Japan risks descending into a new cycle of bankruptcies and bank woes that would drag down global economic growth, the IMF warned in a report released Friday.
Japan was already showing fresh signs of weakness, said the report issued by the IMF executive board following consultations between Tokyo and International Monetary Fund officials.
“Executive directors noted that last year’s modest economic recovery in Japan had now given way to renewed weakness, reflecting the U.S. and global electronics slowdown, the slow progress with bank and corporate restructuring and questions about the long-term fiscal situation,” the Fund said.
“Directors were concerned that Japan could reenter a cycle of slowing activity, rising bankruptcies and a deteriorating banking system, which would, in turn, exacerbate the global downturn.”
The world’s second largest economy contracted 0.2 percent in the three months to March and politicians have warned of negative growth for the second quarter to June.
Japan downgraded its key economic assessment for the sixth time in seven months Friday, blaming record unemployment, falling business investment and slumping exports.
The IMF forecast the Japanese economy would shrink 0.2 percent this year after growing 1.5 percent last year.
Directors at the Fund said they welcomed signs that Prime Minister Junichiro Koizumi’s government was committed to addressing the root problems in the economy.
Koizumi has been reluctant to introduce pump priming measures as he tries to trim his government and reduce the huge national debt as part of a reform package, which includes cleaning up debt-ridden banks.
Japan had already spent 100 trillion yen (810 billion dollars) over the past decade in a vain attempt to revive the economy, causing the country’s national debt to explode.
IMF bosses said the pain from short-term restructuring could be contained if Tokyo also pushed through reforms to open the country to investment and liberalize the job market.
But banks remained a key concern.
While welcoming the Financial Services Agency’s progress in tightening up rules on the treatment of loans, IMF chiefs called for further action and noted questions being raised by private analysts about the magnitude of bad loans.
The IMF warned Japanese policymakers against getting locked into commitments that could lead it to attempt to shore up government coffers too fast.
Some IMF directors were less convinced about the need for a supplementary budget to stimulate the economy, saying a clear break with such methods might bolster confidence.
“Nevertheless, most directors agreed that, should a supplementary budget be needed later this year, it should focus as far as possible on measures that support restructuring, including steps to expand the social safety net, rather than on low-quality public works programs.”
While most directors welcomed the Bank of Japan’s (BoJ’s) monetary policy framework, most thought the present stance was unlikely to remove downward pressure on prices any time soon, the report said.
“Most directors therefore suggested that the BoJ should not delay in raising its quantitative target for current account balances while being prepared, if necessary, to increase purchases of longer-term government securities to meet the higher target.”
Some IMF chiefs said monetary policy would be enhanced if the central bank adopted a “reasonable timeframe” for eliminating deflation. “Others doubted, however, that such a target would be credible in the current environment as it is not clear that policymakers have the instruments needed to achieve such a target.”