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Japan's Prime Minister Shinzo Abe delivers his address during a news conference in London, Britain May 5, 2016. REUTERS/Paul Hackett

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By Linda Sieg

TOKYO (Reuters) - After hosting a G7 summit this week and escorting U.S. President Barack Obama on a visit to Hiroshima, Japanese Prime Minister Shinzo Abe was widely expected to postpone an unpopular sales tax hike, call a snap election and seek big wins in both houses of parliament.

But G7 policy rifts, conflicting advice from advisers and domestic outrage after the arrest of a U.S. military base worker in connection with the killing of a woman on Okinawa, are clouding the mainstream forecast.

"It's politics, isn't it. Not everything goes according to the schedule we had in mind," Deputy Chief Cabinet Secretary Koichi Hagiuda told Reuters on Tuesday.

Full agreement on macro-economic policy looks hard to come by at the May 26-27 summit, where topics from terrorism and refugees to cyber security will also be discussed. Lobbying by Beijing could soften a statement on maritime security, including references to China's assertiveness in the East and South China Seas, site of rows with Japan and Southeast Asian nations.

Abe had been hoping, experts said, to use a G7 agreement on the need to bolster the world economy with fiscal steps as a launch pad for a domestic package including the probable postponement of a planned sales tax rise, replaying a strategy he used successfully before a 2014 snap lower house election.

The government had planned to raise the levy to 10 percent from 8 percent in April unless there was a financial crisis on the scale of the Lehman Brothers collapse or a major natural disaster.

But Abe has also said a rise would be meaningless if tax revenues fell, fanning speculation he would put off the rise for a second time and call a lower house poll in hopes of locking in a two-thirds majority in both chambers. That could open the path to his long-held goal of revising Japan's pacifist constitution.

Then on Saturday, Finance Minister Taro Aso said he had told U.S. Treasury Secretary Jack Lew that the tax rise would go ahead as planned. Hagiuda echoed that view.

"It has been decided (to raise the tax) from next April," Hagiuda said. "As long as no special situation arises, wouldn't going ahead as planned be the better way to win the trust of international society?"

OKINAWA WILDCARD

Some domestic proponents of the premier's reflationary "Abenomics" recipe have also recently changed their tune, urging Abe to implement the tax rise and offset any harm to consumption with a big spending policy.

And on Tuesday, another close aide to Abe, Masahiko Shibayama, told Reuters fiscal policy should be deployed to offset the impact of the tax rise, and monetary policy could also help.

Opposition parties have made clear that they would view a second postponement of the sales tax hike as admission by Abe that his "Abenomics" recipe of hyper-easy monetary policy, fiscal spending and promised structural reform was a flop.

The Abe government also hopes Obama's visit on Friday to Hiroshima, the first city to suffer an atomic bombing, will showcase the strong alliance between the former wartime foes.

That rosy outlook, however, has been clouded by the arrest last week of a U.S. civilian employed at a U.S. military base on Okinawa, where many residents resent playing host to the bulk of American military personnel in the country.

Abe will press Obama to take steps to prevent similar crimes when the leaders meet on the G7 sidelines.

The incident will likely garner fresh attention in June, when Okinawa anti-U.S. base activists plan a big rally and the island marks the anniversary of the end of the bloody battle of Okinawa in 1945.

That could affect Abe's decision on a snap election for the lower house in tandem with a July 10 poll for the upper chamber.

Still, Abe may judge that sooner is better than later for a lower house poll - none needs to be held until 2018 - given weakness in the economy and signs that cooperation among fragmented opposition parties is progressing.

A threatened no-confidence motion by opposition parties before parliament rises on June 1 could give Abe an excuse to call a lower house vote, even if rejected by the ruling bloc's big majority, Hagiuda said.

“Wouldn't this give the leader of the country a reason to ask the people if they agree?” he said.

(Additional reporting by Ami Miyazaki and Tetsushi Kajimoto; Editing by Nick Macfie)

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