Guidelines for Formulation of the FY 2002 Budget



Cabinet Decision of December 4, 2001


I. Promoting Structural Reform for the Rebirth of the Japanese Economy

1. Japan's Current Economic and Fiscal Conditions

(Current Economic Conditions)

Following the deceleration of the U.S. economic expansion and the terrorist attacks of September 11, the world economy has entered a phase of general slowdown. In this environment, the Japanese economy is experiencing a sharp fall in exports and output. Corporate profits and business investment are also declining. Furthermore, labor market conditions are becoming increasingly severe, while personal consumption is showing signs of weakness. Consequently, overall economic conditions are continuing to deteriorate.

(Japanese Economy in FY 2001 and 2002)

In light of the current economic situation and the concerns over the deteriorating outlook caused by global economic slowdown, the Japanese economy is expected to register a negative growth rate in FY 2001.

For FY 2002, while the difficult economic conditions may persist, the economy is expected to begin to move toward recovery. This outlook is supported by such factors as the speedy and vigorous implementation of structural reform initiatives, the impact of anti-deflationary policies implemented by the government and Bank of Japan, including the enactment of a second supplementary budget for FY 2001, and the expected improvement in U.S. economic conditions.

Growth projection will be indicated in the government's "Economic Outlook and Basic Policy Stance on Economic Management" to be released at the end of this year.

(Fiscal Conditions)

Since the collapse of the bubble economy, Japan's fiscal policies have primarily focused on achieving economic recovery. Consequently, as of the end of FY 2001, the sum of long-term liabilities of the central and local governments are expected to reach \666 trillion, a crisis situation which places Japan below all other advanced countries.

Japan can no longer expect strong growth in tax revenues generated by high economic growth. On the other hand, the rapid aging of society is raising government expenditures, while accumulation of government bonds outstanding is pushing up debt-servicing expenses. As a result, the government's revenue and expenditure structure is becoming increasingly rigid. Unless bold measures are taken to revise the current fiscal structure, it is highly likely that the very large gap between tax revenues and expenditures will continue to grow in the years ahead.

Growing concerns over fiscal sustainability cannot be neglected and steady measures must be taken to promote fiscal structural reform.

2. Toward Revitalizing the Japanese Economy: Promoting Structural Reform

Notwithstanding the aforementioned very severe economic conditions, in order to revitalize the economy, there is no choice but to proceed with structural reform. Japan must fundamentally reform its social and economic structures, and must put in place various new systems and arrangements to fulfill its potentialities. Such measures must include the prompt disposal of non-performing loans and elimination of excess corporate debts, regulatory reform and the reform of public corporations so as to create the environment conducive to the development of private sector vitality, and the realization of fiscal responsiveness through fiscal structural reform. This series of structural reforms must be implemented in an integrated and complementary manner.

In this process of structural reform, Japan may have to bear with harsh economic conditions during a concentrated adjustment period extending for approximately two years. However, accelerating the process of structural reform for economic revitalization will eventually bear fruits: the current weaknesses in the economy will be overcome, and Japan will again be able to enjoy private-demand-led economic growth. The "pain" engendered by these reforms by promoting structural reforms shall be minimized to facilitate job creation.

"The structural Reform and the Medium-Term Economic and Fiscal Perspectives (provisional name)" now being formulated will indicate the course of economic structural and fiscal reform to be taken over the next few years, and will also describe the vision for the reenvigorated economy. FY 2002 is the first year of the period covered by the Perspectives and is identified as the starting point in Japan's economic revitalization.

II. Basic Principles for the Formulation of the FY 2002 Budget

(Budget Committed to Reform)

The FY 2002 budget will stand as a "budget committed to reform", which will conduct a fundamental review of expenditure structures and mark a first step toward fiscal structural reform with the goal of "keeping new government bond issuance to below \30 trillion."

Given the current difficult economic conditions, it will by no means be easy to re-orient existing systems and measures and to implement necessary structural reforms. However, there is an urgent need for Japan to open new paths to the future guided by the spirit of "no gains without reform." The FY 2002 budget will be formulated in compliance with the principle of "reducing expenditures by \5 trillion while allocating \2 trillion to priority areas." This signifies a bold shift in budgetary allocations to promote economic structural transformation.

In line with this proposed shift of budgetary resources, a fundamental review of expenditures in general will be undertaken guided by the principle of "assigning all that can be done by the private sector to the private sector, and assigning all that can be done by local governments to local governments." Under this approach, fiscal actions by the central and local governments shall be strictly limited to really needed areas. Based on the awareness that all expenditures are ultimately paid for by taxes, effects of policy actions and administrative efficiency shall be assessed in accordance with a keen cost consciousness, thereby thoroughly eliminating waste in expenditures and reducing whatever expenditures are reducible.

An important requirement in budgetary allocation is to develop stable systems which effectively cope with changes in the socio-economic structures, such as the further advance of the aging of society.

At the same time, it is necessary to respond accurately to new fiscal needs while focusing on the effect of the budget on medium-term improvement in the economy's productivity and the realization of the private sector's potentialities. Likewise, in view of current labor market conditions, emphasis should be put on the budget's job-creating impact.

Furthermore, measures should be taken so that the burden of the forthcoming reforms be shared among the entire population and the undue concentration of "pain" on the socially vulnerable be avoided.

Financial resources provided by the the 2002 FILP (Fiscal Investment and Loan Program) will be cut in accordance with principles of FILP and administrative reforms, and will also be devoted selectively to projects with priority, while meeting real needs taking account of current socio-economic situations.

(Administrative Reform)

Simple and efficient administrative systems shall be established based on the principle of "structural reform without any sanctuaries." For this purpose, administrative functions must be reviewed in light of current socio-economic needs, and administrative reform must be promoted through such measures as streamlining the organizations, improving their efficiency and reforming public corporations.

Regarding the number of central government officials, this workforce shall be steadily streamlined to achieve a 25 per cent net reduction over the next ten years. Meanwhile, to ensure effective responses to changes in demand for administrative services, it will be necessary to take more active steps towards promoting the reallocation of human resources among government ministries and agencies. For this purpose, during FY 2002, additional human resources will be assigned to government-wide priority areas. However, strict measures shall be implemented to restrict any increase in the workforce and to reduce the number of mandated posts in all other areas. The aim of these measures shall be to realize clearly prioritized reallocation of posts and to achieve a net reduction in the overall number of civil servants employed by the national government.

The administrative functions and organizational structures of all the public corporations shall undergo fundamental reviews, culminating in the Reorganization and Rationalization Plan for the Public Corporations to be completed before the end of this year. Fiscal expenditures pertaining to public corporations shall also be reviewed. Based on these results, bold action shall be taken to reduce general account and special account disbursements to the public corporations by a total of \1 trillion.

(Tax Reform)

In order to promote social and economic structural reforms conducive to fulfill potentialities of the Japanese economy, appropriate modifications shall be made in the tax system, "keeping new government bond issuance to below \30 trillion," the FY 2002 budgetary goal. These initiatives shall be taken to deal with the ongoing changes in socio-economic conditions, while respecting the basic principles of the tax system, i.e. fairness, neutrality and simplicity.

In accordance with this basic approach, special taxation measures shall be extensively reviewed leaving no sanctuaries untouched, and shall be drastically restructured, rationalized and in certain instances abolished.

In addition, every possible measures shall be taken to increase non-tax revenues.

Furthermore, consolidated tax systems shall be considered with the goal of introducing such systems, together with measures to ensure the availability of necessary fiscal resources during FY 2002. The objective of this initiative is to establish a tax system which suits the needs of Japan's corporate tax system for the 21st century and compares favorably with similar systems in other countries.

III. Review of Government Expenditures and Promotion of Structural Reform

As a "budget committed to reform," the FY 2002 budget shall feature a rigorous review of all expenditures and bold measures for qualitative improvement. In accordance with "the Structural Reform of the Japanese Economy: Basic Policies for Macroeconomic Management" (Cabinet decision of June 26, 2001 (hereinafter referred to as "Basic Policies for Macroeconomic Management")), priorities shall be assigned to specific areas in the following seven, which are expected to have conspicuous policy impacts. Moreover, social infrastructure development, social security systems and local public finance shall also be reviewed extensively.

1. Dealing with Environmental Problems through Building a Recycling Society

Harmony with the natural environment stands as an important requirement in the achievement of sustainable economic growth. Research and development shall be promoted to commercialize environment technologies, such as waste disposal and recycling, thereby reducing the adverse impact of economic activities and creating and expanding an environmental sector based on the recognization that "environmental businesses" could constitute a new growth area. Actions shall be taken to aim at creating a "zero waste society" by controlling the generation of waste, promoting recycling and preventing illegal dumping of waste. Moreover, in view of ratification the Kyoto Protocol, a post global warming society shall be promoted through advancing nationwide movement backed by all citizens and nurturing healthy forests.

For the achievement of these objectives, systems shall be created for cooperation among government research institutes, industry, universities and government agencies.

Furthermore, measures shall be taken to encourage the public's participation in responding to environmental problems, including the promotion of symbiotic relations with nature.

2. Responding to Declining Birth Rates and the Aging of Society

Given a continued decline in birth rates and a progress in aging of society, it is necessary to develop sustainable social security systems and to improve the efficiency of supply of nursing care and nursery school services through utilizing PFI (Private Finance Initiatives).

To develop more supportive environment for giving birth and raising children who will shoulder the future of our society, working mothers, shall be supported by the implementation of strategies for achieving zero-waiting lists for nursery schools and the improvement of admission procedures for after school-hour nursery care, etc.

Moreover, barrier-free public spaces, including public facilities and public transportation, shall be promoted in order to create a society in which the elderly can actively participate in various activities while maintaining their dignity.

3. Town Development and Unique Approaches to the Revitalization of Local Communities

With the purpose of realizing the original policy intentions of the "balanced development of the national land," policy measures shall focus on "developing unique local communities" and "revitalizing through competition of ideas and innovation."

In order to promote the revitalization and autonomous development of unique local communities, various projects shall be implemented under the Municipal Merger Assistance Plan, thereby encouraging prompt reorganization of municipalities.

Greater supports shall be granted to non-profit organizations engaged in social projects in local communities. The structural reform of agriculture, forestry and fishery industries shall be facilitated by focusing support on highly motivated and capable entities. Efforts shall also be made to develop unique towns by promoting symbiotic relations and exchanges between urban and rural areas, and by revitalizing city centers.

Moreover, measures shall be taken to ensure the safety and security of residents and to promote the development of communities in which people can live with peace of mind.

4. Revitalization of Urban Areas

The revitalization of urban areas is a critical issue given that a large part of all economic activities take place in cities. To enhance their attractiveness and international competitiveness, measures shall be taken to revitalize and create attractive cities through implementing urban renewal projects and encouraging private sector investments in urban development projects.

With this objective in mind, bold regulatory reform shall be implemented to facilitate private sector initiative in redevelopment projects. An example is to further enhance urban functions by integrating the construction of loop roads constituting a core framework for metropolitan areas with redevelopment projects in peripheral areas.

Given a keen interest of urban dwellers in upgrading urban amenities, the quality of urban living shall be raised through such measures as the elimination of traffic congestion and the active use of PFI in the development of public facilities, while giving due consideration to the priorities of such measures.

5. Promotion of Science and Technology

Japan shall strive to establish itself as a science and technology-based nation. For this purpose, priority shall be given to research and development activities in the following four fields. They are essential requirements for the 21st century and the development of world-class basic research, and will provide a foundation for industrial competitiveness and the improvement of the quality of life: [1] life sciences, [2] information technologies (IT), [3] the environment, and [4] nano-technologies and materials.

With "science and technology" as a key axis, the following initiatives shall be pursued to support local economies and promote new businesses and start-up companies with international competitiveness. Support shall be given to the research and development activities of private companies; cooperative relations between industry, universities and the government shall be encouraged by developing environment conducive to transfer of technologies from government agencies and universities to private companies; and measures shall be taken to promote local and regional science and technology.

6. Human Resources Training and Education

Priority shall be placed on developing world-class universities from among Japan's national, public and private universities through selective investment in education combined with the introduction of competitive principles based on third-party evaluation systems. Educational reform shall be implemented in the areas of primary and secondary education for nurturing human resources characterized by academic achievement and human warmth. Such initiatives shall be based on the "Education Reform Plan for the 21st Century", the framework for structural reform in education. In addition, society with human warmth and vitality shall be established though investment in the talented in such areas as culture and art.

Current institutional subsidization systems shall be reviewed. At the same time, scholarship programs shall be redesigned with a focus on support for highly motivated and capable individuals. Various measures shall be implemented to support individual initiatives and self-helping efforts of students, including adult students, in order to provide a wider range of educational opportunities.

7. Transforming Japan into a Globally Advanced IT Nation

For the achievement of the goal of "becoming a globally advanced IT nation within five years," the following actions shall be implemented in a prioritized and strategic manner. That is, as advocated in the "e-Japan Priority Policy Program" (March 29, 2001) and the "e-Japan 2002 Program" (June 26, 2001), the world's most advanced high-speed information and communication networks shall be created, and measures pertaining to five key areas, including the promotion of electronic government and electronic local administration, shall also be prioritized. Furthermore, the "e! Project" shall be promoted as a showcase to be presented to the Japanese public, as well as to the world, to describe the world-leading IT-based nation that Japan is aiming to achieve by 2005.

In promoting such measures, existing measures shall be subjected to a bold review to eliminate the overlapping of policy actions. In addition, research and development activities shall be promoted and active measures shall be taken in support of inter-sectoral initiatives, including the promotion of international harmonization and contribution.

8. Development of Social Infrastructure

One of the key features of the FY 2002 budget shall be an increase in public investment in priority areas, combined with a radical decline in that in low priority areas. This is expected to achieve a 10 per cent cut in public-investment-related expenditures as compared to the initial FY 2001 budget. This cut will require cost reductions through improving efficiency of public works, utilizing PFI and prioritizing areas with real needs, in order to keep and, if possible, raise the levels of administrative services.

(Review of Earmarked Fiscal Resources)

The earmarking of fiscal resources for road construction and others shall be reviewed.

(Prioritization in Public Investments)

Public investments shall be reallocated to priority areas indicated in "the Basic Policies for Macroeconomic Management". For instance, the following areas will be given priority: development of waste disposal facilities, improvement of urban infrastructure, investment in universities and other national research facilities, investment in nursery and childcare facilities, and investment in nursing homes for the elderly.

On the other hand, public investments in the following areas, including projects in progress, shall be strictly reviewed from the following viewpoints: [1] current level of development, [2] urgency of development, [3] the expected number of users, and [4] division of responsibilities between the central and local governments.

(Improving the Efficiency and Transparency of Public Investment Projects)

Efficiency and transparency in public investment projects shall be enhanced by improving project evaluation systems, promoting the utilization of PFI, encouraging more competition by expanding the use of open and competitive bidding, and reviewing excessive restrictions on bidding.

Regional budgetary allocations shall be determined with due flexibility and in view of current levels of development.

As for the Long-Term Plan for Fisheries Infrastructure, its focus shall be shifted from conventional concepts of "volume of work" to outcome-oriented goals. Moreover, the Plan shall be formulated as a "structural reform program" incorporating methodologies for efficient project implementation, which allows projects in the areas where the feasibility of the achievement of goals has been verified through rigorous process of prior evaluation.

9. Social Security Systems

Social security systems constitute safety net mechanisms providing sense of security to the people in their daily lives. Notwithstanding the continued stagnation of the Japanese economy, a continued decline in birth rates and a progress in aging of society, the future security of the people's lives can be ensured by formulating sustainable social security systems throughout the future. For this purpose, each individual must contribute to supporting the social security systems by sharing the burden and pain.

(Medical System Reform)

As for medical system reform, the efficiency of medical services shall be further improved, and the following systemic reforms shall be undertaken as a first step toward reforming the social security system and in order to preserve the system of universal health insurance coverage.

(Indexation of Pensions)

While taking into consideration current price trends and economic developments in determining the indexation of pension benefits to cost of living in FY 2002, due attention shall be paid to preserving the soundness of the pension system.

10. Local Public Finance

The following actions shall be implemented in concert to establish a new relation between the central and local governments based on the principles of "self-help and autonomy": reducing interventions by the central government, strengthening the administrative and fiscal foundations of local governments, restoring financial health of local governments, and implementing other necessary systemic reforms.

(Review of Expenditures in the Local Fiscal Plan)

Parallel to efforts made toward reviewing national expenditures, expenditures under the Local Fiscal Plan shall be reviewed and, if necessary, measures shall be taken to ensure financial resources. At the same time, expenditures under the Plan shall be reviewed in line with the reduction of interventions by the central government and in view of the level of administrative services expected to be ensured by central and local governments. Furthermore, efforts shall be made to reduce the volume of financial resources provided by the Plan through such measures as the reduction of personnel-related expenses through cutting the number of mandated posts in a systematic manner and public investment on their own funds.

(Review of State Subsidies and Local Transfer Taxes)

State subsidized projects shall be restricted to areas requiring interventions by the central government. State subsidies shall be justified by due verification of the projects' costs and benefits, appropriate efforts toward reducing project scale, and prioritization of subsidy allocations. The basic operative principle shall be the following: "The central government will restrict itself solely to determining the general direction to be taken, while whatever can be done by local governments will be assigned to local governments." From this perspective, efforts shall be made to encourage autonomous and discretionary fiscal management by local governments. The further expansion of integrated subsidies shall be promoted, thereby enhancing the discretionary powers of local governments. In addition, it is necessary to review the current calculation used in local transfer taxes, in particular, beneficial treatments for small local governments and their implementation of public investment, so as to weaken disincentive faced by local governments.