Japan's industrial production fell twice as much as expected in January, sending stock prices lower on heightening concern that the country's economy may slow down or even contract in the first quarter of 2008.
Economists expect output, the driver of the economy, to fall in January-March from the previous quarter, reinforcing views that the Bank of Japan will keep interest rates on hold or even cut them later this year.
"I expect a likely rebound in industrial production in April-June to be weak, and that will flash a yellow light for the BOJ's scenario of the positive mechanism," said Yasuhiro Onakado, chief economist at Daiwa SB Investments. "I think the BOJ may need to cut rates around the middle of this year," he said.
Industrial output fell 2.0 percent in January from a month earlier, compared with a consensus market forecast for a 0.8 percent drop.
Tokyo's Nikkei stock average fell 1.3 percent on the weaker-than-expected reading, while the yen was little changed after the data's release.
Manufacturers expect their output, the core component of production, to fall a further 2.9 percent in February but to rise 2.8 percent in March, data from the Ministry of Economy, Trade and Industry showed on Thursday.
If output turns out as forecast in February and March, output in the first quarter of 2008 will fall 2.5 percent from the previous quarter, which would be the biggest quarterly drop since a 2.6 percent decline marked in the last quarter of 2001, the ministry said.
Markets are focusing on how Atsushi Mizuno, regarded as one of the most hawkish members of the BOJ board, describes the outlook for the economy in his speech to business leaders in Oita, southern Japan, and at a news conference later on Thursday.
"Output of electronic devices fell sharply, which is a worrying sign as strength in that sector drove overall output in the second half of last year," said Yoshiki Shinke, senior economist at Dai-ichi Life Research Institute. "Output is expected to fall in January-March from the previous quarter," he said.
Economists have said the Japanese economy could enter a soft patch in the first half of this year as companies gradually feel the pinch from the U.S. slowdown, although exports have remained firm so far.
Federal Reserve Chairman Ben Bernanke signaled a readiness to cut interest rates again on mounting fears of a U.S. recession, saying the U.S. central bank was more worried about the downside risks to growth than about inflation.
Separate data showed retail sales rose 1.5 percent in January from a year earlier, compared with economists' median forecast for a flat reading, a sign that personal consumption was holding up well even as rising energy and food prices hurt household sentiment.
Japan's economy grew at an annual clip of 3.7 percent in the final three months of last year, far above the meager 0.6 percent logged in the United States in the same period, as strength in exports and capital spending offset soft consumption.
The BOJ has said it would need to raise interest rates gradually from the current 0.5 percent in line with improvements in the economy to keep it from overheating in the long run.
But shaky financial markets, fears of a U.S. recession and mounting pessimism over Japan's economic outlook have led to views that the central bank will keep rates steady or even cut them this year.
The Fed has cut its benchmark overnight lending rates by 2.25 percentage points since mid-September to 3 percent.