1 October 2010 Last updated at 03:07 ET

Japan readies new stimulus moves as economy flags

The Japanese parliament is to debate a supplementary budget expected to contain a further 4.6tn yen ($55bn, £35bn) of stimulus measures.

Meanwhile, the Bank of Japan is expected to announce next week further quantitative easing - debt purchases aimed at increasing the money supply.

The moves come as new data shows the economy continues to suffer.

Core consumer prices fell 1% in August, while industrial production fell a surprise 0.3% and car sales fell 4.1%.

However, there were also some positives in a raft of new data released this week.

Unemployment fell unexpectedly to 5.1% in August, from 5.2% a month earlier.

And household spending rose faster than expected, up 1.7% versus a year earlier, compared with an expected 1.4%.

Suffering exporters Continue reading the main story

At the heart of Japan's woes is the strong yen, which has gained almost 50% in value against the dollar since mid-2007.

The continuing appreciation of the currency is undermining the competitiveness of Japanese exporters.

Data on Monday showed that exports slowed sharply in August.

The Japanese government intervened in the currency markets in mid-September, buying a reported $25bn and selling yen.

The action briefly achieved its aim of weakening the currency. But recently the yen has again neared its 15-year high of 82.88 yen to the dollar.

"We will take decisive steps from now on as well," said Japan's Prime Minister Naoto Kan, indicating his willingness to make further interventions.

Liquidity trap

The strong yen has also cheapened imports, helping to sustain Japan's persistent deflation. Consumer prices have now fallen for 18 consecutive months.

Japan has been stuck for the last 20 years in what economists call a "liquidity trap" - falling prices, interest rates stuck at zero, but savings rates remaining stubbornly high.

The Bank of Japan is under pressure to take further steps to ease monetary conditions.

Interest rates are already at 0.1%, and cannot be cut further, so the central bank must use unconventional tools such as quantitative easing - buying up Japanese debt.

Mr Kan also wants the Bank of Japan to act, as this may take the pressure off the yen.

Much of the recent yen strength is actually to do with dollar weakness - the US has also cut rates virtually to zero and faces the risk of sinking into a liquidity trap just like Japan.

With the US Federal Reserve hinting at a new round of quantitative easing, the prime minister wants his own central bank to respond in kind.

The Bank of Japan's next policy meeting is on 4-5 October.

Borrowing limits

Despite the additional spending measures in the supplementary budget, Mr Kan has made clear that Japan must cut its budget deficit in the medium term.

Japanese government debt has risen to about twice the size of its economy during the last two decades of poor growth.

"If the current fiscal situation is left alone, it will be unsustainable at some point," said the prime minister before the budget debate.

Mr Kan lost an upper house election in July because of his plan to raise sales tax, and has now called on opposition parties to co-operate over tax reforms.

However, despite the call to action over the budget deficit, the government has had no difficulty financing itself.

Thanks to the high savings of Japanese households, Tokyo can borrow for 30 years at less than 2% interest.