Japanese economy contracts on account of sales tax increase

Japan's economy suffers its worst contraction since 2011, as a higher tax burden puts consumers off major purchases.
By Ananth Baliga   |   Aug. 13, 2014 at 10:19 AM   |   Comments

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TOKYO, Aug. 13 (UPI) -- Japan's economy contracted by 6.8 percent in the second quarter on account of a new sales tax, wiping out gains made in the first three months of the year.

The Japanese economy contracted the most since the 2011 earthquake and tsunami, and the subsequent Fukushima nuclear reactor scare. Wednesday's numbers contrast sharply to the 6.1 percent growth seen from January to March, when consumer spending boomed as people made purchases before the April 1 sales tax went into effect.

Japan's 6.8 percent contraction was only slightly better than the 7.1 percent contraction estimated by economists surveyed by The Wall Street Journal.

"The probability is high that the July-September quarter will see a rebound," said Takeshi Minami, chief economist at Norinchukin Research Institute. "But the fall in real incomes and weakness in production could weigh on the recovery."

The statistic worrying most economists is the five percent drop in consumer spending in the April-June quarter as compared to the previous quarter. Economists believe the increased sales tax is reducing households' spending power, added on to stagnant income, but also that this pressure would ease in the coming months.

"The pullback in sales following the tax hike was smaller than we expected," said Sharp President Kozo Takahashi this month.

Demand for exports was also weaker despite a 0.4 percent fall in the yen. But exports still contributed 1.1 percentage points to the quarter's growth numbers.

"The only apparent bright spot in today's data was that net trade added to growth for the first time since the launch of Abenomics," wrote Marcel Thieliant, an economist at Capital Economics, in a note.

The new sales tax, which increased from five to eight percent in April, was expected to have a negative impact on economy, but Japanese Prime Minister Shinzo Abe said he expects this to be short-lived. The Bank of Japan said it was still hopeful the economy would register moderate growth this year and has planned no economic stimulus package.

Economics Minister Akira Amari said the government was ready to provide a supplemental budget if the economy continued to contract. But analysts believe a supplemental budget would not have enough impact on the economy given the government's finances.

Abe will have to make the tough decision whether to implement a second sales tax increase to 10 percent slated for October 2015, though that will largely depend on how the economy performs in the next few quarters.

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