After languishing in an interminable recession and enduring several false starts for more than fifteen years, Japan is finally showing several promising signs of shaking off its malaise and returning to its former status as one of the world’s most dynamic economies.

The Japanese ‘Post-War Miracle’ is the stuff of economics legend. After losing badly in World War II, with most of its infrastructure destroyed and citizenry dazed, Japan surprised the world by posting stratospheric growth rates during an extended period of rapidly increasing productivity and prosperity that saw the nation grow to be the world leader in per capita GDP by the late 1980’s. This economic strength eventually engendered an overabundance of confidence and rampant speculation that set the stage for a major correction. The turnaround began with the bursting of the speculative asset market bubble in 1990. The most closely tracked index of major Japanese stocks, the Nikkei 225, fell almost 40 percent over the course of 1990 and real estate values followed suit, gradually losing as much as 50 percent during the 1990’s.

The initial shock to the asset markets and the central bank’s tight monetary policy combined to simultaneously cripple consumer spending and business investment. This initiated a deflationary cycle of extremely limited liquidity and depressed opportunities for growth. Increased unemployment and falling wages further reinforced the lack of consumer confidence and reduced spending, contributing to Japan’s intransigent slump over the last one and a half decades.

Despite several previous false starts that had experts mistakenly predicting a Japanese resurgence, economic data from 2005 finally indicates the potential for a lasting recovery. This new optimism is fueled by an end to debilitating deflation, an increasing willingness to invest, improving consumer confidence, and a strong rebound in the asset markets.

After suffering with the stagnating influence of deflation since 1998, one of the most promising signs of a recovery is the gradual return to inflation. Japan’s Consumer Price Index (CPI) rose .1 percent for the period of November 2004 to November 2005 and the Bank of Japan forecasts a steady rise in prices as economic growth accelerates.

The Bank of Japan’s controversial move to flood the market with liquidity by holding interest rates at 0 appears to finally be paying off. Both business investment and consumer spending have picked up. The low short term interest rates have slowly reversed the longstanding declines in domestic investment. Bank lending fell only .2 percent in December 2005, the smallest decrease in five years. This signals that companies are seeking to borrow more funds for expansionary projects and households are becoming less concerned about saving as a precaution against deflation.

Surging consumer confidence further buoys hopes for a durable economic improvement. Bank of Japan’s December 2005 consumer confidence index indicated that while there are still slightly more consumers with negative views of the economy than positive views, the gap has narrowed considerably level since the index was first taken in 1996. Other indexes of long term confidence and economic health from the end of last year showed positive forecasts at least through the first half of 2006.

If this turnaround in consumer confidence translates into an enduring increase in spending, Japanese companies can look forward to a jump in sales and profits in the near future. Improving corporate bottom lines will lead to more capital investments and demand for workers. This in turn will raise wages, reduce unemployment, and reinforce gains in consumer confidence and spending.

Japan’s asset markets similarly reflect a growing optimism in the nation’s economic future and have recently shown a strong recovery from post-bubble lows. The Nikkei has more than doubled since hitting a 20-year low in early 2003 and gained 44 percent in 2005 alone. Early last year, urban real estate prices moved higher for the first time in more than a decade and continue to show signs of recovery.

These are all encouraging indications of an economic resurgence, but they may not be enough to positively conclude that Japan has seen the end of its slump. Throughout the fifteen years of stagnation, economists continually pointed to scraps of good news as evidence that the economy was finally on track. The short-lived upswing in consumer prices in 1996-97 and coinciding stock market rally had some experts declaring an end to the recession, only to have deflation return and the stock market hit a new 20 year low.

Despite these past failures of positive predictors, it appears that Japan may finally have the fundamental ingredients for a legitimate return to economic health. The primary difference between the situation now and during the previous false indicators is the wide range of statistics that have recently turned positive. With the simultaneous return of inflation, increase in capital investment, rise in consumer spending, and recovery of the asset, Japan appears to have finally turned the corner on its economic woes.