Outlook for '99: Tokyo - Japan faces a test of nerve

ON PAPER at least, 1999 will be an even worse year for Japan than 1998. Most independent forecasters foresee an overall shrinkage in the economy of around 2.5 per cent; others predict a 5 per cent drop. Unemployment will continue to rise above its current post-war high of 4.4 per cent. Fearful about their jobs, the Japanese will hold on to their earnings rather than spending them, further depressing consumption and perpetuating the cycle of business failure, redundancies and redoubled consumer caution.

The collapse of the South-east Asian economies has killed the chance of an export-led recovery. Dismal economic figures are taken for granted but 1999 will, relatively, be a triumphant year if Japan can tackle the worst aspect of the crisis: the parlous state of its banks.

Three years after the problem first became too big to ignore, Japanese banks are still burdened with some 130 trillion yen (1 trillion dollars) in bad debts. Throughout last year, politicians struggled to agree on legislation to bring order to the inevitable financial shake-down. On the face of it, a large number of banks must go out of business; last month the first of them, the stricken Nippon Credit Bank, was nationalised under new legislation. But the government still seems determined to avoid any suspicion of bank "failure" by cushioning such collapses with large amounts of taxpayers' money. To foreign investors, at least, confidence will only return when those institutions which created the loan problem are seen to have been punished with failure.

The result will be a financial system more commanding of the world's respect. But it will also mean bankruptcies, higher unemployment and the kind of social distress which Japanese politicians pride themselves on having avoided for 50 years. The question for 1999 is whether they will have the nerve.