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Japan's Economy Shrinks More Than Expected in Quarter

Japan's economy contracted more than expected in the second quarter, revised data showed on Monday, reinforcing views that the Bank of Japan is unlikely to raise interest rates next week amid a global credit squeeze and market fall-out.

Gross domestic product (GDP) in April-June was marked down to a fall of 0.3% from an initial estimate of 0.1% growth.

Economists had expected a weak number, after a sharp slide in corporate capital expenditure data last week, but it was bigger than the market's median forecast for a 0.2% contraction.

The fall, which came after two straight quarters of expansion, cast doubt over the strength of Japan's corporate sector.

"The economy seemed to fail to achieve its potential growth level in the first and second quarter of this year, providing little evidence of firm growth," said Yoshimasa Maruyama, economist at BNP Paribas. "The economy is still moving in line with the BOJ's main scenario, but it is not strong. I don't think a rate hike is possible, at least in September and October," he said.

The Nikkei 225 Average fell over 2% after the data's release,
although the drop was due more to a drop in Wall Street stocks on Friday.

With weak U.S. jobs data sending the U.S. dollar to 15-year lows and boosting expectations for a deep U.S. rate cut, the yen held its ground.

On an annualized basis, the economy shrank 1.2% in the quarter, compared with a preliminary reading of a 0.5% rise and economists' median forecast for a revision to a 0.7% decline.

Capex Driven

Robust corporate activity, underpinned by brisk exports, has been a major engine of Japan's growth, which is enjoying its longest period of expansion in the postwar era albeit at a slower pace than in previous booms.

But expectations of a September BOJ rate hike receded after market turmoil ensuing from U.S. subprime woes kept the European Central Bank from raising interest rates and the weak U.S. payrolls data heightened views that the Federal Reserve will cut rates sharply this month.

"Financial market turmoil may hurt real U.S. economic growth and if so, the pace of Japan's economic recovery may slow. Personally, I think the BOJ won't be able to raise interest rates at least until December," said Yoshiki Shinke, senior economist at Dai-ichi Life Research Institute.

The BOJ raised its key policy rate to a decade-high 0.50% in February -- its first rate hike since July 2006. The next review is due on Sept 18-19.

The revised GDP data showed that capital expenditure fell 1.2%, reversing a preliminary estimate for a 1.2% increase. The fall was less severe than the consensus forecast of a revision to a 1.8% fall.

Doubts over Japanese corporate-sector strength grew after government data a week ago showed that spending on plant and equipment unexpectedly fell by 4.9% in April-June from a year earlier.

Personal spending, which makes up about 55% of the economy, rose 0.3% from the previous quarter, compared with an initial estimate of a 0.4% rise.

Separate data released by the BOJ showed that Japanese banks' outstanding loans in August rose 0.5% from a year earlier.

The nation's most widely watched measure of money supply -- M2 plus certificates of deposit -- grew 1.8% in August from a year earlier, lagging a consensus market forecast for a 2.1% rise.