A plunge in Japanese real estate could wreck the economy

A wave of business failures in the property sector could seriously threaten the Japanese economy, analysts are warning.

Commercial and residential real estate markets in Japan are slumping, and with banks reluctant to lend, developers, contractors and other property companies are increasingly in peril.

Fears have increased since New City Residence Corp., a real estate investment trust, went bust a month ago, becoming the first REIT to fail since the trusts were allowed to sell stock to the public.

'Property developers could face more bankruptcies if banks continue their severe attitude,' said Masahiro Mochizuki, a REIT analyst at Credit Suisse in Tokyo.

Andreas Schuster, head of research at CLSA, said smaller property developers are most at risk and might face severe losses in the coming months. A lack of financing means it's nearly impossible for them to find the cash to continue operations.

'Japan has not yet seen the colossal collapse you could expect if you look at the oversupply that is built into the system. But falling property prices will result in big losses for developers large and small,' he added.

Some believe that the Japanese government must take urgent action to prevent more business failures. The $51 billion economic stimulus package aimed at restoring financial stability to the country may not be enough, they are warning.

'The most important thing is to prevent the bankruptcy of the real estate companies, so that it doesn't expand to other industries,' said Yoji Otani, senior analyst at Credit Suisse.

But even if the real estate slide is halted, that may not be enough to keep the domestic economy afloat. The Bank of Japan and the Ministry of Finance recently released reports projecting weakening local economies throughout the country.

Japanese household spending in September was down for the seventh month in a row. Unemployment is rising and an appreciating currency is hurting Japan's exporters. Honda cut its annual revenue forecast for the 2009 fiscal year to $5.2 billion, a 19% decline compared with FY2008 results. Sony announced that its profit dropped 72% in the first half of the year.

In September, the number of Japanese companies filing for bankruptcy shot up 34.5% compared with September 2007, the biggest spike in business failures since March 2000.