Japanese start to spend again after years of fear

Their waistlines may suffer but workers in Tokyo can at least celebrate the news that, despite living in one of world's most expensive cities, they need to spend just 10 minutes at their desks to afford a Big Mac - six minutes less than Londoners, according to UBS.

Tokyo's citizens are using their extra spending power to buy household appliances and eat out as Japan's lost decade of deflation, debt, bankruptcies and redundancies fades into history. The world's second-biggest economy grew 3.2% in 2005, and growth of 2.1% is forecast for the year to March 2007. But Japan remains vulnerable to a slowdown in the US and Chinese economies.

In a sign that deflation may have been beaten, consumer prices rose for the eighth month in June. It is the latest in a sustained rise that led the Bank of Japan to raise interest rates in July from zero to 0.25% - its first increase for six years.

Some economists expected unusually cool weather to blunt consumption in the second quarter but demand for appliances, travel and dining out did not fall, according to cabinet office figures. Private consumption rose 0.5% on the quarter - higher than the 0.2% forecast.

Analysts see the trend continuing. Richard Jerram, of Macquarie Securities in Tokyo, said: "Consumer confidence is firmly based. The corporate sector has put the problems of the last decade behind it and is now recruiting permanent employees for the first time in 10 years. With accelerated job growth and better wages, the profits are starting to trickle down to workers ... The problem wasn't that people were saving and not spending but that they didn't have the money to spend in the first place."

Fears that higher rates would slow corporate spending were not realised - bank lending was 2.2% higher in July from a year earlier, the fastest pace in a decade. Buoyed by healthier balance sheets, companies are again digging into their pockets, with investment rising at its fastest pace since 1991, according to the Development Bank of Japan.

Private-sector capital investment rose 3.8% in the last quarter and sentiment is positive. A Kyodo agency poll this week found 94 of 100 firms expect the economy to expand until next spring, although 80 were concerned about the US slowdown and soaring oil prices, which are at their highest in 16 years.

While corporate bankruptcies still rose last month (from 1,024 to 1,051), debt fell 35% to 310bn yen (£1.42bn).

The cut-throat methods of Wall Street are also being adopted in Japan with an unprecedented rush of takeovers shaking up normally stuffy boardrooms. Between January and July, Japan saw 1,641 mergers and acquisitions worth ¥7.8 trillion - up more than 8% on the year, the consultancy Recof Corp said.

Japan's deflationary ghosts may have been laid to rest but the country could yet suffer if fears of a global economic slowdown are realised.

Japan's public debt, at 170% of GDP, is the largest in the industrialised world. Tackling this will take a few years and Japan remains sensitive to any fall in exports to China and the US, where the prospects for a slump grow by the day.

Japan's growth slowed slightly in the April-June quarter, with a weaker-than-expected annualised rate of 0.8% as efforts to cut spending on public works began to take effect and exports dipped.

But Jesper Koll, of Merrill Lynch in Tokyo, does not feel uneasy. "Japan has always been geared into the global economy, so it will always depend on global economic growth," he said. "But if you're asking if a slowdown in the US or China will pull Japan back into deflation, then the answer is no."

China rate rise

China raised interest rates yesterday in its latest attempt to cool a red-hot economy. The People's Bank of China raised its deposit rate by 0.27 percentage points to 2.52% and its lending rate by the same magnitude to 6.12%. "The problems of over-rapid investment growth and credit expansion and an excessively large trade surplus are pressing," the central bank said.

The Chinese economy expanded by 11.3% in the second quarter from a year earlier, its quickest for a decade. Figures this week, however, suggested industrial output and capital spending might be beginning to slow.

"The move is again small in nominal terms but represents a desire by the Chinese authorities to cool an overheating and unbalanced economy," said Paul Niven, head of asset allocation at F&C Asset Management in London.