Annual Report on the Japanese

Economy and Public Finance


- No Gains without Reforms II -

November 2002

Cabinet Office

Government of Japan

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Chapter 1

   Overview of the Capacity for Economic Recovery

   The Japanese economy, which had continued to deteriorate throughout 2001, gradually reduced the pace of its deterioration and bottomed out in early 2002, with some sectors showing signs of improvement. The question is what degree of strength and sustainability the economic recovery will have. The purpose of this Report is to identify the background that led to the bottoming out of the economy and examine the strength of the economic recovery.
   Section I reviews the current state of the economy and characteristics of the recovery phase and analyzes the causes and impact of the deflation that is proceeding along with the recent business cycles. With regard to deflation, the Report analyzes its impacts not only on goods and service prices but also on asset prices. Section 2 reviews what actions each economic entity--the corporate, banking, and household sectors--took in the phase leading up to the bottoming out of the economy. Section 3 analyzes the impact of fiscal and monetary policies on the macro economy. Lastly, Section 4 overviews the environment surrounding the bottomed-out Japanese economy and the prospects for the Japanese economy.
   The conclusions of the above reviews and analyses in Chapter 1 can be summarized as follows.
   The economy has bottomed out, supported by production adjustment implemented at speed and on an unprecedented scale, and by sharp increase in exports against the background of the recovery of the world economy. However, corporations and banks are still promoting adjustments of balance sheets, employment, etc. and the consumption behavior of households remains sluggish.
   If the increase in exports and the pick-up in production lead to an increase in corporate profits and improvement of the employment/income environment, private demand will gradually begin to recover. However, since adjustment by corporations and banks is expected to continue, its downward pressure on the economy will remain in place and the momentum for economic recovery will remain weak for some time to come. Moreover, with stock prices falling worldwide, concerns about the future course of the world economy are increasing. If the movement of the world economy puts downward pressure on the Japanese economy, it might lead to a stall in the economic recovery starting with the corporate sector.

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