Necessary adjustments.

JAPAN has enjoyed a two-year economic expansion, one that has not involved pork barrel spending and has generally been driven by Japan's competitive export-oriented sectors. These sectors have been driven by demand from China and the rest of Asia, as Japan provides the high value-added components that are required for the assembly work in the lower-cost Asian countries.

During that period the export sector has provided sufficient time for the banks to take some serious steps toward resolving their outstanding problems. The recent fracas over UFJ is proof positive that we have entered a new phase for the larger Japanese banks--though we think the regional ones still have a bit more struggling to endure.

With the upturn in the export sector and restructuring working through the economy, employment started to rise. A number of these jobs have been of a "lower quality" (i.e., they tended to be part-time or fixed-contract, reducing benefits to the employee.) This is part of the adjustment that must work through the system.

The same adjustment that happened in the UK in the 80s and is currently happening in Germany and France needs to happen here. In many cases, these new jobs have tended to be more productive.

The jobs market has been loosening up while the burden on employers has eased, creating a more flexible environment overall.

One would think that increased activity in the corporate sector, combined with the employment spike, would have a salutary effect on both corporate and consumer spending--the latter of which is most important, as it is the foundation of the domestic economy.

Unfortunately, however, statistics released in late summer revealed a 3.5 percent decline in consumer spending. Worse still was the wage data, which showed a steady and abiding drop.

These numbers raise some doubts over our generally bullish view on Japan. We're not prepared to go bearish just yet. But we may be in for a lull in growth as more structural changes are manifest--and as the effects of those changes ripple through the economy.