By Linda Sieg and Chisa Fujioka
TOKYO (Reuters) - Japan's prime minister appointed a fiscal hawk to a key post and replaced his deputy in a cabinet revamp on Friday to cope with a divided parliament and tackle reforms to rein in public debt, but hurdles to success are high.
Drafting Kaoru Yosano, an advocate of raising the 5 percent sales tax, as economics minister signals Prime Minister Naoto Kan is serious about reforms needed to fund bulging social welfare costs and rein in the huge public debt, as well as about trade liberalisation sought by business but opposed by farm lobbies.
"Japan's fiscal policy will hit a dead end if it is left as it is," Yosano told reporters.
Moving Yosano's predecessor, Banri Kaieda, to the trade portfolio could also encourage proponents of more open markets since he has previously come out in favour of joining a U.S.-led free trade initiative, the Trans-Pacific Partnership (TPP).
But with opposition parties able to block bills in the upper house of parliament and Kan's Democratic Party of Japan (DPJ) divided over policy, scepticism runs deep and financial markets have yet to react.
Yosano's appointment could ease some concerns in the bond market by suggesting future progress on fiscal and tax reform, said Akitsugu Bandou, a senior economist at Okasan Securities.
"But the government will continue to face a severe situation because of political deadlock, and the cabinet reshuffle is not necessarily going to change the situation that the DPJ lacks political power," Bandou said.
Kan appointed former administrative reform minister Yukio Edano as his chief cabinet secretary, while retaining Finance Minister Yoshihiko Noda, Foreign Minister Seiji Maehara and Defence Minister Toshimi Kitazawa, among others. Shozaburo Jimi, from a tiny coalition party, remained banking minister.
BUDGET DEBATE
Replacing Yoshito Sengoku with Edano clears the path for debate on the state budget for the year from April, but it is unclear if Kan can find enough votes to pass enabling laws.
The government approved a record 92.4 trillion yen (707.24 billion pounds) draft budget in December, adhering to a self-imposed cap on new debt issuance.
But for a third year in a row, borrowing will exceed tax revenues as a source of funding. Japan's public debt is already about twice the size of its $5 trillion (3.15 trillion pounds) economy.
Kan has sought multiparty talks on tax and social welfare reform with an eye to outlining changes by June, but opposition parties say they want to see DPJ proposals first.
Some analysts worry Edano, 46, who made his name in a former cabinet post in charge of cutting waste, may not be up to the demands of his new job.
"He can be an easy target (for opposition parties) because of a tendency to straight-talk but also to committing gaffes and offending people unnecessarily," said Sophia University professor Koichi Nakano.
Opposition parties had threatened to boycott debate on the budget for the 2011/12 fiscal year, which starts on April 1, unless Sengoku and Transport Minister Sumio Mabuchi were sacked. The two were censured by the upper house in November for their handling of a row with China.
The government can enact the budget because the DPJ controls the powerful lower house, but the opposition can block bills in the upper chamber needed to implement the spending.
Edano has also been a critic of DPJ powerbroker Ichiro Ozawa and his appointment could deepen a rift in the party over the veteran strategist, who faces indictment in a funding scandal.
Many Ozawa backers oppose a sales tax rise as well as the free trade deals Kan wants to pursue.
Yosano held several key posts in Liberal Democratic Party (LDP) governments before the conservative party was ousted by the Democrats in 2009. He bolted the LDP last year to set up the tiny Sunrise Party, which he is now leaving to join the cabinet.
Private economists largely agree that raising the sales tax is essential but many lawmakers fear angering voters, especially ahead of local polls in April.
"The bigger picture is that they (the ruling party) will lose big time in the April elections and that is when the knives will come out for Kan," said Jesper Koll, director of equity research at JPMorgan Securities Japan.
Kan took over last June as Japan's fifth premier since 2006 and led his party to defeat in an upper house poll a month later after clumsily floating a possible rise in the sales tax. His voter ratings have sunk by more than half to around 30 percent.
(Additional reporting by Shinji Kitamura, Kaori Kaneko, Shinichi Saoshiro, Rie Ishiguro, Kiyoshi Takenaka and Yoko Kubota; Editing by Tomasz Janowski and Edmund Klamann)
