Japan could face a third "lost" decade of sluggish economic growth that will leave it struggling to whittle down the heaviest debt burden among developed nations, Moody's ratings agency said on Monday.

It chided the government's failure to meet a self-imposed June 20 deadline for announcing a long-term plan to deal with the country's debts as negative, suggesting it is edging closer to cutting Japan's credit rating.

Japan has been mired in economic stagnation for much of the past two decades, slipping from second to third in the world rankings of biggest economies and building up some $10 trillion in debt as it tried to spur growth through spending.

The March earthquake and tsunami is set to add to Japan's debt load as the government spends on reconstruction.

"While Japan is likely to have a V-shaped recovery later this year from the March 11 earthquake, subsequent economic growth may subside to a lackluster pace," Moody's said in a statement on its website.

"It is not inconceivable the country would have a third "lost" decade of growth," it said.

Japan's economy has stagnated since an asset price bubble burst in 1990, leaving banks with high debts and an economy in deflation.
GDP growth in the decade up to the global financial crisis in 2008 was about 1.3 percent a year, less than half the 3 percent pace achieved by the United States.

"Moody's view is understandable," said Seiji Adachi, senior economist at Deutsche Securities. "The possibility of another "lost decade" for Japan is growing."

He said higher electricity bills, a rise in the sales tax and the possibility of higher income tax for funding reconstruction after the March disaster would leave Japanese with less spare cash.

"The combination of three burdens is likely to depress economic growth," Adachi said.

Rapid ageing of Japan's society and a decline in household savings are expected to weigh on the economy in the future and place further strain on government finances.

At twice the size of the economy, Japan's public debt is the highest in the industrialized world.

All three major ratings agencies have their fingers poised on the trigger to downgrade Japan's credit status because of the government's failure to come up with a feasible plan to reduce the debt in the years ahead.
Japan's government delayed endorsing plans to curb the public debt on June 20 as some ruling party lawmakers balked at being tied to a deadline for raising the national sales tax and because of uncertainty over when unpopular Prime Minister Naoto Kan would quit, as he had promised.

"This development is credit negative as it does not anchor government finances in a framework that holds out the possibility for containing debt," Tom Byrne, the ratings agency's senior vice president and regional credit officer said in comments posted on the website.

In May, Moody's said it would complete a review within three months on whether to downgrade Japan's Aa2 local and foreign currency ratings.

At the time, it said Japan may not be able to avoid a ratings downgrade even if it was able to put together a strong plan to reform social welfare spending and boost tax revenues.

"We're suggesting that a more likely outcome is a downgrade, even with a seemingly strong fiscal program," Byrne said on May 31.

The Aa2 rating is Moody's third-highest ranking, one notch above the ratings from Fitch Ratings and Standard & Poor's Ratings Services. All the firms have a negative outlook on their ratings.

TIPPING POINT

Japan's reliance on domestic investors, who hold around 95 percent of its debt, shields it from the sort of turmoil embroiling Europe, analysts say.

That explains why yields on Japan's 10-year government bonds are so low at just over 1 percent and why markets take comments from ratings services in their stride, they say.

"Ratings agencies could downgrade Japan," said Takuji Aida, senior economist at UBS Securities in Tokyo.

"We don't see a serious fiscal funding problem right now, and that's why yields are so low. Eventually the consumption tax has to be raised, but it should be on condition of a recovery in the economy."

Ratings agencies say a funding crisis for Japan is unlikely in the next few years.

But without urgent government action now, debt pressures will build up over time to reach a tipping point.

Kan said earlier this month he would quit following criticism of his response to the March disaster. But he has been vague about when he would step down, paralyzing policy making.

A survey by the Nikkei business daily newspaper showed on Monday that 60 percent of Japanese voters want him to quit by the end of August.

The government proposes doubling the country's consumption, or sales, tax to 10 percent in four years to boost revenues.

Earlier in June, the International Monetary Fund urged Japan to raise the tax to 7 percent or 8 percent from next year and eventually to 15 percent over several years.

The government plan though faces opposition from within the ruling party. Opponents want economic recovery and the return of inflation as conditions that must be met before the tax is increased. They fear an increase in the tax will stunt consumption and harm the economy, prolonging the years of sluggish growth.

The lack of progress on a fiscal plan is frustrating businesses.

"For Japan, it is inevitable to raise consumption tax," said Hiromasa Yonekura, head of the Japan Business Federation, known as Keidanren, Japan's most influential business lobby.

"We need to see fiscal consolidation as soon as possible. We need funding for reconstruction but also need to instill confidence at home and abroad by showing a clear path forward (on fiscal reform)."