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Japanese economy shrinks, adding to recession fears

Japan's economy contracted in the second quarter at the sharpest rate in seven years, reinforcing the view that the world's No.2 economy has slipped into recession after its longest expansion since World War Two.

Crumbling exports, weak consumption and declines in public and private investment spending led to the contraction, the first in a year, as high energy and raw material costs bite and the impact of a US slowdown spreads to emerging nations.

The 0.6% contraction matched a consensus forecast of economists and was the largest quarterly decline since July-September 2001, when Japan was last in recession in the wake of the burst of the Internet bubble.

“The data gave the impression that the economy has entered a recession, and I think it is in one,” said Takahide Kiuchi, chief economist at Nomura Securities.

Economists are divided on whether the economy will shrink further in the current quarter - thereby matching a widely used definition of a recession - but they agree that any return to growth will be soft and will depend heavily on the direction of oil prices and how quickly a global slowdown ends.

“There is still some possibility that GDP will return to positive territory in the July-September quarter, but the downturn trend is likely to continue,” said Yoshikiyo Shimamine, chief economist at Dai-ichi Life Research Institute.

Yields on five-year Japanese government bonds fell to a four-month low below 1% as weak GDP reaffirmed expectations that the Bank of Japan would keep interest rates on hold for several months.

Many economists and government officials say Japan is either falling into a recession or is already in one, ending a growth cycle that began in early 2002, the longest in six decades.

Japan measures a recession as a downturn in the economic cycle, which varies from the more widely used definition of two straight quarters of economic contraction.

The annualized contraction of 2.4% in Japan compared with 1.9% annual growth in the same quarter in the United States, where government stimulus supported the economy.

Many economists say the Japanese economy is in much better shape than when it went through slumps in 1998 or 2001, with companies having cleaned up their balance sheets after the collapse of an asset bubble in the 1990s.

Economics Minister Kaoru Yosano said the economy was weakening, hurt mainly by external factors such as high oil prices, but added that it won't keep falling.

“Even though the economy contracted in April-June, it would be more accurate to think that it won't last long.”

Caught between gloom and rising grocery prices in an economy where deflation was common for most of the past decade, the Bank of Japan has been expected to keep key interest rates at an already low 0.5% for a while, and the quarterly contraction did not change that view.

“We can't expect export growth to accelerate any time soon, so the economy will remain in an adjustment phase for the rest of this year,” said Takumi Tsunoda, a senior economist at Shinkin Central Bank Research.

“But we can probably avoid a full-fledged recession, as in several straight quarters of GDP contraction. We still expect the Bank of Japan's next policy move to be a rate hike, but it won't come for the rest of this year.”

Private consumption, which accounts for some 55% of Japan's economy, fell 0.5% in the second quarter, after recent rises in food and gasoline prices hurt consumer sentiment and weak wages prompted shoppers to keep their purses tightly closed. That was the first drop in almost two years.

“Though prices are soaring, our salaries don't rise. Our nation as a whole is demoralized,” said 58-year-old part-time worker Misako Shibasaki.

Another culprit in the downturn is weakening exports. Shipments to the United States have already faltered, and now those to emerging Asia have begun to sputter after maintaining growth through the first year of the global credit crisis.

Corporate capital spending, another driver of Japan's growth in recent years, fell 0.2%, marking a second straight quarter of decline. (Reuters)