Japanese Prime Minister Shinzo Abe announced on Wednesday his widely expected decision to delay a scheduled sales tax increase by two-and-a-half years, putting his plans for fiscal reforms on the back burner due to growing signs of weakness in the economy.
While the decision may help Abe win votes at an upper house election on July 10, it could fan doubts about his plans to curb Japan's huge public debt and fund ballooning social welfare costs of a fast-ageing population.
Mindful of opposition criticism that the delay is a sign his "Abenomics" stimulus policies have failed to spur growth, Abe justified the decision, saying it was needed to forestall risks posed by external factors - notably slowing Chinese growth.
"Abenomics has been steadily producing results, but the global economic environment has changed unexpectedly quickly in the past year. The biggest risk is the slowdown in emerging economies," Abe told a news conference.
"Faced with global risks, we must fully reignite the engine of Abenomics and speed up efforts to escape deflation," he said.
It is the second time Abe has delayed an increase in the sales tax to 10 percent from 8 percent, after a rise from 5 percent in April 2014 tipped the economy back into recession.
"From an economic standpoint, the market is likely to view the delay as a positive surprise for domestic demand," said Lee Jin Yang, macro research analyst for Aberdeen Asset Management in Singapore.
Abe, whose premiership will end when his term as LDP president finishes in September 2018, had repeatedly said he would raise the tax as planned unless the economy faced a shock from a financial crisis or natural disaster.
But he laid the groundwork for a delay at last week's Group of Seven summit, insisting his G7 partners shared a "strong sense of crisis" about the global economy, and he drew parallels to the 2008 world financial crisis that followed the bankruptcy of Lehman Brothers.
Abe said that while the global economy was not on the verge of another financial crisis, Japan must spearhead efforts to boost global demand by loosening fiscal policy.
"We'll deploy a comprehensive, bold economic package this autumn," he said, without indicating the scale of spending envisaged.
Many economists found Abe's comparisons to the Lehman Brothers failure far-fetched, but there is consensus that Japan's economic data has been disappointingly weak.
Manufacturing activity in May contracted by the most in more than three years. Corporate profits fell at the fastest pace in more than four years in January-March, which could hurt capital expenditure plans.
Slow wage growth has also weighed on consumer spending.
"I'm not sure whether it's bad enough to delay the tax hike but we can't be too optimistic about consumption," Sadanobu Takemasu, president and chief operating officer of major convenience store chain Lawson, told Reuters.
BUDGET TARGET STAYS
Abe said he has not abandoned a pledge to bring the primary budget balance into surplus by the fiscal year starting April 2020, and rein in public debt which is already more than double Japan's annual economic output.
But that target had already looked elusive, even based on the government's rosy forecast of real economic growth of 2 percent on average in coming years.
Abe offered few clues on how Japan will make up the funding gap created by the delay in the tax hike to October 2019, saying only that he will keep reflating growth so tax revenues will continue to increase.
"I have very strong concern about fiscal discipline," said Hiroshi Shiraishi, senior economist at BNP Paribas Securities.
"We are stepping onto a potentially dangerous path because once you start this policy it is difficult to stop, and once you do, the economy will tank."
Abe also ruled out calling a snap general election for parliament's powerful lower house as he did in 2014 after announcing the first tax hike delay.
Speculation had simmered that Abe would call a snap poll in a bid to lock in his ruling bloc's two-thirds "super majority" in the lower house.