Japan’s Quarterly GDP Decline Worst in 23 Years

Japan’s economy suffered its worst three-month contraction in 23 years in the April-June quarter, the government said Thursday, triggering fresh concerns about its Asian neighbors and fears of renewed trade friction with the United States.

Though part of the weakness was caused by a widely expected drop-off in consumer spending after sales and income tax hikes took effect April 1, the 2.9% decline in the inflation-adjusted gross domestic product from the previous quarter was significantly steeper than expected.

The government contended that the economy remains in a recovery mode, but “looking at such economic data as private consumption, housing starts and gross domestic products, I can’t be very optimistic,” said new Minister of International Trade and Industry Mitsuo Horiuchi.

The poor growth figures do not, however, mean Japan’s competitive position in the world is worsening. Japanese exports have continued to surge throughout the summer.

Even as the government was announcing the GDP decline, the Finance Ministry reported that Japan’s July surplus in its current account, the broadest measure of trade in goods and services, rocketed 62.7% in yen terms from the same month last year. Measured in dollars at Thursday’s exchange rate of 119.55 yen to the dollar, the July surplus was about $7.6 billion.

“Japan is gaining market share in the rest of the world, and the industrial sector is not just in recovery, but is in an actual boom,” said Jesper Koll, vice president of J.P. Morgan Securities Asia Ltd. “The problem is two-thirds of Japan’s economy is services and construction. That’s where the big drag continues.”

The sharp fall in GDP means that interest rates are likely to remain extremely low in Japan, which would exert continued pressure for a weak yen.

The decline also means Japan’s huge trade surpluses are likely to continue to grow, many analysts say. That is because lackluster domestic demand depresses imports to Japan, while the weak yen helps keep Japanese exports highly competitive in the United States and other overseas markets.

That could lead to growing trade friction with the United States and increased pressure from Washington on Tokyo to boost domestic demand in the Japanese economy through some combination of deregulation and fiscal stimulus.

In Washington, Treasury Secretary Robert E. Rubin characterized Japan’s economic performance in the second quarter as “a bit weak.” He reiterated that Japan should stimulate its economy through increased domestic demand rather than by boosting exports.

Speaking in Denver, Federal Reserve Board Vice Chairwoman Alice Rivlin said of Japan, “Their economy is faltering, and they’re depending very heavily on exports and pushing them very hard.”

Rubin said Japan’s economy will be a key agenda item when finance ministers gather in Hong Kong on Sept. 20 for meetings of the International Monetary Fund, the World Bank and the Group of Seven industrialized democracies.

“There is no doubt that the U.S. will demand severe policy steps [from Japan] during the Group of Seven meeting,” said Masaru Takagi, chief economist at Fuji Research Institute.

Meanwhile, if Japan were to slip back into a recession or extended period of very slow growth, falling demand here could add to the troubles of Southeast Asian countries that have been battered this summer by weakening currencies and falling stock markets.

The best hope for recovery in countries such as Thailand, Malaysia and the Philippines is for more rapid export growth now that their weaker currencies hold down local production costs.

But that strategy could be undercut if Japanese consumers quit buying goods from other Asian countries and if Japanese companies step up their exports from Japan.

U.S. trade pressure could provide just the domestic political excuse Prime Minister Ryutaro Hashimoto needs to give Japanese corporations a tax break, Koll said. Such a proposal is aggressively backed by the government and Japan’s leading business associations.

“I think they’re going to cut [corporate] taxes,” Koll said, “and thereby make Japan Inc. more competitive.”

Times wire services and Etsuko Kawase of The Times’ Tokyo bureau contributed to this report.