Japan's economic revival after 10 years of deflation has been slow

Its quarterly Tankan survey of 10,000 firms showed that the sentiment index of large manufacturers fell to 19 from 23 amid anxiety about the US economy.

It was the first decline in the index in three quarters and analysts say the bleak mood is a sign of the fragility of Japan's economic recovery.

It is thought that the BoJ will not raise interest rates for a while yet.

The Tankan survey comes up with its figures by subtracting the percentage of respondents who say business conditions are poor from the percentage of those who say they are good.

Japan's main stock index, the Nikkei 225, ended the day down 22.01 points, or 0.14%, at 15,514.51, after the publication of the report.

Worsening conditions

Analysts said the weak sentiment - the most negative since September 2005 - was a result of the stronger yen eating into company profits, the higher cost of energy and uncertainty about the health of the US economy.

Digital camera-to-printer specialist Canon and carmaker Toyota are reliant on sales to overseas markets, but some of their key markets, particularly the US, now look likely to slow in 2008.

Meanwhile, falling profits at small firms, which employ about two thirds of the country's workers, could mean stunted wage growth and consumer spending.

Both manufacturers and non-manufacturers believe conditions for business will get worse next year with the index measuring expectations for confidence in March dropping to 15.

"Corporate activity will likely worsen throughout next year," said Mamoru Yamazaki, chief economist at RBS Securities in Tokyo.

"The Japanese economy will remain in a growth lull during the first half of the year."