TOKYO - JAPAN'S economy slid into a recession for the first time since 2001, the government said on Monday, as companies sharply cut back on spending in the third quarter amid the unfolding global financial crisis.

The world's second-largest economy contracted at an annual pace of 0.4 per cent in the July-September period after a declining an annualised 3.7 per cent in the second quarter. That means Japan, along with the 15-nation euro-zone, is now technically in a recession, defined as two straight quarters of contraction.

The result was worse than expected. Economists surveyed by Kyodo News agency had predicted gross domestic product would gain an annualised 0.1 per cent.

Japan's Economy Minister Kaoru Yosano said following the data's release that 'the economy is in a recessionary phase'.

But the worst may be yet to come, especially with dramatic declines in demand from consumers overseas for Japan's autos and electronics gadgets.

Hurt also by a strengthening yen, a growing number of exporters big and small are slashing their profit, sales and spending projections for the full fiscal year through March.

Toyota Motor Corp., for example, has cut net profit full-year profit forecast to 550 billion yen (S$8.6 billion) - about a third of last year's earnings. And Sony Corp., whose July-September profit plunged 72 per cent, expects to make 59 per cent less this fiscal year than last year.

'What we're starting to see is the extent of deterioration in external demand start to weigh more heavily on the Japanese economy,' said Glen Maguire, chief Asia economist at Societe Generale. 'And I think looking forward, there's every indication that dynamic is going to continue.'

Compared to the previous quarter, GDP shrank 0.1 per cent, the Cabinet Office said. Business investment - a main driver of Japan's six-year economic recovery since 2002 - dropped 1.7 per cent from the previous quarter.

'As the global economy is expected to slow down for the time being, downward movements (in Japan) are expected to continue,' Mr Yosano said, according to Kyodo.

Investors seemed to take the news in stride. The Nikkei 225 index, already down sharply this year, edged up 0.7 per cent to 8,522.58.

Since taking office in late September, Japanese Prime Minister Taro Aso has unveiled two economic stimulus packages in an effort to cushion the blow. His latest 27 trillion-yen proposal includes expanded credits for small businesses and a total 2 trillion yen in cash disbursements to households.

At its last meeting, the Bank of Japan cut its key interest rate for the first time in more than seven years, lowering it to 0.3 per cent, joining central banks around the world in trimming borrowing costs.

In its semiannual outlook report, the central bank slashed its projection for economic growth to just 0.1 per cent for the year through March, compared with a 1.2 per cent gain it projected in July. It said both exports and domestic private demand have weakened.

The deteriorating conditions also recently led Masamichi Adachi, senior economist at JPMorgan Securities in Tokyo, to downgrade his outlook on the Japanese economy.

'We are now looking for a severe recession, similar to that during Japan's own financial market crisis in 1997 to 1998, and to the current US recession, in terms of depth of real GDP contraction,' he said in a report.

Monday's data showed that net exports sapped 0.2 percentage point from growth, as the high cost of importing fuel eclipsed a slight increase in outbound shipments. Imports rose 1.9 per cent, while exports grew 0.7 per cent.

Private consumption, which accounts for more than half of inflation-adjusted GDP, increased 0.3 per cent from the previous quarter. However, the rebound in consumer demand is unlikely to last, economists say. -- AP