Japan’s gross domestic product shrank for the second quarter in a row in the October-December 2023 period, according to preliminary data released by the Cabinet Office on Thursday, with the country dropping to fourth place in the global economic rankings.
GDP contracted 0.4% on an annualized basis, which was lower than a forecast of a small amount of growth by economists, following a 3.3% contraction in the previous quarter.
Still, analysts caution that the data is perhaps not as bad as it seems, given solid readings from other economic indicators.
The two consecutive contractions means Japan is in a “technical recession.” However, Marcel Thieliant, head of the Asia-Pacific region at Capital Economics, considers it debatable whether Japan is in a recession due to the poor quality of the nation’s GDP data, which is often subject to large revisions.
“I wouldn’t be surprised if the contraction in Q4 (the fourth quarter) was revised away in the second estimate due next month,” Thieliant said, noting positive indicators such as Japan’s low unemployment rate and businesses reporting good conditions in the Bank of Japan’s tankan survey.
Norihiro Yamaguchi, senior Japan economist at Oxford Economics, said the officially released numbers were lower than his company’s forecast, and that in Japan the verdict on whether the country is in recession isn’t based on a GDP contraction in two consecutive quarters.
“The judgments (around recessions) are made based on the movements of the Business Conditions Index, which is staying steady,” Yamaguchi said.
Setting aside the debate over the state of the Japanese economy, the figures have seen the country lose its position as the world’s No. 3 economy in dollar terms — slipping behind Germany — as was projected last year by the International Monetary Fund.
India is ultimately projected to overtake both countries.
Despite a prolonged period of low growth, Japan had managed to maintain its standing as the world's third-largest economy for more than a decade. It was previously the world's No. 2 economy after the United States, but China claimed that position in 2010.
Japan's step down the economic rankings is partly a symptom of the yen’s stubborn weakness against the dollar. At the same time, the Japanese currency’s weakness is also reducing consumer purchasing power by contributing to inflation through increased import costs. Private consumption declined 0.2% in the October-December period from the previous quarter.
The GDP contraction potentially complicates the path toward an interest rate hike by BOJ Gov. Kazuo Ueda.
Some analysts expect Ueda to raise rates around April, noting that the BOJ has been dropping hints in speeches and official meetings. This would be the first hike since 2007, and would see an end to negative interest rates.
The central bank, which has a target of stable 2% inflation, has until now maintained its “yield curve control” policy — a strategy of buying up government bonds to control interest rates — but this approach has put it out of step with the interest rate hikes of other major central banks. The policy has also faced criticism from some for causing market distortions and weakening the yen.
Yamaguchi said that the BOJ is likely to maintain a consistent approach going forward, regardless of GDP figures.
“GDP stats represent history rather than the outlook,” he said. “Given that consumers’ confidence is improving with the real income recovering gradually, I expect the BOJ will maintain their outlook of ‘Japan's economy is likely to continue recovering moderately.’”
As such, the new GDP figures are unlikely to affect BOJ thinking, he said.
Earlier this month, an IMF statement urged the BOJ to officially exit its yield curve control framework, in part because it “has already successfully met its intended objective of lowering interest rates below the neutral rate and raising inflation expectations.”
While Japan may have slipped in the economic rankings, it might be able to eventually reclaim its spot above Germany.
“Our latest long run forecasts show that Japan will overtake Germany once again, though it could take until the second half of this decade,” Thieliant said. “We expect Japan’s economy to be about 6% larger than Germany’s by 2050,” he said.
But in the near future, Yamaguchi does not expect the Japanese economy to regain its position, given the weak yen, stagnant productivity and “chronically weak potential growth, due to demographic challenges.”
“These factors are not likely to be reversed anytime soon,” he said.
