Tax and Public Pension Reform Compatible with Economic Growth: Simulation analysis using macro-econometric model

We propose a comprehensive public pension reform compatible with economic growth; the proposal combines partial privatization with full-tax financing of the basic pension scheme. Corporate tax reduction is included in view of invigorating firm activities. In order to keep government finance balanced, the consumption tax rate is raised by 1% every year over the medium term.

Reforms which emphasize tax burden increases may not only suppress the private initiatives, but also make fiscal consolidation more difficult. Our proposal aims at improving the supply side of the economy which facilitates growth-friendly public pension reform.

We examine its expected effects using our macro-econometric model. The simulation outcome of drastic reforms reveals that the real gross domestic product (GDP) would increase by nearly 4% from the baseline if the public pension is completely privatized; it encourages firms to boost investment, employment, and wages. Moreover, it enables Japan to extract from deflation. However, the government debt is expanded due to the need to avoid the double burden of the current working generation.

In addition, it might be possible to achieve both fiscal consolidation and economic growth acceleration by adopting only full-tax financing of the basic pension scheme—real GDP would increase while government debt is reduced.

The premium on the public pension is virtually identical to the wage tax, and its burden is destined to accumulate. We propose an urgent reform to reduce intergenerational inequality, thus enhancing the hopes of the younger generations.