Wholesale prices also slipped in the middle of May, increasing concerns about deflationary pressure.

Industrial production fell 1.1 per cent in April from the previous month, the trade ministry said. But it expects manufacturers' output to increase 0.4 per cent in May and 1.5 per cent in June on a month-on-month basis.

Although the output figures were within predictions, economists said they were concerned about high inventories.

"The dynamics of that are really the most important consideration in this economy going forward, I think, in the sense that you could see a downward spiral of production cuts, inventory adjustment, downward revisions to capital spending and layoffs," said Russell Jones, chief economist Asia at Lehman Brothers.

"And that's the mechanism by which this economy will really go into a tailspin," he added.

Atrade ministry official said the high inventory levels reflected the weak state of the economy, but hoped the government's recently announced economic stimulus package would help the situation. "Inventories are definitely not at a low level. I don't think it (the adjustment phase) will immediately end. It all depends on demand," a trade ministry official told reporters after the release of the data.

Inventories rose 0.5 per cent in April from the previous month, and the index of inventories stood at 108.9 for April, the highest level since 1973. "If you look at the ministry's forecast of a month-on-month rise in production for May and June, you can see companies are not drastically adjusting their inventories by cutting production. In a long term, that is not a positive sign," said Yoshito Sakakibara, senior economist at Goldman Sachs.

Dwindling retail sales in April, which fell 0.5 per cent from a year earlier and 2.1 per cent from March, also reinforced the economy's sad performance.