The Bank of Japan should fight deflation through a strong commitment to keep interest rates at their very low current levels and to implement quantitative measures effectively until underlying inflation is firmly positive. Additional fiscal stimulus is not warranted given the expected pick-up in output growth, as well as Japan’s large budget deficit and high public debt ratio. The government should thus finance its planned rise in public expenditure through cuts in other spending programmes. It is essential to develop a credible and detailed medium-term fiscal consolidation programme and to implement it once a recovery is firmly in place. Such a programme should include fundamental tax reform, accompanied by structural reforms, particularly in the service sector, to improve living standards in the face of a shrinking working-age population.
©OECD Observer 2010