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The first release of Japan’s GDP for the first quarter of 2011 contains the damage from the ┬ádevastating March 11 catastrophe and is expected to mark the return of Japan to recession. The release will shake currencies. Here are the details, and 5 scenarios for the outcome and for USD/JPY.

Released Wednesday at 23:50 GMT.

Indicator Background

Towards the end of Q1, Japan was hit by a huge earthquake, 9 in Richter scale. The shock resulted in a devastating tsunami that washed away villages and with a nuclear disaster comparable to that in Chernobyl.

The disaster also had direct economic implications, with many car factories paralyzed for a long time, chain supplies disrupted and with a currency that remained relatively strong, making it hard exporters. Japan’s economy is manufacturing and export oriented.

The yen initially gained on speculation of repatriation movements to rebuild the country. This was answered with a big coordinated intervention that had a temporary effect.

But even without the earthquake, Japan wasn’t doing well. It has a debt that is more than double its GDP, deflation and it already squeezed in Q4 of 2010 by 0.3%.

We are now expecting a contraction of 0.5%. Two consecutive quarters of contraction (or negative growth if you wish), are officially a recession. Expectations are thus very low.

Sentiment and Levels

Despite all the troubles, the yen remains a “safe haven” currency that is sought in times of trouble. This makes the picture around Dollar/yen quite balanced at this time, with no specific tendency.

Technical levels from top to bottom: 85.50, 84.50, 84, 83.40, 82.87, 81.33, 80.40, 79.75, 78.27.

5 Scenarios

  1. Within expectations: -0.4% to -0.6% – USD/JPY shakes and remains within range.
  2. Above expectations: -0.1% to -0.3% – Lower contraction, but still a recession – USD/JPY drops with a good chance of breaking one level of support.
  3. Well above expectations: 0% or higher – no recession will be excellent news, but this isn’t likely. In such a case, Dollar/yen will fall and is likely to test a second level of support.
  4. Below expectations: -0.7% to -0.9%: A deeper recession will send the pair higher, with a chance of breaking resistance.
  5. Well below expectations: -1% or worse – a contraction of over 1% will be very bad news, significantly increasing the debt to GDP ratio. USD/JPY will likely break more than one level of resistance.

For more about the yen, see the USD/JPY forecast.