"Measuring Fiscal Needs: Japan's Experiences"

The Local Allocation Tax (LAT) plays important role in fiscal equalization in Japan. The purpose of this paper is twofold: reviewing the key themes and issues of the LAT; and considering package of reforms designed to revitalize Japan's fiscal equalization program and to establish a sustainable basis for the future. We argue that the addressing expenditure needs in equalization should be retained, to do so will require improvement in the way of addressing expenditure needs. In addition, The LAT formula should be redesigned so as to encourage local government to deliver services in the most cost-effective manner. First, it should be based more systematically on objective criteria (e.g. size of school age population, remoteness indices) rather than actual endowment, such as public infrastructure. Second, the reliance on discretionary elements, including special LAT and various aspects of modification coefficient used in the LAT calculation, should be reduced and, in general, the formula made more transparent.