International ratings agency Fitch cut Japan's sovereign credit standing on Monday and said the ratings could face pressure again unless Japan presses ahead with reforms and gives a clearer picture of how it will rein in debt.
Fitch downgraded Japan's long-term local and foreign currency sovereign ratings to AA from AA plus -- a notch below the grade given by fellow agency Standard & Poor's, which shaved Japan's sovereign credit ratings to AA plus from AAA in February.
"The ratings remain on negative outlook," Fitch said.
"Japan's credit fundamentals continue to deteriorate. The world recession has robbed the economy of its only bright spots in recent years -- exports and high-tech investment," it added.
In another blow, S&P said on Monday there was a possibility it could downgrade Japan's government debt rating by a steep two notches. That knocked the yen down against the dollar to 124.29 from 124.06 and piled pressure on the government debt market.
Japan's economy is facing its fourth recession in a decade, with unemployment at a record high 5.3 percent, exports flagging, consumer spending stalled and banks awash in red ink and bad debts.
Attempts to pump-prime the economy out of a decade-long slump with heavy doses of government spending have given Japan the industrialised world's worst debt burden at more than 140 percent of gross domestic product (GDP).
Fitch sees this rising to more than 150 percent by the end of next year.
"Unless we see significant progress on the structural reform agenda and much clearer plans to achieve medium-term fiscal consolidation, it seems likely the rating could come under further pressure over the next one to two years," Fitch's managing director of Japan, Sadateru Nishiura, told TV.
The agency kept Japan's short-term foreign currency rating unchanged at F1 plus.
"In a largely vain attempt to kick-start the economy, the government has continued to borrow roughly eight percent of GDP per year. This has seen gross government debt rise above 140 percent of GDP and Fitch expects it to exceed 150 percent by end 2002," the ratings agency said in a statement.
But Nishiura said the reform credentials of Prime Minister Junichiro Koizumi's government looked much better than those of past administrations, and that its plans showed a serious commitment to reform.
Koizumi sprang to power last April promising painful reforms to revive the stagnant economy and to root out the vested-interest politics which have kept the long-ruling Liberal Democratic Party from adapting to a changing economic landscape.
LIMITED STOCK MARKET REACTION
The downgrade had only a limited impact on Tokyo stocks, which were up after a firmer Wall Street. But bond prices sagged on fears that the Fitch cut could foreshadow further downgrades by other credit agencies.
Key 10-year December government bond futures <0#JGB:> ended the morning session down 0.12 point at 140.16, and the yield on the 10-year JGB was up a half basis point at 1.360 percent.
Many foreign exchange dealers said the dollar was expected to approach this year's high of 126.84 hit in early April as the market focuses on Japan's weakening fundamentals.
"Since the market was already anticipating a possible downgrade by Moody's or S&P, today's rating cut by Fitch was not too surprising," said Hideaki Furumaya, head of the interbank desk at Mizuho Trust & Banking.
The market has been on heightened alert for another ratings downgrade after both Moody's Investors Service and S&P said in September they had started reviewing their ratings on Japanese debt for a possible downgrade.
"Fitch's news induced some bids to send the dollar slightly higher, but it did not last too long after meeting stiff sales near 124.50," Furumaya said. "But the yen's trend is clearly very weak and it's a matter of time before it falls further."
A Fitch official said Japan's deflation was a concern at a time when both public and private debt were at high levels.
"Deflation is a particular concern in the context of high debt levels in the public and private sector and is also going to exacerbate the asset quality problems that we see in the banking system," senior sovereign analyst Brian Coulton said.