Stock markets slid in Japan on Monday despite government announcements that the country was out of recession. (Yuriko Nakao/Reuters)

Japan's economy broke free of recession in the second quarter, the government said Monday, expanding at an annual pace of 3.7 per cent on a strong rebound in exports.

The recovery in the April-June quarter was driven by robust demand for exports such as video recorders and other electronics goods, said Kingo Toyoda of the Cabinet Office. Shipments to China and other emerging markets were particularly strong. Exports grew 6.3 per cent from the previous quarter, the highest growth since the second quarter of 2002.

Government stimulus measures have also helped, such as cash handouts and incentives to buy ecological products — although economists warned that the impact of such measures may peter out.

Despite the increase in exports, economists said the nascent recovery could quickly run out of steam because domestic demand remains weak. Salaries are falling and the unemployment rate has risen to a six-year high of 5.4 per cent as companies such as Toyota Motor Corp. and Sony Corp. have cut thousands of jobs.

During the quarter through June 30, compensation for employees dipped 1.7 per cent, the data showed, while consumer spending edged up a tepid 0.8 per cent.

"When you look at the numbers, the contrast between external demand and internal demand is as clear as night and day," said Hiroshi Watanabe, economist with Daiwa Institute of Research in Tokyo. "With payments falling, it's really hard to expect individual spending to hold up."

Year-long contraction

The rebound in the world's second-largest economy came after a steep, year-long contraction in gross domestic product, including a worst-ever drop in the final quarter of 2008, when the economy shrank at a 13.1 per cent pace.

The news from Japan comes amid signs that the global economy may be recovering from its slump. Last week, France and Germany, Europe's two biggest economies, said they resumed growing in the second quarter, while Hong Kong also said it expanded after a year-long recession.

But Japanese stocks fell Monday on concerns about weak U.S. consumer sentiment that could mean bad news for Japan's export-driven economy. The Nikkei 225 was down 2.2 per cent at 10,360.25 by midday.

Economy and fiscal policy minister Yoshimasa Hayashi warned that "risk factors" remain, including high unemployment and sluggish production.

"Production is still at a low level, and worries remain that employment conditions will worsen. So we must watch the downside risks," he said.

Private capital investment slid 4.3 per cent from the previous quarter, while housing investment plunged 9.5 per cent, the government said.

Compared to the previous quarter, Japan's GDP expanded 0.9 per cent in April-June. If that rate were maintained for a full year, the economy would grow 3.7 per cent.

That was better than the three per cent rate projected by the Economic Planning Association, a government-affiliated group of economists.

Also Monday, the government said in revised data that the economy had contracted 3.2 per cent in the fiscal year through March 31, following 1.8 per cent growth in the previous fiscal year, ending March 2008.