Koizumi has vowed to remain prudent, but Japan's fiscal state remains precarious after years of massive pump-priming that has done little to boost the economy while saddling the nation with the largest debt burden among leading industrial powers.

Japan's government debt is set to approach some 140 per cent of gross domestic product, and the government does not have the tax revenue to allow it to raise budget spending.

On the other hand, big cutbacks are unlikely because of the stagnant economy, giving the impression that Koizumi may be backtracking on his reform agenda.

"This is only the general outline, which gives the impression that Koizumi is maintaining a fiscally tight line. But we need to see how it actually pans out," said Mamoru Yamazaki, chief economist at Barclays Capital in Tokyo.

Analysts said the government's decision to shelve some sticky issues, such as increases in social welfare costs, are largely due to the upcoming political agenda.

Koizumi will seek re-election as leader of the Liberal Democratic Party (LDP) on September 20.

If he wins, as expected, there is mounting speculation that he will call a general election before the end of the year.

Even under Koizumi, who enjoys a public support rate above 40 per cent, the LDP may face a stronger challenge from the opposition. The main opposition Democrats agreed last week to absorb the smaller, hawkish Liberal party.

"The results of the fall Lower House elections are likely to prove a touchstone for this winter's final deliberations on next year's initial budget," said Yukari Sato, senior economist at JP Morgan Chase in Tokyo.