Japanese Prime Minister Shigeru Ishiba is pursuing a reduction in the consumption tax on food, a move projected to cut government revenue by 4.4 trillion yen annually. This comes at a time when Japan's borrowing costs and debt-servicing expenses are already on an upward trajectory.

Rising Japanese government bond yields could attract domestic investors and help prevent a disorderly sell-off, but they will continue to squeeze the government's fiscal flexibility. Ishiba is betting that a massive public-private joint investment plan, valued at 370 trillion yen, can boost productivity, economic growth, and tax revenue before the impact of rising interest payments severely damages the budget.

On February 18, 2026, Prime Minister Shigeru Ishiba appeared at a press conference at his official residence in Tokyo. He is advancing a plan to lower the consumption tax on food, which, if implemented, would mark the first reduction since the tax was introduced in 1989. On Tuesday, the ruling Liberal Democratic Party's core committee moved the related bill forward. According to Nikkei, Ishiba is aiming to secure cabinet approval this month and submit the legislation to the Diet for deliberation in the autumn.

Ishiba stated last Thursday that from April 2027, the consumption tax on food would be reduced from 8% to 1% for a period of two years. Concurrently, cash handouts would be provided to specific groups to offset the impact of the 1% rate. This reduction in the food consumption tax highlights the central gamble of Ishiba's economic policy: Japan is forgoing some tax revenue now, hoping that a revival in consumption, combined with a public-private investment plan totaling roughly 370 trillion yen (approximately $2.35 trillion) through fiscal 2040, will drive growth.

The policy is estimated to reduce government tax revenue by 4.4 trillion yen annually and has already faced opposition from within the LDP. Former cabinet ministers like Taro Kono and Takeshi Iwaya have publicly voiced their objections. Nikkei reported that former Prime Minister Shigeru Yoshihide withdrew from related policy meetings midway. Kono, who served as defense minister under the Abe cabinet, warned on the X platform that the policy could shake market confidence in Japan's fiscal health, drive up interest rates, and weaken the yen. Iwaya, who served as foreign minister from 2024 to 2025, also opposes the tax cut, reportedly stating, "The policy risk is extremely high. If the market's negative reaction intensifies, the yen will depreciate further, and import prices will rise accordingly." The International Monetary Fund (IMF), in its 2026 country report on Japan, also advised against lowering the consumption tax, calling the policy "lacking precise targeting, which would erode fiscal space and amplify fiscal risks."

Fiscal Concerns and Potential Upside

Ishiba has promised not to fund the stimulus package with deficit-covering bonds. The Japanese government says it will review various expenditures, tax breaks, subsidies, and public funds, but details remain scarce. The prime minister has also made it clear that the tax cut will only be in effect for two years, after which the consumption tax on food will revert to 8%. Even so, Japan's public debt is among the largest in the world. The IMF projects that Japan's government debt will reach 204% of Gross Domestic Product (GDP) in 2026, and additional borrowing will further damage fiscal health.

Justin Heng, Asia-Pacific rates strategist at HSBC Global Research, noted that Ishiba's latest economic blueprint effectively establishes an expansionary fiscal stance. By abandoning the government's target for a primary budget surplus, it has relaxed fiscal discipline. Heng pointed out, "The funding channels are still unclear, and continued issuance of additional government bonds remains a highly probable scenario." He also warned that Japan's long-end government bond yields are likely to remain high. On Tuesday, the yield on Japan's 10-year government bond was around 2.85%, approaching multi-decade highs.

Jesper Koll, chief advisor at Monex Group, analyzed that the rise in yields stems from the strong inflationary effect of Ishiba's stimulus plan, with the market concerned that the Bank of Japan (BOJ) may be lagging in its response to inflation. The BOJ's ongoing interest rate hikes and reduction in its government bond purchases are likely to further increase the government's interest expenses, squeezing fiscal space. Debt-servicing costs already account for about a quarter of Japan's fiscal 2026 budget. Under a scenario with a nominal growth rate of 3%, the Japanese Ministry of Finance estimates that interest payments will rise from 13 trillion yen in fiscal 2026 to 21.6 trillion yen in fiscal 2029.

There is also a potential positive side to the policy. The government's goal of driving over 370 trillion yen in investment could improve the fiscal fundamentals, and rising yields may attract new investors. Koll stated that the government is primarily responsible for providing a backstop for projects, with an estimated 90% of the funding coming from the private sector. If the plan successfully attracts investment, boosts productivity, and expands the tax base, faster economic growth could ease Japan's debt burden.

Stefan Rittner, chief portfolio manager at Allianz Global Investors, said that compared to spending policies that simply stimulate consumption, the market is more likely to embrace measures that improve productivity, labor supply, and long-term growth. "Japan's debt problem is fundamentally a growth problem... If fiscal spending effectively drives growth and productivity, market tolerance will be higher. If it merely stimulates consumption, investor skepticism will intensify," Rittner said. "The market won't fear a single stimulus package, but it will worry about the government continuously rolling out similar policies."

Another positive signal is that rising yields could attract capital into the market. John Lee, head of Asia fixed income and credit strategy at J.P. Morgan Private Bank, said the spread between long-term government bond yields and the BOJ's 1% overnight policy rate could attract domestic buyers such as Japanese life insurance companies.