By Yasuhiko Seki

TOKYO (MNI) – The Japanese economy is now poised for a third
consecutive contraction in the current quarter, as both the public and
private sectors are struggling to repair quake-ravaged supply chain
networks in northeastern Japan, analysts said.

The economy contracted 0.9% quarter-on-quarter in the January-March
quarter, worsening from the downwardly revised 0.8% drop for the
October-December quarter (from -0.3%), the Cabinet Office said on
Thursday.

The larger-than-expected contraction for the second consecutive
quarter was due to sluggish capital investment and private consumption,
as well as a drop in net exports, in the aftermath of the March 11
earthquake and tsunami, the government said.

Gross domestic product dropped at an annualized pace of 3.7% in the
first quarter, down from a revised -3.0% annualized drop in the fourth
quarter (revised from -1.3% annualized).

Japanese financial markets showed little reaction to the GDP data,
with the Nikkei 225 Stock Average falling 0.11% this morning and the
yield on 10-year JGBs flat at 1.150%. Dollar/yen moved in a narrow range
of Y81.46 to Y81.76 in much of Asian trade.

“The first quarter GDP data confirmed the significance of the
fallout on the Japanese economy from the March 11 quake,” said Takeshi
Minami, chief economist at Norinchukin Research Institute Ltd.

“The quake yielded a major downside risk to consumer spending,
spending on durable goods in particular,” he said.

Private consumption, which makes up about 55% of GDP, fell 0.6% q/q
in Q1 following -1.0% in Q4, pushing down Q1 GDP by 0.3% percentage
point (vs. -0.6 point in Q4).

“Given the depressed consumer sentiment, private consumption is
highly likely to keep falling in the April-June quarter,” said Junko
Nishioka, chief economist at RBS Securities, a Japanese unit of Royal
Bank of Scotland.

Japan’s seasonally adjusted Consumer Confidence Survey index
tumbled to a two-year low as the March 11 earthquake dashed prospects
for income growth, general economic well-being and job security,
according to recent data from the Cabinet Office.

The closely watched index slumped to 33.1 in April from 38.6 in
March, hitting the lowest level since April 2009, when it stood at 32.0.

As consumer confidence deteriorated, new vehicle sales in Japan
tumbled at a record pace in April, according to data released by the
Japan Automobile Dealers Association.

New vehicle sales plunged 51.0% from a year earlier to 108,824 last
month, the eighth straight month of a year-on-year decline, following a
37.0% drop in March.

The previous record decline was marked in May 1974, when sales
plunged 45.1% following the outbreak of the first oil crisis.

Meantime, capital spending, which accounts for more than 15% of the
nation’s economy, fell 0.9% in Q1, reversing the 0.1% gain in Q4 and
marking the first quarterly drop in six quarters.

Capex contributed -0.1 percentage point to Q1 GDP (vs. 0.0 point in
Q4).

“As the near-term outlook for domestic demand remains gloomy, Japan
Inc. is most likely to continue to cut capital outlays,” RBS’s Nishioka
said.

“Housing investment is also not likely to see a sharp increase
despite ongoing reconstruction efforts given the growing need for higher
quake resistance,” she added.

Housing construction rose only 0.7% in the first quarter, after
rising 3.2% q/q in Q4. This category made no contribution to overall GDP
in Q1.

“All in all, domestic private demand is expected to make a bigger
negative contribution to the April-June quarter growth figure,” Nishioka
said.

Q1 domestic demand fell 0.8% q/q after a revised 0.7% fall in the
fourth quarter of 2010.

Domestic demand cut 0.8 percentage point from Q1 GDP, down from
-0.7 point contribution the previous quarter.

Economists also warned of continued downside risks to net exports
as Japan still relies heavily on external demand for growth.

“The quake hampered production until around mid-April, auto output
in particular,” said Tatsushi Shikano, senior economist at Mitsubishi
UFJ Morgan Stanley Securities.

“So, exports by volume may suffer a double-digit decline in April,”
he said.

For instance, Toyota Motor suspended production at all its domestic
auto assembly plants between March 14 and March 26 and only resumed
operations at all domestic plants on April 18.

In the first 20 days of last month, Japanese exports fell 12.7%
from a year earlier to Y3.128 trillion while imports rose 14.2% to
Y3.915 trillion, according to the recent data from the Ministry of
Finance.

The trade balance in the period resulted in a deficit worth Y786.8
billion.

In the first quarter, net exports subtracted 0.2 percentage point
from the Q1 GDP after pushing down the growth rate by 0.1 percentage
point in Q4.

Exports were up 0.7% on quarter, posting the first quarterly rise
in two quarters, after -0.8% in the previous quarter. Imports rose 2.0%
q/q, marking the first quarterly rise in two quarters (vs -0.3% in Q4).

While all economists see a continued economic contraction in the
current quarter, they are divided over the degree of a GDP fall.

“Until today, I thought real GDP would show a bigger fall in the
April-June period than in the January-March quarter,” said Taro Saito,
senior economist at NLI Research Institute Ltd, a unit of Japan’s
largest life insurer Nippon Life Insurance Co.

“But as an expected recovery in industrial production is likely to
help private inventories rebound following a massive de-stocking in the
first quarter, an expected contraction may shrink in the current
quarter,” he added.

Production at the nation’s factories and mines dropped a seasonally
adjusted 15.5% in March from the previous month, a record drop, but it
is expected to rise 3.9% m/m in April and by a further 2.7% in May,
revised data from the Ministry of Economy, Trade and Industry showed.

By contrast, RBS’s Nishioka sees a bigger contraction in the
current quarter.

“As domestic private demand stagnates and exports are dwindling, I
wouldn’t be surprised if real GDP contracted at an annualized pace of
more than 5% in the current quarter,” she said.

While the short-term outlook for the Japanese economy remains
bleak, economists agree with the government’s analysis of the overall
trend of the economy.

Minister for Economic and Fiscal Policy Kaoru Yosano told reporters
on Thursday that the economy will remain weak for now but stressed that
he doesn’t believe the second straight quarterly contraction of GDP
means a shift in business cycle to contraction from expansion.

“Yosano’s verdict is appropriate, given the continued strength of
overseas economies, which should help buoy the Japanese economy, once
supply chain problems are fixed,” Nishioka said.

To help alleviate downside risks stemming from the quake, the
government of Prime Minister Naoto Kan drafted last month the first
supplementary budget for fiscal 2011 totalling Y4.015 trillion.

The government will finance the extra budget by slashing outlays
planned in the initial FY2011 budget, without issuing new debt.

The Cabinet Office has said that its Y4 trillion first
supplementary budget for rebuilding quake-hit areas is estimated to push
up Japan’s real gross domestic product by 0.6 percentage point over a
12-month period.

The budget is designed to create 200,000 jobs and support firms to
maintain 1.5 million existing positions.

Meantime, Thursday’s data also showed that deflation accelerated in
the first quarter. The GDP deflator was down 1.9% from a year earlier
after falling 1.6% in the fourth quarter.

“While consumer prices are expected to climb to the positive
territory shortly, we must say this is way beyond the Japanese economy’s
capability,” RBS’s Nishioka said.

“And if you look at the wide supply and demand gap, there is no
other choice for the Bank of Japan but to maintain its accommodative
monetary policy in any foreseeable future,” she said.

tokyo@marketnews.com
** Market News International Tokyo Newsroom: 81-3-5403-4835 **

[TOPICS: M$J$$$,M$A$$$,MAJDS$,MT$$$$]