Will it Ever End?

Once again, Japan’s economy disappoints:

TOKYO (MarketWatch) — Japan’s economy unexpectedly contracted in the October-December quarter as consumer spending slumped, data released Wednesday showed, raising concerns that the nation’s fragile economic recovery has stalled. The downside GDP surprise was déjà vu for investors disappointed by Europe’s downbeat data Tuesday.

Japan’s Cabinet Office said real gross domestic product contracted 0.1 percent in the last quarter of 2004 compared to the July-September quarter, at an annualized rate of 0.5 percent.

Looking at Japan’s GDP growth over the past several years shows a seemingly endless pattern of modest, short episodes of growth followed by period after period of stagnation or contraction. And now it seems that the most recent “boom” in Japan of the past year is fading as well.

The one bright spot in the data is that there are hints that Japan’s deflation may be ending; and in my opinion, the end of Japan’s deflation would be a bigger triumph than real annual GDP growth of 3%.

It’s worth remembering why this matters to the rest of the world. Japan is one of the two key players (China being the other one) that is determining the value of the dollar, and thus indirectly determining interest rates and economic behavior in the US. Japan’s Ministry of Finance will decide whether or not to continue its policy of buying large quantities of dollar assets (particularly US Treasury securities) based on the costs and benefits of the policy to the Japanese economy. And this data suggests that the original motivation for the MoF to buy dollars — to help inflate Japan’s economy — is still as strong as ever.