Japan is set to propose an annual budget that keeps spending at historically high levels after factoring out the impact of reduced pandemic-related outlays.

The initial budget for the fiscal year beginning in April will be US$784 billion, compared with the record US$799 billion for the current year, according to a document obtained by Bloomberg on Thursday (Dec 21). The framework will be submitted to the cabinet for approval on Friday (Dec 22).

The total tally marks a decrease from a year earlier, the first decline in 12 years, but only after factoring out a contingency fund for pandemic-era stimulus into this year’s budget, which inflated current-year spending by 5 trillion yen (S$46.4 billion). There’s 1 trillion yen allocated to spur wage rises and mitigate the impact of inflation in the plan for next year.

The spending will exert additional fiscal stress on the world’s most indebted developed nation. Japan’s general government debt has soared to a size equivalent to 255 per cent of its economy, according to the International Monetary Fund. Reflecting the increasing burden, debt-servicing costs will rise 6.7 per cent to 27 trillion yen from 25.3 trillion yen.

The increase in debt-servicing costs partly reflects expectations that interest rates will be higher. The finance ministry plans to raise its settings for the accumulated interest rate, used to calculate debt-servicing costs, to 1.9 per cent for next year’s budget, according to people familiar with the matter. In August the ministry provisionally set that rate at 1.5 per cent, compared with 1.1 per cent for the current fiscal year.

“The risk of long-term yields exceeding 1 per cent would be much higher next year than this year,” said Keiji Kanda, senior economist at Daiwa Institute of Research. “To ensure stable fiscal management in such an event, it would be better to incorporate that risk into the budget.”

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A finance ministry official declined to comment on the budget plan.

Tax revenues are likely to be around 69.6 trillion yen, exceeding totals in the initial plan for the current year.

The budget envisions new bond issuance of just under 35 trillion yen, down from 35.6 trillion yen in the initial plan for this year.

The largest portion of the budget will be allocated to social security, as in past years, the plan showed. The amount will increase to 37.7 trillion yen from the current year’s 36.9 trillion yen, mainly due to natural increases from an increasingly ageing society.

The government plans to implement tax cuts in June. That income combined with expected wage hikes is forecast to push per capita income growth up to 3.8 per cent in the next fiscal year, exceeding an estimated 2.5 per cent increase in overall prices, the Cabinet Office said on Thursday.

The budget includes a double-digit increase in defence spending to 7.9 trillion yen. That comes as Prime Minister Fumio Kishida seeks to counter regional threats posed by North Korea and China. The premier hasn’t offered details as to how he’ll fund those outlays.

Despite the mountain of debt, treasury officials maintain that they will continue to aim for a balanced budget by fiscal year 2025, excluding debt servicing costs. Japanese Finance Minister Shunichi Suzuki said on Tuesday that he would like to finalise a budget that will allow both economic growth and fiscal consolidation.

“It’s understandable that spending increases under inflation, but revenue must also increase to improve the fiscal balance,” Daiwa’s Kanda said. BLOOMBERG