By Kiyoshi Takenaka and Katya Golubkova
NAGATO, Japan (Reuters) - Japanese Prime Minister Japanese Prime Minister Shinzo Abe and Russian President Vladimir Putin met at a hot spring resort on Thursday in search of progress on a territorial row that has blocked a peace treaty formally ending World War Two.
The two sides are likely to clinch agreements on economic cooperation in areas from medical technology to energy.
But both have sought to dampen expectations of a breakthrough in the feud over the windswept islands in the western Pacific seized by Soviet forces at the end of the war, forcing some 17,000 Japanese residents to flee.
Putin, who arrived nearly three hours late for the start of two days of summit talks, told Abe that the Japanese premier's efforts had led to a shift in ties and he hoped their meetings would "bring a significant contribution in developing Russia-Japan ties".
The two met at a mountainside inn at the hot spring resort of Nagato in Abe's home constituency in southwest Japan. They will meet again in Tokyo on Friday.
"After such a meeting between leaders, I promise you can relax in onsen," Abe said in welcoming Putin, referring to the hot spring.
Abe has pledged to resolve the territorial dispute, in hopes of leaving a diplomatic legacy that eluded his foreign minister father, and of building better ties with Russia to counter a rising China.
But a deal to end the dispute over the islands, known in Japan as the Northern Territories and in Russia as the Southern Kuriles, carries risks for Putin, who does not want to tarnish his image at home of a staunch defender of Russian sovereignty.
The isles have strategic value for Russia, ensuring naval access to the western Pacific.
"The hurdles that remain to be cleared are still quite high," Yasutoshi Nishimura, an adviser to Abe, told Reuters. "On the other hand, they are two strong leaders, so I hope that some broad path forward and direction will emerge."
Abe’s bid to improve ties with Russia had worried Washington, but President-elect Donald Trump is expected to seek a thaw with Moscow.
That could reduce pressure on Abe but also reduce Putin's appetite for compromise since he would have less to gain from driving a wedge between Washington and Tokyo.
The talks also come as Russia faces Western criticism over the destruction of eastern Aleppo in Syria, where Russia is backing Syrian President Bashar al-Assad’s forces.
Russia hopes to clinch deals with Japanese companies as part of an Asian pivot in response to a decision by Western governments, including Japan, to impose sanctions in 2014 over Russia's role in the Ukraine conflict.
Putin told the Yomiuri newspaper this week that the goal of a peace treaty would be harder to achieve if Russia remained subject to Japanese sanctions.
But Japan's trade minister, Hiroshige Seko, has ruled out any economic cooperation with Russia that would undermine Group of Seven unity on the sanctions.
Japan has long insisted its sovereignty over all four of the disputed islands off Japan's northern island of Hokkaido be confirmed before a peace treaty is signed.
But there have been signs it has been rethinking its stance, perhaps by reviving a formula called "two-plus-alpha", based partly on a 1956 joint declaration in which the Soviet Union agreed it would hand over the two smaller islands after a peace treaty was signed.
Over the decades, the two sides have at times floated the idea of joint economic activity on the islands, but how to do that without undercutting either side's claim to sovereignty has never been resolved.
(Writing by Linda Sieg; Additional reporting by Minami Funakoshi, Ami Miyazaki and Nobuhiro Kubo, Elaine Lies in Tokyo; Editing by Robert Birsel)