People all over the world are now watching how Japanese politics will change after the upcoming July 12 House of Councilors election. Plainly speaking, the focus of the rest of the world is what measures Japan will take to bolster the sagging economy.

Right after the official announcement of the election, the ruling Liberal Democratic Party (LDP) put forward a "Bridge Bank Plan" in order to cope with bad loan issues.

However, it is still unclear whether this plan will be a practical program to address the problem of bad loans. In addition, before Prime Minister Hashimoto's visit to the US, the top-level members of the ruling LDP repeatedly hinted that they might introduce permanent tax cuts to stimulate the economy.

A characteristic of this election campaign is that each party offered tax cuts as a way to revitalize the country's economy. Their intention was almost obvious to acquire as much support as possible by offering drastic tax cuts that would appeal to voters.

However, it is still uncertain whether such policies would work effectively to revitalize Japan's economy. Moreover, policymakers should face financial issues, such as creating a new source of revenue to make up for possible decrease of revenue from tax cuts.

Considering practical aspects, the Ministry of Finance is greatly alarmed at each party's tax cut campaign pledge. On July 6th, the Ministry of Finance published the fiscal 1997 outline of the general account settlement.

According to this, tax revenue shortage of about /1,562 billion was revealed. Consumption tax is a favorable taxation system for the finance authorities because it works as constant revenue resources by taxing a wide range of people. This is why the Ministry of Finance strongly supports the consumption tax system.

Nevertheless, the consumption tax increase of April last year, from 3% to 5%, was implemented in such an untimely manner that it had a negative effect on consumers' psychology.

Even if permanent income and corporate tax reduction is introduced, spare money from such reduction is very likely to be saved rather than to be spent.

Meanwhile, increasing number of political parties and economists assert the necessity of consumption tax reduction, which means real tax cuts. Now, it is obvious that sluggish personal spending, which occupies 60% of the GDP, is the main factor of Japan's recession. Therefore, their scenario of consumption tax reduction is that it will bolster the power for purchasing houses and consumer durables, and then it will lead to expansion of consumption.

In both cases, the permanent tax cuts or the consumption tax reduction,discussions regarding revenue resources should not be left without clear-cut resolution. Otherwise, we need to choose again whether reduction of expenditure or tax increase would be implemented shortly.

Using a choice of tax cuts and financial resources procurement as key factors to analysis, we would like to examine how the ruling party and opposition parties will react and shape up their policies after the upper house election. Followings are some possible scenarios.

Case 1: the LDP wins 69 seats and regains a majority in the upper house

In this case, the Hashimoto administration will retain its control. Economic policies will remain to be decided through discussions among the Ministry of Finance and in-party committees of the LDP. This process is bottom-up policy-making. The "Bridge Bank Plan" will be led and promoted by ex-Prime Minister Kiichi Miyazawa and members of the Diet who come from the Ministry of Finance.

Permanent tax cuts will be difficult to implement in a large-scale,since the Ministry of Finance, suffering shortage of revenue, will resist such reduction. Naturally, consumption tax reduction to stimulate the economy will become almost impossible. Policy making in regard with financial resources will be no better than just an argument.

For instance, a proposal to reduce public work expenditure and allocate it to secure revenue will not be approved. Instead, the shortage will be covered by increased issuance of deficit covering bonds. The situationof the full-scale budget drafting of FY 1999 which will start next month could be extremely difficult.

Case 2: the LDP fails to retain a majority in the upper house, while Minshuto (Democratic Party of Japan) and the Japanese Communist Party successfully capture additional seats

Although the Hashimoto administration will still be in power, some changes will take place from within the LDP. The circumstances will be favorable for spirited opposition parties who desire to propose a drastic reform instead of the ruling party.

Furthermore, consumption tax cut (tax rate reduction) might gain momentum in each opposition party. Before the election, only the Japanese Communist Party argued consumption tax rate reduction, but the Liberal Party (Headed by Ichiro Ozawa) has decided to commit itself toreduce the rate to 3%. The Social Democratic Party has also started toadvocate returning previously increased consumption taxes to consumers, but this is restricted only to taxes on food.

If these opposition parties work in cooperation, and furthermore, if some members of Minshuto sympathize with this, consumption tax reduction could be more realistic as a policy. The focus of possible revenue resources in the case of tax reduction will be how to reduce public work expenditures.

Case 3: both the LDP and Minshuto fail to increase their seats ; Komei Party comes to the fore as a coalition partner of the LDP

Power struggles will occur in both the LDP and Minshuto. With regard to Minshuto, conflicts will arise among Minshuto supporting labor unions, within Rengo (Japanese Trade Union Confederation), and furthermore, between Japanese Confederation of Labor (supporter of ex-Minshato) and General Council of Trade Unions of Japan (supporter of ex-Japan Socialist Party). Conflicts of policy lines of these unions will be intensified.

In the House of Representatives, the group led by Kunio Hatoyama and some other groups will actively seek to build close connection with Komei. In order to retain a majority, the LDP will target Komei for a liaison partner.In this case, Komei will become the key party to policy making of thecoalition government. Consumption tax reduction will unlikely be discussed since Komei does not advocate it for the time being.

Examining all these cases, it seems that the Japanese Communist Party argues the most logical policy plan. Its argument is persuasive, with consumption tax reduction and 10% public work budget cut (approx. \5 trillion) combined, to create financial resources to make up for the tax revenue decrease. However, the Japanese Communist Party has no experience in taking office; therefore, its policy for financial and exchange markets seems to have some flaws.

There is no factor in the ruling LDP to approve ideas suggested by opposition parties such as the Japanese Communist Party. The budget drafting beginning next month will surely be the toughest ever.