By Leika Kihara
TOKYO (Reuters) - Japan's opposition leader and likely next premier, Shinzo Abe, kept up his rhetoric on Tuesday for bolder monetary and fiscal stimulus, warning that the country cannot restore fiscal health unless it beats deflation.
Abe, the leader of the Liberal Democratic Party (LDP) that is tipped to win next month's election, stressed that overcoming deflation was crucial not just to revive growth but also to fix Japan's fiscal health.
Tax revenues would not increase, he said, unless companies and households started spending more in the belief that prices would rise in the future.
Abe also said that if the government were to set a policy target for the Bank of Japan it would not necessarily be infringing on the central bank's independence, as long as it retained the freedom to decide how to do it.
"The government and the BOJ should achieve a policy accord and discuss an inflation target to pursue bold monetary easing. The 1 percent 'goal' already announced by the bank won't do. It must instead be a 'target' of 2 percent," Abe told a symposium debating Japan's growth strategy.
"Most central banks in the world, except for that of Japan, set policy targets with the government or in response to requests from the government," he said, reiterating his view that the BOJ should be held accountable not just for achieving price stability but for boosting job growth.
Abe, a former prime minister chosen in September to again head the LDP, has called for the BOJ to pursue "unlimited" monetary easing, set a 2 percent inflation target and have it share a common goal with the government possibly by revising a law guaranteeing its independence.
The demands have pushed down the yen on expectations that more aggressive policy loosening may be forthcoming if Abe wins the election.
LONGER EASING NEEDED
Monetary policy has become among the key topics of debate ahead of the election with Yoshihiko Noda, incumbent prime minister and head of the ruling Democratic Party, criticizing Abe's demands as extreme steps that could backfire and trigger a sudden spike in bond yields.
The BOJ, which set a 1 percent inflation target in February and eased monetary policy via an increase in asset purchases four times this year, has been criticized for failing to beat deflation that has plagued Japan for more than a decade.
Its governor, Masaaki Shirakawa, has turned down most of Abe's demands as unrealistic. In an effort to shift the debate away from monetary policy, he repeated on Monday that monetary easing alone cannot beat deflation and called on the government to do its part by pursuing fiscal reform and deregulation to boost domestic investment.
Abe said the problem was that the central bank withdrew stimulus programs too early.
"It takes two to three years to create inflation expectations, so (the BOJ) needs to show its determination to keep (ultra-loose policy) in place for that long a time. Only then would inflation expectations heighten," he said.
The LDP, once in power, will also boost fiscal spending mainly to build new roads and bridges that can weather natural disasters like last year's devastating earthquake which, together with aggressive monetary stimulus, will help eradicate deflation, Abe said.
"What's important is to shift from deflation to inflation. Japan won't be able to restore fiscal health as long as it's in deflation," he said.
Japan's economy shrank 0.9 percent in the quarter to September and analysts forecast another contraction in the final three months of this year, a sign it was slipping into recession as weak global demand and the fallout from a territorial row with China hit the export-reliant economy.
But the government has little room to boost fiscal spending since it is saddled with public debt twice the size of its economy, the biggest among major industrialized nations.
Some analysts, however, complain that monetary or fiscal stimulus only buys time for Japan to pursue much-needed reforms to boost its growth potential such as opening up the country to outside competition.
"I'm very worried. Japan's economy has become addicted to fiscal and monetary morphine," Ryutaro Kono, chief Japan economist at BNP Paribas, told the seminar after Abe spoke.
"Deflation is only a consequence of low growth," he added, criticizing politicians for leaning on fiscal and monetary policy and delaying much-needed structural reforms.
(Reporting by Leika Kihara; Editing by Michael Watson & Kim Coghill)
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