Japan is redefining the framework that anchors its public finances. Following the belated approval of the 2026 financial year budget, attention will turn to the Sanae Takaichi administration’s shift from a single-year primary balance target towards a medium-term approach centred on stabilising the debt-to-gross domestic product ratio.
The shift aligns Japan’s fiscal framework more closely with modern macroeconomic thinking, but also raises questions about credibility and discipline that will hinge on how effectively institutions implement it.
Redefining the fiscal anchor
Fiscal strategy is shaped and coordinated through the Council on Economic and Fiscal Policy, which plays a central role in defining the ‘Basic Policy on Economic and Fiscal Management and Reform’ that frames the budget process. The critical question is whether the CEFP can anchor this shift in a transparent and operational medium-term framework that markets and policy-makers can monitor.
For decades, Japan’s policy-makers have aimed to reduce the primary deficit or achieve a primary surplus. This target, embedded in successive annual ‘Basic Policy’ documents, provided a clear benchmark for medium-term discipline, even if it was unmet and postponed repeatedly.
The Takaichi administration aims to redefine its fiscal anchor. Rather than targeting a single-year primary surplus, the government is shifting towards a gradual reduction in the debt-to-GDP ratio through a medium-term path for the primary balance. This reflects a recognition that fiscal sustainability depends not on a single year’s fiscal outturn, but on the interaction between growth, interest rates and fiscal policy over time.
In practice, this will require moving towards a more systematic assessment of fiscal risks. Rather than relying on a small set of official projections, policy-makers will need to show how debt dynamics respond to changes in growth, interest rates and policy assumptions – effectively embedding a more transparent debt sustainability analysis into the fiscal framework.
More difficult global environment
The path towards fiscal sustainability, however, is becoming more uncertain. As Olivier Blanchard recently emphasised in discussions with the CEFP, debt sustainability depends on the relationship between growth and interest rates – a relationship that is becoming harder to predict in a changing global environment. At the same time, Kenneth Rogoff warned that the global economy may be entering an era of higher interest rates, in which fiscal credibility will be tested more quickly.
As a result, the case for moving beyond a single-year primary surplus target is strong.
First, it reduces procyclicality. A fixed-year target can force fiscal tightening at precisely the wrong time – when growth is weak or when adverse shocks hit. A multi-year approach allows policy-makers to adjust the pace of consolidation in response to economic conditions, avoiding stop-go dynamics that undermine both growth and credibility.
Second, it aligns fiscal policy with Japan’s evolving growth strategy. The government is placing increasing emphasis on ‘crisis-management’ and ‘growth’ investments – ranging from energy security and supply-chain resilience to artificial intelligence and advanced manufacturing. This includes the green and energy transition, where investment needs are large, long-term and subject to significant uncertainty. These investments are inherently multi-year in nature and require a fiscal framework that can accommodate sustained spending without triggering abrupt policy reversals.
Third, it improves policy coherence. Across advanced economies, fiscal frameworks are shifting towards medium-term approaches. The European Union, for example, has introduced national medium-term fiscal structural plans, while the UK Treasury targets debt falling over a rolling horizon and Canada targets a declining debt-to-GDP ratio – placing greater weight on debt trajectories than on single-year balance targets.
Yet greater policy flexibility comes at a cost.
Greater complexity and dependence on assumptions
The primary surplus target, for all its limitations, had a critical virtue of simplicity. Markets, the public and policy-makers could easily assess progress. A debt-stabilisation objective, by contrast, is more complex and more dependent on assumptions about growth, interest rates and inflation. It also unfolds over a longer time horizon, making it easier to defer difficult decisions.
The risk is that markets – which have long tolerated Japan’s high public debt – begin to question whether fiscal policy remains anchored. In an environment of higher interest rates and economic uncertainty, small losses of policy credibility can lead to higher borrowing costs and worsening debt dynamics.
The key challenge for Sanaenomics is to strike the right balance. Too rigid a framework risks undermining growth and investment. Too flexible a framework risks eroding discipline and credibility.
Japan’s shift towards a debt-stabilisation objective is economically sound, but credibility will depend on implementation. A transparent medium-term framework – grounded in realistic assumptions, explicit risk analysis and clear institutional accountability – will be essential. As the next ‘Basic Policy’ takes shape, the test for policy-makers is not the choice of target, but whether they can deliver a credible and monitorable fiscal path.
Matthew Poggi is a Visiting Senior Fellow at the London School for Economics’ Centre for Economic Transition Expertise and affiliated with the Council on Economic Policies. He is a former economist at the Bank of Japan and served as the US Treasury Attaché in Tokyo.
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