Economics Minister Heizo Takenaka has said Japan's top priority next year will be ending persistent price declines hobbling its economy.
Takenaka told a business symposium in Osaka, western Japan, the key issue was that the Bank of Japan had not yet spelt out how it planned to tackle deflation.
His comments coincided with speculation in financial markets that Prime Minister Junichiro Koizumi will appoint an aggressive deflation fighter to succeed BOJ Governor Masaru Hayami, whose term expires in March.
"Next year, we must ensure that the fruit of the structural reform policy is more evident. In particular, we need to address deflation," Takenaka told an audience of about 700 people.
Takenaka said debate should not be trivialised into whether or not the BOJ should adopt an "inflation-targeting" policy, which many politicians have called for and central bankers abhor.
"The biggest issue now is not whether the Bank of Japan adopts an inflation-targeting policy or not but that the bank, which is the guardian of price stability, has not shown a scenario on how it intends to arrest deflation," he added.
The government said last week nationwide consumer prices fell by 0.8 per cent from a year earlier in November, the 38th straight month of decline.
Deflation has exacerbated the non-performing loan problem in Japan's shaky banking sector by making existing debt more expensive to pay back and weighing on corporate earnings.
The bad-loan problem has made conventional monetary easing less effective in fighting deflation, creating a vicious circle.
With short-term interest rates already virtually zero, the BOJ, under its 21-month-old "quantitative easing" policy, has flooded the money market with excess liquidity.
It has also pledged to keep that policy until consumer prices are steadily rising again, but neither prices nor the economy have shown signs of picking up significantly.
Takenaka said the government had made clear how far it was going on its fiscal policy and deregulation and was now hoping for a matching monetary policy.
"The BOJ says it will continue its monetary easing until deflation ends, but it needs to show how and when deflation will be overcome," he added.
Takenaka has been a vocal advocate of an aggressive monetary easing, particularly as the government's fiscal policy is constrained by a ballooning budget deficit.
On Tuesday, Koizumi's cabinet approved a general budget for fiscal 2003/04 from April totalling 81.8 trillion yen ($682 billion), only half of which was financed by tax revenue.
New bond issuance accounted for 44.6 per cent, a record for an initial budget. At around 140 per cent of gross domestic product, Japan's public sector debt is the biggest among leading economies and has led to a string of credit rating downgrades for Japanese government bonds.
Takenaka said Japan had to tread a very narrow path to keep the economy afloat and yet maintain fiscal discipline.
The government wants to return its primary fiscal balance - revenues less new debt issuance and spending less debt servicing costs - to neutral in the early part of the 2010s, as Japan's rapidly greying population is due to begin shrinking around 2007.
Finance Minister Masajuro Shiokawa told the same symposium that in order to do so, the government must cut outlays, even in political sensitive areas like social security.
Because social security spending, such as pension and medical costs, would inevitably increase by more than one trillion yen a year as the population aged, Japan needed to reform its spending structure fundamentally, he said.
"We have agreed with parliament - the three ruling coalition parties - to cut various spending," Shiokawa said.
Public works spending, to be cut by 3.7 per cent in 2003/04, would be cut by around three per cent in each of the coming years, while various subsidies would be cut on average by two per cent.
"To sum it up, we will continue to try to keep our budget not very much bigger than the fiscal 2002/03 budget. That was the case with 2003/04 budget and we will maintain that pace in 2004/05 as well as 2006/07," he said.