Japanese consumers rushed to local retailers on March 31 to purchase large numbers of goods. Even online retailers, such as “Aksul”, had their systems overloaded by the high volumes of transactions of basic goods such as toilet paper and instant rice. Why were the Japanese people in such a hurry to purchase these products? This is due to the sales tax hike from 5 to 8 percent, which was implemented the day after, April 1.

Government leaders believe that the sales tax increases will contribute to long-run inflation and give more power to the Japanese yen. However, the increase alone is causing more problems in the short-run than anticipated. Aksul, which is Japanese for “arrives tomorrow”, could not handle the magnitude of customer orders causing the arrival of stationary to take up to a week, much longer than the typical overnight delivery. Many retailers are concerned that with the increased sales tax, customers will think twice about buying and consequently spend less through the stores.

To accommodate shoppers before policies were implemented, some department stores stayed open later to allow customers to stock up on last minute goods. There were even long lines waiting to fill up cars at gas stations before midnight to avoid paying extra yen on the subsequent day. Coupons were also given out and stores were told to increase their stocks of inexpensive products, which will likely increase in popularity as consumers adjust their spending habits to the new taxes. These trends point to probable cut backs in consumer spending, and this has negative implications for the Japanese economy. Should consumers cut back spending for an extended period past April, a setback in what is already an unstable economy could occur.

An almost identical situation took place in Japan in 1997. The previous sales tax of 3% was increased to 5% under the rule of the then Prime Minister of Japan, Ryutaro Hashimoto. Between the announcement of the new tax and its actual implementation, the Topix index of equities decreased 20% into a bear market, due to the negative perception of the tax increase. Most people blame the sales tax increase of 1997 for decreasing overall consumption in Japan and helping to push the country into a recession. Deflation began to occur as prices dropped and the wages/profits of Japanese workers also decreased as a result.

Economists predict that investors will be much less inclined to invest in Japan than they were before the tax hike. This is bad news for Japan as trade in 2014 has already shrunk, positions remain large, and yen has halved in future markets. Conditions prior to the tax increase are quite similar to those in 1996. In the quarter before the past tax hike, GDP growth was 3%, and in the same quarter in 2013, a 3.8% GDP growth rate was observed. Forecasts for the Japanese economy are not looking ideal for the coming year. According to Consensus Economics, the average forecast for real growth is less than 1.4% this year, which is down almost 1.7% from January.

The ultimate decision to increase the sales tax was made by current Prime Minister Shinzo Abe. He has been focused upon encouraging spending, but this alone has been difficult after years of deflation in the country. Both Abe and the governor of the Bank of Japan, Haruhiko Kuroda support higher taxes and believe that they are crucial in helping to meet the growing costs of taking care of a population which is both shrinking and aging. Should a slowdown in consumption occur, Abe will plan to increase public works spending to help combat it. But will this be enough to save the Japanese economy? A more incremental increase in the tax rate, as previously suggested by Toshihiro Nagahama, the chief economist at Dai-ichi Life Research Institute would have allowed consumers to gradually adjust to new levels of spending with less strain. Despite speculation, the sales tax is only likely to see higher increases with a further hike to 10% in 2015 possible.

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