TOKYO (AFP) - Japan's economy posted its sharpest contraction in nearly seven years last quarter, the government said Friday, raising calls for companies to hike workers' wages to help offset a looming recession. The world's second largest economy shrank at an annualised 3.0 percent in the three months through June, worse than the 2.4 percent previously thought, as both domestic demand and exports faltered and raw material prices soared. Compared with the previous quarter, the economy shrank by 0.7 percent. A first reading made last month had put that figure at 0.6 percent, the Cabinet Office said. It was the first contraction in one year and the sharpest since an annual 4.5 percent fall in the quarter through September 2001. But it was less than analysts had expected and had little impact on the stock market or the yen. Kaoru Yosano, the economy and fiscal policy minister, urged corporate Japan needed to prop up wages to stimulate spending at home as a global downturn slows demand for exports " long Japan's key driver of economic growth. Japan, which once prided itself as 100 percent middle class, has seen rising concern about an income gap. Wage growth has been tepid despite rising profits for major companies since recovering from recession in the 1990s. "It is desirable that income for employed people increase," Yosano told reporters. "We want company managers to recognise that pay rises would compensate for price rises," he said. Yosano is one of five candidates seeking to be prime minister in a September 22 vote by the ruling Liberal Democratic Party. The race has focused on how to manage the troubled economy. Domestic demand was worse in the second quarter than previously expected. It slipped 0.7 percent from the previous quarter, more severe than the 0.6 percent earlier estimated. Kyohei Morita, analyst at Barclays Capital Research, voiced alarm that nominal employee compensation fell for the first time in five quarters. "To date, nominal compensation continued to show positive growth while real compensation slumped on rising consumer prices," he said. "The latest turn of events underscores the severity of the environment surrounding households," he said. Economists generally consider a recession to be two straight quarters of negative growth. "The economy has entered a cyclical downswing, given the sharp deterioration in the terms of trade and slowing global demand," Lehman Brothers economist Kenichi Kawasaki said. "In addition to the US economy, the European and Asian economies are also showing increasing signs of weakness, suggesting that external demand will likely continue to soften in coming quarters," he said. But in an upbeat sign, revised data out Friday showed industrial production gaining 1.3 percent in July, higher than the originally forecast 0.9 percent. The initially reported jump, attributed to brisk auto exports to some developing economies, had startled markets which were expecting demand overseas to stay weak. In the quarter to June, exports fell a revised 2.5 percent, worse than the 2.3 percent that was earlier forecast. Despite the data, the Tokyo Stock Exchange's benchmark index rose by nearly one percent on hopes for improvements in the US financial sector.