Japan's economy suffers first quarterly contraction in a year

Shrinking economy

The economy shrank by 0.2 percent on a quarterly basis, exceeding expectations. This downturn poses a challenge for Prime Minister Shigeru Ishiba ahead of the parliamentary elections in July, as voters are already frustrated with rising inflation and corruption within the ruling party.

Impact on monetary policy

The contraction contrasts sharply with the 0.6 percent growth recorded in the final quarter of 2024. Observers believe this may delay the Bank of Japan's plans to resume its monetary tightening program, as the last contraction was also in January-March 2024, when the economy shrank by 0.4 percent.

Economic headwinds

On an annualised basis, the economy contracted 0.7 percent in the first quarter. Experts had anticipated challenges, particularly due to Trump's trade war, which has increased uncertainty in the global economy. BNP Paribas chief economist Ryutaro Kono noted that the economic slowdown could become more pronounced in the second quarter.

Trade war consequences

Trump's aggressive trade policies, including tariffs on steel and automobiles, have exacerbated Japan's economic troubles. However, domestic and foreign demand is also weakening, leaving the economy "without a driving force," according to Yoshiki Shinke of Dai-ichi Life Research Institute.

Export decline

The latest data revealed a 0.6 percent decline in exports, a crucial growth driver, while imports surged by 2.9 percent, negatively impacting overall GDP. The Bank of Japan has revised its growth forecasts downward and maintained steady interest rates, citing trade tariffs as a source of global economic uncertainty.

Policy challenges ahead

Marcel Thieliant of Capital Economics commented that the central bank's cautious stance regarding the economic outlook is now justified, predicting an even longer wait before resuming its tightening cycle.

Government response

Stefan Angrick of Moody's Analytics warned that government policies could further strain the economy amid US tariffs. Ishiba's administration has resisted fiscal support, a strategy that appears increasingly untenable as public support wanes. A policy shift may soon be necessary, but it might arrive too late to have a meaningful impact.

Upcoming elections

These economic challenges come as Ishiba prepares for upper house elections in two months. His coalition lost its majority in the lower house in October, reflecting widespread voter discontent over rising prices and political scandals. This marked the worst election outcome for the Liberal Democratic Party (LDP) in 15 years, which has been in power almost continuously since 1955.