic about measures to increase
female participation in the labor force by both addressing workplace needs forfamilies with children and introducing policies that would increase the supply ofchildcare services. The authorities also shared staff's concerns about the widening gap
between regular and non-regular workers.
V. EXCHANGE RATE, EXTERNAL STABILITY, AND SPILLOVERS34.
Based on staff analysis, the current value of the yen is consistent with mediumterm fundamentals. The yen has appreciated significantly in real terms during the crisis but
remained broadly constant during late 2009 and early 2010.

External
sustainability
methodEquilibrium
real exchange rate
methodExchange rate assessment. In terms 15
Exchange Rate Assessment(In percent)of the IMF’s Consultative Group on 10
Overvaluation
5
Exchange Rates (CGER)’s three0
analytical methods, the yen’s-5effective exchange rate is estimated -10
close to its medium-term-15
equilibrium value as of March 2010. -20
Spring 2009
The real effective exchange rate is-25
Undervaluation
Spring 2010
also currently close to its long-term -30
Note: Reference period is July 30, 2009 - March 23, 2010.
average since 1990.
Source: CGER assessments.
Macrobalancemethod



15
10
5
0
-5
-10
-15
-20
-25
-30

25


Exchange rate framework. Despite the yen’s appreciation, the authorities have notintervened in foreign exchange markets. The staff continues to support the official
policy that the exchange rate should be market determined, with intervention only
justified to counter disruptive exchange rate movements.

35.
Risks to external stability are currently limited, but heightened risk aversion
could lead to disorderly capital flows. A sustained increase in risk aversion could unwind
yen-carry trades leading to further yen appreciation. Corporates with large holdings offoreign assets could also begin repatriating overseas funds.
36.
Over the medium term, Japan’s current account surplus will likely remain close
to its equilibrium level with modest growth spillovers to the region. The medium-termcurrent account balance is projected at around 2 percent of GDP, below levels seen earlier
this decade (3½ percent during 2002–07) owing to lower export demand and population
aging.9 The narrowing current account surplus will help facilitate global rebalancing,although a sizeable fiscal consolidation, if realized, would lead to a larger current accountsurplus. Growth spillovers to the region could be negative in the near-term, as fiscal
adjustment would restrain import demand, but over the longer term positive confidence
effects of consolidation could boost domestic and import demand.
37.
The authorities broadly shared staff’s medium-term outlook for externalbalances. They noted that the recent global turmoil and safe haven flows had pushed the yen
higher and this could hurt competitiveness if it persisted.
VI. STAFF APPRAISAL
38.
Timely stimulus and strong external demand have supported the economic
recovery. With the output gap gradually closing, deflationary pressures have begun to ease.
The outlook, however, is subject to considerable uncertainty and risks due to global
sovereign debt concerns. If risk aversion intensifies, further yen appreciation and fallingexternal demand could weaken the recovery.
39.
Global events have sharpened the focus on Japan’s fiscal problems and raised
the urgency for credible fiscal adjustment. In this light, fiscal adjustment should begin
next year centered around a gradual increase in the consumption tax and followed by asustained reduction in the structural primary deficit over the next decade. Sustained
consolidation will require comprehensive tax reform, limits on non-social security spending
growth, and entitlement reforms. A fiscal rule featuring a public debt cap and a primary
surplus target could strengthen credibility and lock-in fiscal gains.

9

The current account norm is estimated 2.8 percent of GDP, and the current account stabilizing NFA at 2009
level is 1.7 percent of GDP.

26
40.
Further easing measures by the BoJ could support the recovery and address therisks of deflation intensifying. To stimulate activity, the BoJ could extend the maturity of its
funds supplying operations and broaden asset purchases. In a period of heightened
uncertainty, clear communication will also be critical. To better guide expectations, the BoJ
could communicate a stronger intention to maintain policy accommodation until its one-year
core inflation forecast is one percent or above, provided that financial imbalances remainabsent.
41.
The banking sector has continued to improve, but faces a number of challenges.
Banks have returned to profitability and bolstered their capital bases, but risks remain from aslow recovery and market volatility particularly that emanating from overseas markets.
Banks also face challenges in adapting to new global financial standards. Under thesecircumstances, the authorities should ensure that banks follow proper risk management andstand ready to assist banks, where necessary, in strengthening their financial positions.
42.
An ambitious pro-growth agenda would help support fiscal adjustment. The
government’s new growth strategy aims to promote demand in areas such as theenvironment, health and technology. In addition, supply-side reforms to promote start-ups,
boost employment, and increase competition, especially in services, could complement
demand measures in boosting medium-term growth.
43.
It is recommended that the next Article IV consultation take place on thestandard 12-month cycle.

27
Table 1. Japan: Selected Economic Indicators, 2006–11
Nominal GDP: US$5,068 billion (2009)
Population: 127.6 million (2009)
GDP per capita: US$39,730 (2009)
Quota: SDR 13,312.8 million
2006

2007

2008

2009

Proj.
2010

2011

Growth (percent change) 1/
Real GDP
Domestic demand
Private consumption
Residential investment
Business investment
Government consumption
Public investment
Stockbuilding 2/
Net exports 2/
Exports of goods and services
Imports of goods and services

2.0
1.2
1.5
0.5
2.3
0.4
-5.7
0.2
0.8
9.7
4.2

2.4
1.3
1.6
-9.6
2.6
1.5
-7.4
0.3
1.1
8.4
1.6

-1.2
-1.3
-0.7
-8.1
0.1
0.3
-8.5
-0.4
0.1
1.6
1.0

-5.2
-4.0
-1.0
-14.2
-19.3
1.5
7.4
-0.4
-1.3
-23.9
-16.7

2.4
1.0
1.5
-7.4
1.2
1.2
-5.4
0.1
1.8
19.5
7.5

1.8
1.2
0.7
1.9
6.7
-0.6
-4.2
0.1
0.7
9.1
6.8

Inflation (annual average)
CPI 3/GDP deflator

0.3
-0.9

0.0
-0.7

1.4
-0.8

-1.4
-0.9

-1.2
-2.1

-0.2
-1.3

Unemployment rate (annual average)

4.1

3.9

4.0

5.1

4.9

4.7

Government (percent of GDP, fiscal year basis)
General government
Revenue
Expenditure
BalancePrimary BalancePrimary Balance excluding social security
Public Debt, gross (calendar year basis)

30.8
34.2
-3.3
-2.7
-1.8
191.3

31.4
34.3
-2.9
-2.3
-1.2
187.7

30.8
36.2
-5.4
-4.4
-3.3
194.7

28.8
40.2
-11.4
-10.2
-8.9
217.7

29.9
39.9
-10.0
-8.5
-7.2
226.9

30.4
39.6
-9.2
-7.5
-6.4
235.0

Money and credit (percent change, end-period)
Base money
M2 (period average)
Domestic credit
Bank lending (after adjustment)

-20.0
0.7
-0.9
2.8

0.4
2.1
-2.2
0.8

1.8
1.8
49.0
4.6

5.2
3.1
1.3
-0.9

2.9 6/
2.9 6/
2.0 7/-1.9 5/

...
...
...
...

Interest rate
Overnight call rate, uncollateralized (end-period)
Three-month CD rate (annual average)
Official discount rate (end-period)

0.28
0.22
0.40

0.46
0.51
0.75

0.10
0.51
0.30

0.09
0.33
0.30

0.1 5/
0.3 8/
0.3 5/

...
...
...

Balance of payments (in billions of US$)
Current account balance
Percent of GDP
Trade balance
Percent of GDP
Exports of goods, f.o.b.
Imports of goods, f.o.b.
Oil imports (trade basis)
FDI, net (percent of GDP)
Terms of trade (percent change)
Change in reserves

170.4
3.9
81.1
1.9
615.7
534.6
123.3
-1.3
-6.8
32.0

211.0
4.8
105.1
2.4
678.4
573.3
130.1
-1.2
-2.1
36.5

157.1
3.2
38.4
0.8
746.5
708.0
190.6
-2.2
-9.6
30.8

141.8
2.8
43.4
0.9
545.3
501.9
99.9
-1.2
19.5
27.3

162.9
3.1
63.2
1.2
706.4
643.2
137.2
-1.9
-5.9
...

Total reserves minus gold (in billions of US$)

879.7

952.8

1009.41022.21011.6 5/...

Exchange rates (annual average)
Yen/dollar rate
Yen/euro rate
Real effective exchange rate 4/
Real effective exchange rate (CPI-based)

116.3
146.0
64.1
72.0

117.8
161.4
59.3
66.6

103.4
152.1
65.6
72.7

93.6
130.3
71.3
82.0

91.8 8/112.3 8/68.8 6/78.4 6/

...
...
...
...

129.2
2.5
27.2
0.5
787.0
759.8
151.8
-1.3
-5.8

Sources: Global Insight, Nomura database; IMF, Competitiveness Indicators System; and Fund staff estimates and projections asof June 14, 2010.
1/ Annual growth rates and contributions are calculated from seasonally adjusted data.
2/ Contribution to GDP growth.
3/ Based on published annual averages of the CPI index.
4/ Based on normalized unit labor costs; 2000=100.
5/ May 2010.
6/ April 2010.
7/ March 2010.
8/ June 14, 2010.

28

Table 2. Japan: General Government Operations, 2005–2011 1/(In percent of GDP)

2005

2006

2007

2008

2009

2010
Proj.

2011
Proj.

29.9

30.8

31.3

30.8

28.8

29.9

30.4

17.3
10.6
1.8

17.8
10.8
2.0

18.0
11.0
2.0

17.2
11.5
1.7

15.2
11.7
1.6

16.3
11.8
1.5

16.6
12.0
1.5

34.2

34.2

34.3

36.2

40.2

39.9

39.6

Current
Consumption(less) Depreciation
Social security benefits
Other current
Interest paid

30.7
11.6
-3.1
16.2
3.5
2.4

30.5
11.5
-3.1
16.3
3.4
2.5

31.1
11.5
-3.2
16.7
3.6
2.5

32.9
12.1
-3.3
17.7
3.9
2.6

36.7
12.6
-3.2
18.8
5.7
2.8

36.6
12.6
-3.2
19.2
5.0
3.0

36.4
12.2
-3.2
19.3
4.9
3.1

CapitalInvestment
Land acquisition
Capital transfers
Of which : Bank support
Balance

3.6
3.6
0.4
-0.4
0.0
-4.3

3.7
3.2
0.4
0.0
0.0
-3.3

3.2
3.0
0.4
-0.2
0.0
-2.9

3.3
3.1
0.4
-0.2
0.0
-5.4

3.6
3.2
0.4
-0.1
0.0
-11.4

3.3
3.0
0.4
0.0
0.0
-10.0

3.2
2.9
0.4
0.0
0.0
-9.2

Primary balance
Excluding social security
Structural balance 2/

-3.6
-2.9
-4.0

-2.7
-1.8
-3.4

-2.3
-1.2
-3.1

-4.4
-3.3
-4.0

-10.2
-8.9
-8.8

-8.5
-7.2
-7.8

-7.5
-6.4
-7.8

Total revenue

29.4

30.7

31.0

31.5

29.5

29.8

30.3

16.8
10.6
1.7

17.7
10.8
1.9

17.9
10.9
2.0

18.0
11.3
1.8

15.7
11.8
1.6

16.2
11.8
1.5

16.6
12.0
1.5

34.2

34.7

33.4

35.6

39.8

39.6

39.6

Current
Consumption(less) Depreciation
Social security benefits
Other current
Interest paid

30.7
11.7
-3.1
16.1
3.6
2.4

30.6
11.5
-3.1
16.4
3.4
2.4

30.7
11.4
-3.2
16.5
3.4
2.5

31.9
11.8
-3.4
17.2
3.7
2.5

36.2
12.6
-3.4
18.7
5.5
2.8

36.2
12.6
-3.4
19.1
5.0
2.9

36.3
12.3
-3.4
19.4
4.9
3.1

CapitalInvestment
Land acquisition
Capital transfers
Of which : Bank support
Balance

3.5
3.6
0.4
-0.5
0.0
-4.8

4.1
3.3
0.4
0.3
0.0
-4.0

2.7
3.1
0.4
-0.8
0.0
-2.4

3.8
3.0
0.4
0.4
0.0
-4.1

3.5
3.2
0.4
-0.1
0.0
-10.3

3.4
3.0
0.4
-0.1
0.0
-9.8

3.2
2.9
0.4
0.0
0.0
-9.2

Primary balance
Excluding social security
Structural balance 2/

-4.0
-3.5
-4.5

-3.4
-2.6
-3.9

-1.8
-0.8
-2.5

-3.2
-2.3
-3.5

-9.1
-7.8
-7.3

-8.3
-7.1
-7.7

-7.6
-6.4
-7.6

Debt (In percent of GDP, calendar year)
Gross
Net

191.6
84.6

191.3
84.3

187.7
81.5

194.7
94.9

217.7
111.6

226.9
121.4

235.0
130.3

Memorandum items :Nominal GDP (FY, trillion yen)
Nominal GDP (CY, trillion yen)

503.2
501.7

510.9
507.4

515.6
515.5

494.9
505.1

476.3
474.2

474.3
475.5

481.1
477.7

(Fiscal year)
Total revenue
Taxes and fines
Social security premiums
Property income
Total expenditure(Calendar year)
Taxes and fines
Social security premiums
Property income
Total expenditure

Source: Fund staff estimates.
1/ Estimated from the National Income Accounts data. The fiscal year is April through March.
2/ Excluding bank support.

29

Table 3. Japan: External and Financial Indicators, 2005–10(In percent of GDP, unless otherwise indicated)

External indicators
Real exports of goods and services (percent change)
Real imports of goods and services (percent change)
Terms of trade (percent change)
Current account balance
Capital and financial account balance
Of which :Inward portfolio investment
Inward direct investment
Other investment liabilities (net)Total reserves minus gold (US$ billion)
In months of imports of goods and services
Broad money (M2 + CDs) to reserves ratio
Foreign assets of DMBs (US$ billion)
Foreign liabilities of DMBs (US$ billion)
Net international investment position (US$ billion)
Of which :External loan liabilities
External public sector debt (gross) 1/
External loan liabilities to exports ratio
External interest payments to exports (in percent) 2/
Nominal effective exchange rate (percent change, period avg)
Financial market indicators
General government gross debt
Interest rates (percent, end-year)
3-month General collateral repo rate 3/
3-month General collateral repo rate, real 3/
3-month interest rate spread vis-à-vis U.S.
Stock market index (TOPIX, percent change, end-year) 4/
Banking sector risk indicators
Total loans to assets (in percent)Total loans to deposits (in percent)Share of real estate sector in total lending (in percent)Share of nonperforming loans in total loans(In percent, end-fiscal year) 5/
Risk-weighted capital ratio (in percent, end-fiscal year) 5/ 6/

2005

2006

2007

2008

2009

Latest
2010

7.0
5.8
-5.2
3.6
-2.7

9.7
4.2
-6.8
3.9
-2.5

8.4
1.6
-2.1
4.8
-4.4

1.6
1.0
-9.6
3.2
-4.2

-23.9
-16.7
19.5
2.8
-2.9

…
…
…
…
…

4.0
0.1
-1.4

4.6
-0.1
-4.0

4.5
0.5
-4.7

-2.2
0.5
4.2

-1.1
0.2
2.7

…
…
…

834.3
17.0
0.8
1283.0831.2
1639.5

879.7
16.3
0.7
1200.9759.4
1849.4

952.8
16.4
0.6
1369.9765.92125.01009.414.3
0.7
1778.71077.52181.81022.219.8
0.8…
…
2845.21011.6
…
0.8
…
…
…

860.2
383.2

733.9
422.3

721.1
581.0

739.9
620.6

873.7
…

…
…

1.3
1.7
-3.1

1.0
2.5
-7.0

0.9
2.5
-5.0

0.9
1.9
12.4

1.4
1.6
14.6

…
…
1.1

191.6

191.3

187.7

194.7

217.7

…

0.01
0.41
-3.88
43.5

0.47
0.17
-4.37
1.9

0.60
-0.10
-4.36
-12.2

0.22
-0.18
-4.80
-41.8

0.13
0.13
0.13
5.6

0.12
1.31
-0.04
-1.9

31.0
78.4
16.5

28.6
79.5
18.9

26.9
77.5
19.2

27.9
79.2
19.0

27.8
75.9
20.6

...
...
...

1.8
12.2

1.5
13.1

1.4
12.3

1.7
12.4

1.9
14.3

...
...

Sources: Global Insight, Nomura Database; IMF, International Financial Statistics; Fitch IBCA;
and Fund staff estimates.
1/ Public sector debt securities and other loan liabilities.
2/ Other investment income, debit.
3/ 3-month Tokyo repo rate since October 2007.
4/ Twelve-month percent change for the latest figure.
5/ Major banks. Capital ratio is on a nonconsolidated basis.
6/ 2009 refers to first half of FY2009.

30

Table 4. Japan: Balance of Payments, 2004–09
2004

2005

2006

2007

2008

2009

157.1
38.4
746.5
708.0
118.6
-20.8
152.6
-13.1

141.8
43.4
545.3
501.9
98.4
-20.4
131.1
-12.3

3.2
0.8
2.4
-0.4
3.1
-0.3

2.8
0.9
1.9
-0.4
2.6
-0.2

(In billions of U.S. dollars)
Current accountTrade balance
Exports
Imports
Invisibles
Nonfactor services
Investment income
Net transfers

172.1
128.5
539.1
410.6
43.6
-34.3
85.8
-7.9

165.7
93.8
567.4
473.6
71.8
-24.1
103.6
-7.6

170.4
81.1
615.7
534.6
89.3
-18.2
118.2
-10.7

211.0
105.1
678.4
573.3
105.9
-21.2
138.7
-11.6

(In percent of GDP)
Current accountTrade balance
Invisibles
Nonfactor services
Investment income
Net transfers

3.7
2.8
0.9
-0.7
1.9
-0.2

3.6
2.1
1.6
-0.5
2.3
-0.2

3.9
1.9
2.0
-0.4
2.7
-0.2

4.8
2.4
2.4
-0.5
3.2
-0.3

(In billions of U.S. dollars)
Capital account

-4.8

-4.9

-4.7

-4.1

-5.6

-5.0

Financial account-138.5-144.8-134.7-224.3-204.6-158.2

Direct investment, net
Direct investment abroad
Foreign direct investment in Japan

-23.3
-31.1
7.8

-42.2
-45.4
3.2

-56.7
-50.2
-6.4

-51.7
-73.7
22.0

-106.2-130.9
24.7

-62.5
-74.2
11.7

Portfolio investment, net
Of which: Official
Inflows
Outflows

24.6
95.1-173.7
198.3

-12.0
52.6
-196.2
184.1

127.4
104.6
-71.8
199.2

68.3
177.5
-127.2
195.4-298.7-27.2-191.8-106.8-217.5-77.0-161.4-56.1

Other investment, net
Of which: Official
Inflows
Outflows

21.1
4.1
8.1
13.0

-68.2
25.6
122.5
-190.7-173.4-24.8
57.6-231.0-204.40.4-65.9-138.5

231.0
111.5
420.4
-189.4149.1-119.4535.8-386.7-161.0

-22.3

-32.0

-36.5

-30.8

-27.3

-28.8

-16.1

-31.0

17.4

53.1

21.4

4608.339.8
4.7

4561.343.9
5.2

4364.549.7
5.54380.254.0
5.9

4894.752.3
6.0

5071.1
52.9
4.9

Reserve assets
Errors and omissions, net
Memorandum items :Nominal GDP (US$ billion)
Net foreign assets (NFA)/GDP
Return on NFA (In percent)

Sources: Global Insight, Nomura database; and Fund staff estimates.

31

Table 5. Japan: Medium-Term Projections, 2008–15(Percentage change from the previous period, unless otherwise indicated)

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

Real GDP
Total domestic demand
Net exports (contribution)

2.7
1.9
0.8

1.9
1.8
0.3

2.0
1.2
0.8

2.3
1.3
1.1

-0.7
-1.3
0.2

-5.3
-4.0
-2.0

2.4
1.0
1.8

1.8
1.2
0.7

2.0
1.6
0.5

1.9
1.5
0.5

1.8
1.5
0.4

1.7
1.5
0.3

Unemployment rate (percent)
CPI inflation
Output gap

4.7
0.0

4.4
-0.3

4.1
0.3

3.9
0.0
0.4

4.0
1.4
-1.6

5.1
-1.4
-7.2

4.9
-1.2
-5.2

4.7
-0.2
-3.9

4.5
0.3
-2.6

4.3
0.6
-1.5

4.2
0.8
-0.6

4.1
1.0
0.1

-4.3
-3.6
-2.9

-3.3
-2.7
-1.8

-2.9
-2.3
-1.2

-5.4
-4.4
-3.3

-11.4
-10.2
-8.9

-10.0
-8.5
-7.2

-9.2
-7.5
-6.4

-8.8
-7.0
-5.7

-8.0
-5.9
-4.5

-7.6
-5.3
-3.8

-7.4
-5.0
-3.2

Overall fiscal balance (fiscal years) 1/
Primary balancePrimary balance excl. social security
Debt (calendar years) 1/
Gross
Net
Current Account Balance 1/

191.6 191.3 187.7 194.7 217.7 226.9 235.0 240.0 244.2 247.1 249.8
84.6
84.3
81.5
94.9 111.6 121.4 130.3 137.2 143.5 148.9 154.3
3.7

3.6

3.9

4.8

Sources: Global Insight, Nomura database; and Fund staff estimates.
1/ In percent of GDP.

3.2

2.8

3.1

2.5

2.3

2.2

2.1

2.0

32
APPENDIX I. JAPAN: PUBLIC SECTOR DEBT SUSTAINABILITY10
Staff has updated its assessment of Japan’s public debt sustainability. This annex looks atthree scenarios: i) a no adjustment scenario which leads to a continued rise in the net debt
ratio; ii) a policy adjustment scenario that would reduce the net debt GDP ratio to
100 percent by 2030; and iii) a delayed and more gradual adjustment scenario, where the net
debt ratio would remain at an unsustainably high level long into the future.
Macroeconomic assumptions. Both real GDP growth and the inflation rate are assumed toconverge to 1 percent over the long term (as a result, nominal GDP growth is around
2 percent per year over the next 10 years). The nominal interest rate growth differential is
assumed to converge to 1¼ percent (pre-crisis average since 2000) over the long run.11
No adjustment scenario. With no adjustment, net public debt would rise and approach
250 percent of GDP by 2030. The no adjustment scenario assumes withdrawal of stimulus(1½ percent of GDP), a modest expenditure adjustment (1 percent of GDP), and unchanged
tax policy (no increase in the consumption tax) over the next 10 years, which altogether
produces an improvement of 2½ percent of GDP in the structural primary balance.
Policy adjustment scenario. Achieving
250
250Japan: Net Public Debt 1/
debt sustainability will require that Japan(In percent of GDP)
225
225
stabilize and put its debt-to-GDP ratio
200
200
No adjustment scenario
firmly on a downward path. To achieve this175
175
goal, the policy adjustment scenario
Delayed and more gradualadjustment
scenario
150
assumes a 10 percent of GDP improvement 150
125
125
of the structural primary balance
Policy adjustment scenario
between 2010 and 2020. This comprises of 100
100
a withdrawal of stimulus (1½ percent of
7575GDP) plus additional policy measures of
50
50
2005
2010
2015
2020
2025
2030
8.5 percent of GDP, of which
4.5 percentage points are assumed to comefrom a net tax increase including a gradual consumption tax hike starting in 201112 and4 percentage points from expenditure reforms (by freezing non social security spending in
nominal terms and limiting growth in social security spending).
Source: Cabinet Office, and staff estimations.
1/ Net debt of the general government including the social security fund.

10

The analyses focus on net debt of the general government including the social security fund.

11

Consequently, nominal interest rates are assumed to rise to 3¼ percent (compared to 1.3 percent currently)
over the long run, while growth remains at its 1 percent potential.

12

More specifically, this assumes a combination of i) a consumption tax hike by 10 percentage points
cumulatively (3 percentage points each in 2011 and 2013, and 2 percentage points each in 2015 and 2017); andii) a corporate tax cut by 0.5 percent of GDP in 2011.

33
5

Average adjustment per year

Under this scenario, the net debt GDP ratio
would peak at 140 percent (240 percent of
GDP in gross terms) in 2014 and thendecline to below 100 percent by 2030.
Compared to other countries, theconsolidation pace of about one percentage
point per year can be considered ambitious,
as international experience shows that few
advanced economies have succeeded inmaintaining an adjustment of 1 percent of
GDP or higher annually over 10 years,
possibly reflecting reform fatigue.

Advanced Economy Experiences with Large Fiscal
Adjustment

5

4

4

3

3

2

2
Japan (through 1990)

1

1

0

0
0

5

10
Adjustment length (years)

15

20

Source: Fiscal Monitor: Nov 2009, prepared by Fiscal Affairs Department (IMF).

Delayed and more gradual adjustment scenario. A further delay relative to the policy
adjustment scenario would leave net public debt at unsustainably high levels (around
140 percent of GDP) long into the future. In this scenario, the start of the consumption hike isdelayed by 3 years to 2014 relative to the policy adjustment scenario and the overall
improvement of the structural primary balance between 2010 and 2020 is reduced to
8.5 percent of GDP (from 10 percent of GDP in the policy adjustment scenario).
Sensitivity analysis. The debt sustainability results are sensitive to macroeconomic
assumptions. In particular, a higher interest rate growth differential (than the baseline of
1¼ percent) would lead to an even faster pace of debt accumulation. For example, in thepolicy adjustment scenario, assuming an interest rate growth differential of 4 percent would
fail to stabilize the public debt ratio, while a modestly higher differential of 2 percent would
still bring down the debt ratio but to a higher level. Returning to the public debt ratio to its
pre-crisis level by 2030 would require an adjustment of 12-15 percent of GDP.
Net Public Debt (in percent of GDP)Net Debt
Nominal
Structural PrimaryInterest Rate
Balance
Growth Differential
Improvement
over the Long
2010-2020
Term(in percent)

2010

2015

2020

2030

No adjustment scenario

1.25 (baseline)
2.0
4.0

2.5
2.5
2.5

121
121
121

154
154
154

179
183
193

241
262
327

Policy adjustment scenario

1.25 (baseline)
2.0
4.0

10.0
10.0
10.0

121
121
121

136
136
136

124
127
135

99
112
152

Target pre-crisis (2007) level in 2030

1.25 (baseline)
2.0
4.0

12.4
13.1
14.9

121
121
121

144
143
140

130
129
127

81
81
81

Source: Cabinet Office, and staff estimations.

Table Japan: Public Sector Debt Sustainability Framework, 2007-2015
No Adjustment Scenario(In percent of GDP, unless otherwise indicated)

2007

2008

2009

2010

2011

2012

2013

2014

2015

81.5

94.9

111.6

121.4

130.3

137.2

143.5

148.9

154.3

2 Change in public sector debt
3 Identified debt-creating flows (4+7+12)
4 Primary deficit
5
Revenue and grants
6
Primary (noninterest) expenditure
7 Automatic debt dynamics 2/
8Contribution from interest rate/growth differential 3/9Of which contribution from real interest rate
10
Of which contribution from real GDP growth
11
Contribution from exchange rate depreciation 4/
12 Other identified debt-creating flows
13
Privatization receipts (negative)
14
Recognition of implicit or contingent liabilities
15
Other (specify, e.g. bank recapitalization)
16 Residual, including asset changes (2-3)

-2.8
1.1
1.8
31.0
32.8
-0.7
-0.7
1.3
-1.9
0.0
0.0
0.0
0.0
0.0
-3.9

13.4
5.8
3.2
31.5
34.8
2.5
2.5
1.5
1.0
0.0
0.0
0.0
0.0
0.0
7.6

16.8
16.5
9.1
29.5
38.6
7.4
7.4
2.1
5.3
0.0
0.0
0.0
0.0
0.0
0.3

9.8
9.5
8.3
29.8
38.1
1.1
1.1
3.8
-2.7
0.0
0.0
0.0
0.0
0.0
0.3

8.9
8.7
7.6
30.3
37.9
1.1
1.1
3.2
-2.1
0.0
0.0
0.0
0.0
0.0
0.2

6.9
6.4
6.8
30.8
37.6
-0.4
-0.4
2.3
-2.6
0.0
0.0
0.0
0.0
0.0
0.5

6.3
5.7
6.0
31.5
37.5
-0.3
-0.3
2.2
-2.5
0.0
0.0
0.0
0.0
0.0
0.6

5.4
4.7
5.2
32.0
37.3
-0.6
-0.6
2.0
-2.5
0.0
0.0
0.0
0.0
0.0
0.7

5.4
4.1
5.0
32.0
37.0
-0.9
-0.9
1.6
-2.4
0.0
0.0
0.0
0.0
0.0
1.3

Public sector debt-to-revenue ratio (in percent) 1/

262.8

301.1

378.4

407.7

429.4

445.9

455.2

465.3

482.1

2.3
0.8
-0.7

-1.2
1.1
-0.8

-5.2
1.2
-0.9

2.4
1.3
-2.1

1.8
1.4
-1.3

2.0
1.4
-0.4

1.9
1.5
-0.1

1.8
1.6
0.2

1.7
1.6
0.5

Key Macroeconomic and Fiscal Assumptions
Real GDP growth (in percent)
Average nominal interest rate on public debt (in percent) 5/
Inflation rate (GDP deflator, in percent)1/ General government basis.
2/ Derived as [(r - p(1+g) - g + ae(1+r)]/(1+g+p+gp)) times previous period debt ratio, with r = interest rate; p = growth rate of GDP deflator; g = real GDP growth rate;a = share of foreign-currency denominated debt; and e = nominal exchange rate depreciation (measured by increase in local currency value of U.S. dollar).
3/ The real interest rate contribution is derived from the denominator in footnote 2/ as r - π (1+g) and the real growth contribution as -g.
4/ The exchange rate contribution is derived from the numerator in footnote 2/ as ae(1+r).
5/ Derived as nominal interest expenditure divided by previous period debt stock.

34

1 Public sector net debt 1/

INTERNATIONAL MONETARY FUND
JAPAN
Staff Report for the 2010 Article IV Consultation
Supplementary Information
Prepared by the Asia and Pacific Department
Approved by James Gordon and Tamim Bayoumi
June 25, 2010
The following information has become available since the preparation of the staff report.
This information does not alter the thrust of the staff appraisal.
The cabinet led by new Prime Minister Naoto Kan endorsed a New Growth Strategy on
June 18, 2010 and a Fiscal Management Strategy on June 22, 2010.
The New Growth Strategy, which builds on an earlier outline from December 2009, targets anominal GDP growth rate of 3 percent (2 percent in real terms) over the next decade. It also
aims to bring the unemployment rate below 4 percent from the current 5 percent range.
Measures. The strategy identifies seven key areas for development including theenvironment and energy, healthcare, growth of the Asian economy, tourism and local
revitalization, science and technology, employment, and finance (see Box). Noteworthy
measures include efforts to increase Japan’s infrastructure industries overseas (such as highspeed rail), a phased-in reduction of corporate taxes from 40 percent towards the level ofother major advanced economies, and increased childcare services to strengthen female labor
force participation.
Staff views: The new growth strategy contains a number of elements that could help raisepotential growth. Measures aimed at boosting exports of infrastructure industries andreductions in corporate taxes could raise domestic investment and help Japan capture a larger
share of the growing demand in the region. Other reforms to improve health care, increase
labor participation, and strengthen education could expand labor supply and raise
productivity. The staff report suggests some additional supply side measures focused onincreasing employment, deregulating services, and encouraging more risk-based lending byprivate financial institutions that would complement efforts to raise trend growth.
The Fiscal Management Strategy outlines the government’s fiscal plan for the coming
decade to restore confidence in public finances and support sustained growth:2

Short term: the government will make “utmost efforts” to cap the issuance of new
Japanese government bonds (JGBs) in FY2011 (begins April 2011) at the FY2010
level (¥44 trillion). There is also a commitment that central government primary
spending (General Account excluding debt and interest payment) will not exceed the
FY2010 level over the next three years.

Medium- to long-term: the government commits to halving the government primary
deficit in percent of GDP by FY2015 and achieving a primary surplus by FY2020 at
the latest (central and local governments). It aims to stabilize the debt-to-GDP ratioaround FY2020 targeting a steady decline of the debt ratio from FY2021 on. To help
achieve this goal the government plans to introduce a “pay-as you-go” rule requiringthat any new expenditure be funded by permanent reductions in expenditures or byadditional revenue-raising measures.

Measures. The strategy does not identify the composition or timing of possible
revenue measures, but the government has called for a swift bipartisan discussion on
the details of a comprehensive tax reform package, including changes to theconsumption, income, and corporate taxes. The Prime Minister also mentioned theneed to address equity concerns arising from a potential future increase of theconsumption tax, for example, through reducing the rate on some products. On the
expenditure side, the strategy is explicit about the need for medium-term spending
caps, but does not discuss specific entitlement reforms that may be necessary.

The government also issued a
Medium-term Provisional Economic
Fiscal Calculation to illustrate thesize of the adjustment required.
Under “conservative”
macroeconomic assumptions1 theauthorities estimate that the primarybalance budget in FY2020 would fall
¥21.7 trillion (or 4 percent of GDP)
short of the targeted primary balance
without new revenue measures.

260
240

Japan: Public Debt (Authorities' definition, in percent of GDP) 1/
Scenario without newrevenue measures underconservative
macroeconomic
assumptions

220
200
180

240
220
200
180

Following authorities'
consolidation targets

160

160

140

140

120

120
2002

2005

2010

2015

2020

2023

Source: Cabinet Office（FY）(http://www5.cao.go.jp/keizai3/econome/h22chuuchouki.pdf)
1/ The sum of gross JGBs (excluding Fiscal Investment and Loan Program
bonds), local government bonds, and borrowing of the Local Allocation Tax
Special Account. This does not conform with the staff's definition of grosspublic debt, which includes short-term financing bills (shorter than one year).

Staff views: Staff welcomes the fiscal adjustment strategy as an important step forward tolaying out a medium-term adjustment path. The adjustment path envisaged is more gradualthan under the staff’s policy adjustment scenario and stabilizes the debt-ratio at a later date
(FY2020 versus FY2015) and at a higher level. This leaves the fiscal position more
vulnerable to potential adverse shocks for a prolonged time. Moreover, the strategy lacks
specifics on new revenue measures to achieve this adjustment and in staff’s view will only
1

260

Real GDP growth is projected to converge to 1.2 percent in 2020.

3
become fully credible once details of the necessary revenue measures are agreed on including
the timing and scale of a consumption tax increase. Staff also welcomes the intention to
adopt a pay-as-you go rule, which will enhance fiscal discipline, but still sees a need for acap on public debt to anchor expectations.

Box: Key Policy Areas of Japan’s New Growth Strategy
Environment and energy. Reduce dependence on fossil fuels and expand Japan’s
technology leadership by providing incentives to increase the supply and use of renewableenergy and revitalize forestry.
Health care. Address demand pressures from population aging by promoting advanced
medical services through deregulation and developing international medical business(medical tourism) through more flexible visa issuances.
Growth of Asian economy. Expand overseas operations of infrastructure industries bytaking advantage of Japan’s leadership in transportation and communication technology
and through support from public financial institutions (e.g., Japan Bank for International
Cooperation). Attract foreign companies to Japan by cutting the effective corporate tax rate,
developing global human resources, accepting more foreign skilled labor, and promoting
economic partnerships, including through a Free Trade Area of the Asia-Pacific (FTAAP).
Tourism and local revitalization. Encourage tourism by developing special tourism areas,and expediting issuance of tourist visas. In parallel expand markets for existing housing andhome renovation, and strengthen public services by opening management to the private
sector.
Science and technology. Foster innovation and growth and enhance international
competitiveness through higher public and private R&D spending, better human resource
development including through university reforms, and improved communication
technology.
Employment. Strengthen female labor force participation by improving child care services
and adopting more flexible work arrangements.
Finance. Develop the financial sector by promoting the establishment of an integrated
exchange for securities, other financial instruments, and commodities.

INTERNATIONAL MONETARY FUND
JAPAN
Staff Report for the 2010 Article IV Consultation—Informational Annex
Prepared by the Asia and Pacific Department(In consultation with other departments)

June 17, 2010
Contents

Page

I.

Statistical Issues ......................................................................................................2II.

Fund Relations ........................................................................................................42

ANNEX I. JAPAN—STATISTICAL ISSUES
Statistical Issues: Economic and financial data provided to the Fund are considered adequate
for surveillance purposes. Japan subscribes to the Special Data Dissemination Standard(SDDS) and meets the SDDS specifications for the coverage, periodicity, and timeliness ofdata. The Japanese authorities hosted a data module mission for a Report on the Observanceof Standards and Codes (data ROSC) in September 12–28, 2005. The Report on Observanceof Standards and Codes - Data Module, Response by the Authorities, and Detailed
Assessments Using the Data Quality Assessment Framework (DQAF) were publishedMarch 17, 2006 and are available at
http://www.imf.org/external/pubs/ft/scr/2006/cr06115.pdf

Japan: Table of Common Indicators Required for Surveillance (as of June 8, 2010)
Date of

Date

Frequency

Frequency

LatestReceived

of
6
Data

of
6
ReportingObservation

Frequency of
6
Publication

June 2010

June 2010

D

D

D

International Reserve Assets and Reserve Liabilities of the1
Monetary Authorities

May 2010

June 2010

M

M

M

Reserve/Base Money

May 2010

June 2010

M

M

M

Broad Money

May 2010

June 2010

M

M

M

5/31/10

6/2/10Every 10days

Every 10days

Every 10days

Apr 2010

June 2010

M

M

M

June 2010

June 2010

D

D

D

May 2010

May 2010

M

M

M

Revenue, Expenditure, Balance and Composition of3
4
Financing – General Government

2008

Feb 2010

A

A

A

Revenue, Expenditure, Balance and Composition of3
Financing – Central Government

2008

Feb 2010

A

A

A

Stocks of Central Government and Central Government5
Guaranteed Debt

Mar 2010

May 2010

Q

Q

Q

External Current Account BalanceApr 2010

June 2010

M

M

M

Exports and Imports of Goods and Services

Apr 2010

June 2010

M

M

GDP/GNP2010 Q1

May 2010

Q

Gross External Debt

Mar 2010

June 2010

Q

Central Bank Balance Sheet
Consolidated Balance Sheet of the Banking System
Interest Rates

2

Consumer Price Index

1

LO, LO, LO, LO

O, O, O, O, O

O, LO, O, O

O, O, LO, O, O

O, LNO, O, O

LO, O, O, O, LO

M

O, O, LO, O

LO, O, O, O, O

Q

Q

O, O, O, O,

LO, LO, O, O,
LNO

Q

Q

Includes reserve assets pledged or otherwise encumbered as well as net derivative positions.
2
Both market-based and officially-determined, including discount rates, money market rates, rates on treasury bills, notes and bonds.
3
Foreign, domestic bank, and domestic nonbank financing.
4
The general government consists of the central government (budgetary funds, extra budgetary funds, and social security funds) and state and local governments.
5
Including currency and maturity composition.
6
Daily (D); weekly (W); monthly (M); quarterly (Q); annually (A); irregular (I); and not available (NA).
7
Reflects the assessment provided in the data ROSC or the Substantive Update (published on May 17, 2006, and based on the findings of the mission that took place during
September 2005) for the dataset corresponding to the variable in each row. The assessment indicates whether international standards concerning concepts and definitions, scope,classification/sectorization, and basis for recording are fully observed (O); largely observed (LO); largely not observed (LNO); not observed (NO); and not available (NA).
8
Same as footnote 7, except referring to international standards concerning (respectively) source data and its assessment, statistical techniques, assessment and validation of intermediate
data and statistical outputs, and revision studies.

3

Exchange Rates

Memo Items:
Data Quality –Data Quality –MethodologicalAccuracy and78soundnessreliability

ANNEX II. JAPAN—FUND RELATIONS(As of May 31, 2010)I.
II.

Membership Status: Joined 8/13/52; Article VIII
General Resources Account:
SDR Million
Quota
13,312.80
Fund holdings of currency
10,717.06
Reserve position in Fund
2,596.59

III.

SDR Department:
Net cumulative allocation
Holdings

IV.

Outstanding Purchases and Loans:

None

V.

Latest Financial Arrangements:

None

VI.

Projected Obligations to Fund:

None

VII.

Exchange Rate Arrangement:

SDR Million
12,284.97
13,381.54% Quota
100.0080.50
19.50% Allocation
100.00108.93

Japan maintains a floating exchange rate regime. The exchange system is free of restrictions
on the making of payments and transfers for current international transactions, with the
exceptions of restrictions maintained against the Taliban, Al-Qaeda, the former Iraqi regime,
and others, pursuant to UN Security Council Resolutions 1267, 1333, 1390, 1373, 1483,
and 1532.
VIII.

Article IV Consultation:

The 2009 Article IV consultation discussions were held during May 12–20, 2009; theExecutive Board discussed the Staff Report (IMF Country Report No. 09/210 and concluded
the consultation on July 17, 2009. The concluding statement, staff report, staff supplement,
selected issues paper, and PIN were all published.

Public Information Notice (PIN) No. 10/87
FOR IMMEDIATE RELEASE
July 14, 2010

International Monetary Fund
700 19th Street, NW
Washington, D. C. 20431 USA

IMF Executive Board Concludes 2010 Article IV
Consultation with JapanOn July 2, 2010, the Executive Board of the International Monetary Fund (IMF)
concluded the Article IV consultation with Japan.1
Background
Japan’s economy continues to improve led by robust exports and policy stimulus.
Following a deep recession in 2009, growth accelerated to 5 percent (seasonallyadjusted annual rate) in the first quarter of 2010 amid signs of exports spilling over todomestic demand. Strong demand from Asia, especially for capital goods, has
supported exports, while subsidies aimed at consumer durables has lifted householdspending. With the sharp fall in demand last year, deflation has re-emerged with core
inflation averaging around -1 percent since late 2009.
The current account surplus shrank further in 2009 to 2.8 percent of GDP, as a result of
lower global interest rates and a stronger yen. The trade surplus remained unchanged
at around 1 percent of GDP, while the income balance deteriorated in line with lower
global interest rates.
Financial markets have been hit hard by the renewed global turmoil. After showing signsof recovering through March 2010, equity prices have fallen and the yen again
appreciated on higher risk aversion. Since the Lehman shock, the yen has appreciatedby 16 percent in real effective terms, while ten-year Japanese government bond (JGB)
yields have been stable at around 1.2–1.4 percent.
1

Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions withmembers, usually every year. A staff team visits the country, collects economic and financial
information, and discusses with officials the country's economic developments and policies. On returnto headquarters, the staff prepares a report, which forms the basis for discussion by the Executive
Board. At the conclusion of the discussion, the Managing Director, as Chairman of the Board,summarizes the views of Executive Directors, and this summary is transmitted to the country's
authorities. An explanation of any qualifiers used in summings up can be found here:
http://www.imf.org/external/np/sec/misc/qualifiers.htm.

2
Looking forward, the recovery is expected to continue but its pace will likely moderate.
GDP growth is projected to rise to 2.4 percent in 2010 with the pace of the recovery
likely to slow in the second half of the year as stimulus measures expire and export
growth levels off. Growth of 1.8 percent is expected in 2011. With a narrowing of theoutput gap, headline inflation is projected to turn positive in late 2011. Considerable
uncertainty surrounds the outlook from the global market turmoil, a possible slowdown in
the advanced economies and China, and a potential worsening of deflation.
With global scrutiny of public finances on the rise, the need for early and credible fiscal
adjustment has increased. The severe recession and the fiscal response have pushed
the overall fiscal deficit to 10¼ percent of GDP in 2009 and the net public debt ratio to
110 percent of GDP, one of the highest among advanced economies.
To combat the recession and re-emergence of deflation, the Bank of Japan (BoJ)
adopted a number of additional measures over the past year. These include introducing
a 3-month funds supplying operation to lower short-term interest rates, re-activating its
U.S. dollar swap line to ease emerging funding pressures, and introducing a new loan
facility to support private bank lending to innovative firms.
Executive Board Assessment
Japan’s economy is gaining strength, helped by strong external demand and timely andsizeable policy support. With domestic demand gradually improving and deflation
easing, the recovery is expected to continue—albeit at a more moderate pace. The
recent turmoil in Europe, however, has heightened risks to the outlook and Japan’svulnerability to sovereign risk.
Against this backdrop, Directors underscored the urgency of credible fiscal adjustment.
The key challenge is to bring down public debt to more sustainable levels—throughdecisive and sustained fiscal action—while ensuring adequate support for the still
nascent recovery and a more balanced economy. Directors welcomed the Fiscal
Management Strategy recently announced, laying out a medium-term consolidation
path, and looked forward to agreement on specific measures. They generally agreed
that adjustment efforts should focus on a gradual increase in the consumption tax,
supported by comprehensive tax reform, limits on non-social security spending growth,and reforms to entitlement programs. The pace, timing, and composition of
consolidation measures would need to be carefully planned, with special attention totheir impact on consumption, investment, and growth. Directors commended thegovernment for its plan to adopt a “pay-as-you-go” expenditure rule. Introducing a cap
on public debt would help strengthen the credibility of the fiscal consolidation plans.
Directors considered the accommodative monetary policy stance appropriate, andwelcomed various measures by the BoJ to combat deflation and support growth. They
encouraged the authorities to stand ready to take additional easing measures, if
deemed necessary in response to weakening recovery or renewed deflationarypressures. In this regard, consideration could be given to extending the maturity of thefunds supplying operations and broadening the range of asset purchases, while being
attentive to moral hazard risks. Directors stressed that, given growing uncertainty, clear

3
communication would be crucial, with a few recommending that the BoJ more explicitly
link its intention to maintain policy accommodation to its inflation forecast, provided that
financial imbalances remain absent.
Directors welcomed the authorities’ continued commitment to a market-determinedexchange rate, which would help facilitate a rebalancing of growth away from exports.
They noted the staff’s assessment that, following the sharp appreciation since theoutbreak of the crisis, the yen’s current level is broadly in line with its longer-term
equilibrium value. Nevertheless, carry trade activities and their impact on the exchange
rate would need to be monitored closely.
Directors noted that, while the profitability and capital base of the banking sector have
improved, banks still face risks from a slow recovery and their sizeable securities
holdings, as well as challenges in adapting to new global financial standards. It would
therefore be important for supervisors to ensure that banks follow proper risk
management; take appropriate steps to facilitate borrower restructuring; and standready, when necessary, to assist banks in strengthening their financial positions.
Directors emphasized that the unprecedented size of required fiscal consolidation,
including to address the challenges of population aging, brings to the fore the need forstructural reforms to promote domestic demand-led growth. The formulation of the “NewGrowth Strategy” is a welcome step, entailing the development of potentially dynamic
areas, such as energy, environment, health, and technology. This could becomplemented by supply-side measures aimed at increasing employment, raisingproductivity in nontradable sectors, deregulating services, and encouraging more riskbased lending by private financial institutions.
Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's
views and analysis of economic developments and policies. With the consent of the country(or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations
with member countries, of its surveillance of developments at the regional level, of post-program
monitoring, and of ex post assessments of member countries with longer-term program engagements.
PINs are also issued after Executive Board discussions of general policy matters, unless otherwise
decided by the Executive Board in a particular case. The staff report (use the free Adobe Acrobat
Reader to view this pdf file) for the 2010 Article IV Consultation with Japan is also available.

4Japan: Selected Economic Indicators

2006

2007

2008

2009

Proj.
2010

Real GDP

2.0

2.4

-1.2

-5.2

2.4

Private consumption
Nonresidential investment
Residential investment
Public investment
Government consumption
Stockbuilding (contribution to growth)
Net exports (contribution to growth)
Exports of goods and services
Imports of goods and services

1.5
2.3
0.5
-5.7
0.4
0.2
0.8
9.7
4.2

1.6
2.6
-9.6
-7.4
1.5
0.3
1.1
8.4
1.6

-0.7
0.1
-8.1
-8.5
0.3
-0.4
0.1
1.6
1.0

-1.0
-19.3
-14.2
7.4
1.5
-0.4
-1.3
-23.9
-16.7

1.5
1.2
-7.4
-5.4
1.2
0.1
1.8
19.5
7.5

Inflation (period average)
GDP deflator
CPI (SA)CPI (NSA)

-0.9
0.3
0.2

-0.7
0.1
0.1

-0.8
1.4
1.4

-0.9
-1.4
-1.4

-2.1
-1.2
-1.2

Unemployment rate (period average)

4.1

3.9

4.0

5.1

4.9

170.4
3.9

211.0
4.8

157.1
3.2

141.8
2.8

162.9
3.1

-4.0
-3.4
-3.2

-2.4
-1.8
-1.9

-4.1
-3.2
-2.7

-10.3
-9.1
-6.2

-9.8
-8.3
-6.2

-20.0
0.7
2.8

0.4
2.1
0.8

1.8
1.8
4.6

5.2
3.1
-0.9

3.7
3.1
-1.9

1/

116.3
146.0
64.1
0.2

117.8
161.4
59.3
0.5

103.4
152.1
65.6
0.5

93.6
130.3
71.3
0.3

88.3
108.9
72.0
0.3

3/

Current account balanceBillions of U.S. dollars
Percent of GDP
General government balances (percent of GDP)
Overall balancePrimary Balance
Structural primary balance
Money and credit (12-month growth rate, endperiod)
Base money
M2 (period average)
Bank lending

2/

Exchange and interest rates (period average)
Yen/dollar rate
Yen/euro rate
Real effective exchange rate
3-month CD rate

Sources: Global Insight, Nomura database, and IMF staff estimates and projections.
1/ May 2010.
2/ Data reflect the inclusion of foreign banks, foreign trust banks and Shinkin banks in the monetary survey.
3/ July 1, 2010.

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