TOKYO (Reuters) - Japanese Prime Minister Shinzo Abe may look at cutting corporate taxes to ensure he can push through a planned sales tax increase as he seeks to show he has a strategy to both foster an economic recovery and contain the country's enormous public debt.
Lowering corporate taxes could spur weak business investment and bolster his policies to revive the world's third-largest economy, but it would also undermine the revenue-raising goal of a planned doubling of the sales tax over the next two years.
However, without it Abe may not be able to push ahead with a sales tax hike that is seen as a litmus test of his commitment to contain public debt, which at more than 1,000 trillion yen ($10.4 trillion) is more than twice the size of the economy.
The Nikkei, citing government sources, reported Abe could consider lowering the corporate tax rate to 25 to 30 percent from current levels around 38 percent. A source confirmed to Reuters than Abe was looking at a cut in the tax rate.
"This is like trying to kill two birds with one stone," said Hiroaki Muto, senior economist at Sumitomo Mitsui Asset Management.
"The government knows that it needs to improve its growth strategy and that it needs to address concerns about the economy slowing down."
The possibility of corporate tax cuts have resurfaced as Abe nears a decision on whether to proceed with a multi-party agreement to raise the 5 percent sales tax to 8 percent next year and then to 10 percent in 2015.
The government expects that doubling the sales tax could increase revenue by around 13.5 trillion yen a year.
Under the deal agreed last year, the government must certify the economy is strong enough to withstand the pain of the fiscal tightening before raising the tax rate. A decision is expected by early October.
The economy grew less than expected in the second quarter as capital spending unexpectedly fell for a sixth straight quarter. Further, companies expect their core machinery orders, a leading indicator of capital spending, to fall in the current quarter.
Abe's much-anticipated growth strategy left many investors disappointed when it was announced in June, and he has since pledged to come up with additional measures to ignite growth.
Some officials of his Liberal Democratic Party and business leaders have previously floated a cut in the corporate tax rate to increase competitiveness. Among members of the Organization of Economic Cooperation and Development (OECD), Japan's corporate tax rate is only exceeded by the United States.
But finance ministry officials have resisted this due to worries about losing revenue as they try to cut public debt. Instead, they favor more targeted tax breaks for companies that increase investment.
Sumitomo Mitsui Asset's Muto said cutting the corporate tax rate to 30 percent could cost 3 trillion yen in revenue, but if it was lowered gradually the increase in economic activity could be a net positive.
Such a proposition could win over some in Abe's government who fear the economy cannot weather a sales tax hike, but it worries those who see it as a sign of weak fiscal discipline.
"If you don't do something to make up for the lost revenue from cutting the corporate tax, then there's not much benefit in raising the sales tax," said Norio Miyagawa, senior economist at Mizuho Securities Research & Consulting.
"I'm a little worried about whether the government can actually cut spending."
Consumer spending and exports have been bright spots since Abe took office in December, but many in the government and the Bank of Japan say a sustained pick-up in capital spending is necessary for self-sustaining growth.
Lower corporate taxes would be one signal to business that the government was acting to spur weak capital expenditure.
Minutes from the Bank of Japan board meeting last month, released on Tuesday, showed members thought the economy was beginning to recover but there were concerns about the outlook for capital spending and the global economy.
One board member said big manufacturers' capital expenditure wasn't strong, and that companies tended to focus more on overseas rather than domestic spending, the minutes showed.
Editing by John Mair