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Prices surge in Japan due to rise in consumption tax

The consumption tax rate in Japanincreased from 5% to 8% on April 1. In response, sellershave adjusted the prices on their goods and services to reflect the increase.With the implementation of the tax rise, the spending spree (搶購熱潮) that took place before the rise has disappeared.

This rise in consumption tax in Japan is the first in the past 17 years. The aim is to improve the government’s fiscal situation. However, as the tax rise increases the prices of most goods and services, the government led by Prime Minister ShinzōAbe (安倍晉三) and firms are worried that the recovering economy may slip into recession again.

According to Dai-ichi Life Research Institute(日本第一生命經濟研究所), the tax rise means that a household with an annual income of 5 to 5.5 million yen will pay about 71,000 yen more in consumption tax per year, while a household with an annual income of 7 to 7.5 million will pay about 95,000 yen more. Although government revenue is expected to increase by 5 trillion in 2014, it is not likelythatgovernment revenue can covergovernment expenditure by 2020, which is a goal set by Abe’s government.

The last increase in consumption tax was in April of 1997. Since then, Japan’s economy entered a depression because of the impact of the Asian Financial Crisis. Hence, there was a long period of deflation in Japan.

2 April, 2014

Questions

1.Is the consumption tax a direct tax or an indirect tax? Explain.

2.‘Those who rushed to buy before the tax rise are irrational. Their behaviour is not consistent with the law of demand.’ Do you agree with this comment? Explain.

3.Whatdoyou predict about the change in income distribution after the rise in the consumption tax? Make your prediction based on the figures estimated by Dai-ichi Life Research Institute. (Hint: you may compare the proportion of the increase in consumption tax to the annual income of a household with a 5 million yen annual income and a household with a 7 million yen annualincome.)

4.Suppose Japan’s economy now faces the problem of unemployment.

a.As stated in the article, Japan has suffered from a long period of deflation.

i.With the aid of Fig.1, explain how the rise in consumption tax can raise the price level in the short run. What is the cost in the short run?

ii.Can the problem of deflation be solved in the long run? Explain.

b.As Tokyo will host the 2020 Olympic Games,the Japanese Government will increase its expenditure. With the aid of Fig.2, explain the effects on the price level and output level in theshort run and long run.

Related concepts

1.Factors affecting demand (Chapter 4, Book 1, NSS Exploring Economics)

2.Classifications of taxation (Chapter 6, Book 5, NSS Exploring Economics)

3.Fiscal policy and its effects (Chapter 6, Book 5, NSS Exploring Economics)

Economic News Worksheet