Japan Economy Shrinks 2.4% as Exports Decline; Recession Looms

By Jason Clenfield

Aug. 13 (Bloomberg) -- Japan's economy, the world's second biggest, contracted last quarter as exports fell and consumers spent less, bringing the country to the brink of its first recession in six years.

Gross domestic product shrank an annualized 2.4 percent in the three months ended June 30 after expanding 3.2 percent in the first quarter, the Cabinet Office said today in Tokyo. The Nikkei 225 Stock Average fell 2.1 percent, the most since Aug. 1.

Exports dropped for the first time in three years, robbing Japan of the engine that drove its longest postwar expansion, while record fuel and food prices deterred spending at home. Toyota Motor Corp. last week reported its worst earnings decline in five years as U.S. sales slumped, and Japan Airlines Corp. said it will cut wages to counter rising costs.

``The economy will keep flying at a low level this year as demand weakens, even from Europe and Asia,'' said Hiromichi Shirakawa, chief economist at Credit Suisse Group in Tokyo. ``Japan's economy is deteriorating.''

The yen rose because investors reduced holdings of riskier assets on concern that Japan's contraction signals a deepening global economic slump. The currency traded at 108.82 per dollar at 4:30 p.m. in Tokyo from 109.33 before the report.

Asia's biggest economy shrank 0.6 percent from the first quarter, when it grew 0.8 percent, today's report showed. The drop in GDP was in line with economists' estimates.

Housing investment unexpectedly fell, causing the Topix Real Estate index to tumble 3.5 percent. Mitsui Fudosan Co. and Mitsubishi Estate Co., Japan's biggest property developers, led the declines.

Bank of Japan

The government last week described the economy as ``weakening,'' language it hadn't used since 2001. Stalling growth and the fastest inflation in a decade have created a dilemma for the Bank of Japan, which will probably have to keep its benchmark interest rate at 0.5 percent for the rest of the year, according to economists surveyed last month.

Japan joins Canada and Italy among Group of Seven economies that have contracted this year. The European Union shrank 0.2 percent in the second quarter from the first, economists estimate a report will show tomorrow. The U.S. grew 0.5 percent last quarter, buoyed by a temporary boost from tax rebates that economists expect will fade.

Exports slumped 2.3 percent, the most since the 2001-2002 recession, the Cabinet Office said. Imports fell 2.8 percent.

Consumer spending, which accounts for more than half of the economy, decreased 0.5 percent from the previous quarter, compared with expectations of 0.6 percent.

`Becoming Cautious'

``With prices rising, consumers are becoming cautious about spending,'' Economic and Fiscal Policy Minister Kaoru Yosano said today. Prime Minister Yasuo Fukuda plans to announce relief measures later this month to help companies and households cope with record energy costs.

Household sentiment fell in July to the lowest ever, after inflation outpaced wage growth. Summer bonuses at Japan's biggest companies dropped for the first time since 2002, according to the Keidanren business lobby.

The world's second-largest economy has yet to contract for two consecutive quarters, one definition of a recession. Still, rising costs and slowing exports have eroded profits, forcing businesses to cut production, investment and hiring.

Domestic demand, which includes company and consumer spending, accounted for 0.4 percentage point of the economy's quarter-on-quarter contraction. Business investment slipped 0.2 percent, less than the 0.6 percent analysts predicted.

Toyota, JAL

Toyota, Japan's biggest company, last week lowered its vehicle sales forecast by 3.5 percent for the year ending March 2009. Since June, Toyota has fired 800 workers at a Kyushu-based subsidiary that's making fewer sport-utility vehicles and Lexus sedans bound for the U.S.

Japan Airlines, the country's largest carrier by sales, said last week that it will reduce workers' pay by 5 percent to compensate for the increase in fuel prices.

Housing investment slid 3.4 percent as homebuyers shunned new condominiums because of rising prices and banks tightened lending to developers. Economists anticipated a 1.4 percent rise.

``Demand for new homes has weakened and we believe residential investment is unlikely to recover much further in coming quarters,'' said Hiroshi Shiraishi, an economist at Lehman Brothers in Tokyo.

Still, the current slowdown is unlikely to be as severe as past recessions because companies have paid off debt and shed extra workers and idle equipment, said Huw McKay.

`Floor Under This Economy'

``We're not in the kind of situation we were in at the end of previous expansions,'' said McKay, senior international economist at Westpac Banking Corp. in Sydney. ``There's going to be a floor under this economy.''

Companies plan to increase investment by 4.1 percent in the year ending March 31, according to a survey released last week by the Development Bank of Japan. While that's slower than last fiscal year's 7.7 percent, it's better than the 10 percent decline recorded during the 2001 recession.

The Bank of Japan's most recent business survey showed that labor demand is close to a 16-year high. The job-to-applicant ratio was at 0.91 in June, meaning almost every person who wants a job can get one. Seven years ago, there were two applicants competing for every position.

The recent decline in energy and material prices may also provide respite for Japan's companies and households. Oil has dropped 22 percent since exceeding $147 a barrel for the first time on July 17.

``These are weak numbers but not disastrous,'' said Julian Jessop, chief international economist at Capital Economics Ltd. in London. ``With global commodity prices now tumbling, this bad news is largely old news.''

To contact the reporter on this story: Jason Clenfield in Tokyo at jclenfield@bloomberg.net