By Leika Kihara and Stanley White
TOKYO (Reuters) - Japan's top two financial ministers openly disagreed on whether a corporate tax cut was needed to cushion any pain from an increase in the sales tax, as the government upgraded its view of the economy on Friday for the seventh time this year.
The two-stage doubling of the sales tax, seen as a test of the government's resolve to start fixing its tattered finances, looks set to go ahead, with debate now focused on what support measures Prime Minister Shinzo Abe should also introduce.
"The Japanese economy is on the way to recovery at a moderate pace," the government said in its report for September, a more optimistic view than last month when it said there were some moves towards a sustained recovery.
Abe has tasked Finance Minister Taro Aso and Economics Minister Akira Amari with crafting a package to ensure the tax hike does not derail the escape from deflation, and the two were at loggerheads over what was needed after a cabinet meeting.
Aso dismissed the need to cut the corporate tax rate, a step proposed by the business sector to boost competitiveness, and saw no need to issue new bonds to finance the support package.
"I don't think the public will accept the government raising the sales tax and cutting the corporate tax rate at the same time," Aso told reporters.
But Amari, a former trade minister, said a cut in the corporate tax rate was on the table, along with fiscal stimulus and targeted tax breaks to boost capital expenditure.
"There needs to be a combination of steps with immediate stimulus effects and those for long-term growth," Amari said.
"We have different views than the Finance Ministry on what the limits are from the perspective of ensuring fiscal discipline. But we would like to come up with the best set of measures," he told a news conference.
Last month, Amari said a corporate tax cut was a long-term option. His change in tone may be a sign the idea is gaining traction within Abe's inner circle as a way to lift competitiveness.
CAPEX PICKING UP
The sales tax hike is the biggest effort in years by the world's third-largest economy to contain public debt of more than $10 trillion, which at more than twice the value of gross domestic product is the largest burden among major economies.
Under a deal reached last year, before Abe's government came to power, the 5 percent sales tax rate will rise to 8 percent next April and 10 percent in October 2015.
Abe has faced calls from his own party to delay or moderate the increase to ensure the recovery is not threatened, but a run of strong data has strengthened the case to push ahead.
Sources have said the government is considering a 5 trillion yen ($50 billion) offset package. Such spending would roughly match the revenues generated by a 2 percentage point rise in the sales tax.
Amari has said the package must be bigger than 2 trillion yen, the maximum amount the finance ministry says can be spent without issuing new bonds, to avoid an economic relapse.
But the finance ministry, a strong proponent of the tax rise, and wants to minimize any further spending and is opposed to any permanent tax cuts, including in the corporate tax rate.
Both ministers do agree the support package should include tax breaks to boost corporate capital spending, an area policymakers say is key to a sustained economic recovery.
The government pointed to an increase in capital expenditure as among reasons it raised its economic assessment in September.
On deflation, the government's view was unchanged from August, saying Japan was approaching an end to deflation as consumer prices excluding fresh food and energy were firming up.
This week, Japan's economic growth was revised up sharply to an annualized rate of 3.8 percent in the second quarter.
(Editing by John Mair)