Sept. 30 (Bloomberg) -- Japan's industrial production fell at the fastest pace in at least five years in August, the unemployment rate rose and household spending tumbled, deepening the slump in the world's second-largest economy.

Factoryoutput dropped 3.5 percent from July, the Trade Ministry said today in Tokyo. The jobless rate climbed to a two- year high of 4.2 percent and purchases by households slumped 4 percent, the most since September 2006, the government said.

Japan may already be in a recession as the U.S. economic woes weaken exports and demand at home plummets because of rising prices and the deteriorating labor market. Economic and Fiscal Policy Minister Kaoru Yosano said U.S. lawmakers' rejection of a $700 billion plan to rescue the financial system will have a ``significant effect'' on the global economy.

``Japan has one leg in a serious recession,'' said Masamichi Adachi, senior economist at JPMorgan Chase & Co. in Tokyo. ``We have to lower our growth forecasts for Japan this year given today's numbers.''

The Nikkei 225 Stock Average tumbled 4.6 percent to 11,199.07, the lowest in three years, at the break in Tokyo. The yen traded at 104.10 per dollar from 103.82 before the reports. Japan's currency gained 1.8 percent this week as the financial crisis prompted investors to withdraw from riskier assets.

Factory output declined more than the 2.4 percent estimated by economists surveyed by Bloomberg News and the most since the current index began in 2003. Analysts expected the jobless rate to rise to 4.1 percent from 4 percent.

Exports to U.S.

Japanese exports to the U.S. plunged the most on record in August amid a widening financial crisis that has put some of Wall Street's biggest firms out of business. Japan's three largest automakers -- Toyota Motor Corp., Honda Motor Co. and Nissan Motor Co. -- all cut domestic production last month.

``The question is: how much worse are the U.S. and Europe going to get?'' said David Cohen, director of Asian economic forecasting at Action Economics in Singapore. ``The Asian economies are also slowing, so they might not be able to keep the ball rolling.''

Production will rebound 1.6 percent in September before slipping 0.1 percent in October, according to companies surveyed by the Trade Ministry. Even if September's gain were to be achieved, output would fall 1.1 percent for the quarter, the third straight decline.

The last time production fell for three straight quarters was in 2001, when the economy was in a recession.

Tankan Survey

Sentiment among large manufacturers probably dropped to a five-year low this month, economists expect the Bank of Japan's quarterly Tankan survey will show tomorrow, worsening prospects for wages and hiring.

The ratio of jobs available to each applicant slid for a seventh month in August, the Labor Ministry said today. Every 100 applicants have to compete for 86 positions, the fewest since September 2004.

``Japan is having a downturn and a downturn is never good news, particularly when that comes with a sharp deceleration in employment growth,'' Huw McKay, senior international economist at Westpac Banking Corp. in Sydney, said on Bloomberg Television. ``The problem right now is that Japanese consumers are really feeling the negative terms of trade.''

The rising cost of living made households the most pessimistic they've been in at least 26 years in August. Consumer prices excluding fresh food climbed 2.4 percent last month, matching July's increase as the fastest since October 1997. Wages grew the least this year in July.

Seiyu Ltd., the Japanese unit of Wal-Mart Stores Inc., will cut 350 jobs and close about 20 of its 390 stores, the Tokyo- based company said yesterday.

Exports Key

The economy is unlikely to recover until exports improve, Economy Minister Yosano said last week after a report showed that Japan had a trade deficit in August.

The slowdown overseas is already taking a toll on the smaller companies that supply Japan's biggest makers of cars and electronics. Akebono Brake Industry Co., a Saitama-based Toyota supplier that employs 7,000 workers, last week cut its full-year profit forecast by more than half, citing weak U.S. car sales.

Japan's exporters have cushioned themselves from the U.S. downturn by diversifying their markets. Sales in Asia and oil- producing economies helped companies including Toyota and construction equipment-maker Komatsu Ltd. compensate for slumping U.S. demand in the past year.

Those markets are now showing signs of deterioration. Growth in China, which in July surpassed the U.S. as Japan's biggest overseas customer, has slowed for four quarters and both Toyota and Honda have cut production there.

To contact the reporters on this story: Jason Clenfield in Tokyo at jclenfield@bloomberg.net; Toru Fujioka in Tokyo at tfujioka1@bloomberg.net

Last Updated: September 29, 2008 22:31 EDT