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  Jitters in Japan for Savers and Banks

By:  Ken Belson
The  New York Times, January 22, 2002

TOKYO, Jan. 22 — As Japan's debt-sodden banks stagger to the end of the fiscal year in March, the impending end of the government's blanket guarantee on bank deposits is causing skittish savers to pull their money out of the country's smallest lenders, sinking some and potentially generating a wider economic crisis, with larger banks also at risk.

On Monday, Moody's Investors Service lowered the deposit ratings for five regional banks and downgraded the outlook for Japan's biggest banks to negative from stable. Moody's (news/quote) said it "considers the Japanese banking system to be in a grossly inadequate financial shape to meet the new challenges from a changing systemic support mechanism."

Paul H. O'Neill, the United States Treasury secretary, urged Finance Minister Masajuro Shiokawa today to press Japan's banks to write off their most troublesome loans. Mr. O'Neill was in Tokyo for the Afghan donors conference.

Lawmakers from the ruling party have increasingly been calling for the government to keep the blanket guarantee for at least another year — yet another test for Prime Minister Junichiro Koizumi, who wants to clean up the ailing financial system with market-based solutions instead.

The plan to end the full guarantee on bank deposits, which Mr. Koizumi calls a subsidy for weak banks, was in the works under an earlier administration but was postponed as lawmakers decided that the financial system was too weak.

Despite the growing pressure, Mr. Koizumi seems determined to stand firm. He sees important long-term gains from doing so and fears a backlash from investors.

Starting in April, fixed-term deposits at any single bank will be insured only up to 10 million yen ($75,466) for each saver, a system similar to that of the Federal Deposit Insurance Corporation in the United States. Ordinary savings accounts will be treated the same way beginning in April 2003.

In normal times, the ending of the blanket guarantee would probably cause barely a ripple. After all, people who want all their savings guaranteed by the government need only open accounts in multiple banks and keep no more than 10 million yen in each.

But these are not normal times in Japan. Profits at most banks have been eroded by a recession, a weak stock market and growing competition, leaving many with mountains of bad loans and high expenses.

Even so, the Japanese remain prodigious savers, parking 55 percent of their money, or $7.7 trillion, in banks. Burned by years of falling stock prices, they have traded high returns for piece of mind.

Interest rates on ordinary accounts are only around 0.03 percent, and twice that for certificates of deposit, but all deposits have been fully guaranteed since 1996, when the system was put in place to bolster public confidence after seven housing loan corporations collapsed.

In anticipation of the limited guarantees, however, many savers have been taking their money out of institutions they view as weak — most of them credit unions and cooperatives, the country's smallest lenders — and shifting it up the food chain: from the tiny co-ops to the small regional banks, and from the small regional banks to the big city banks.

Money is also going into the post office savings system, gold, nonyen accounts and mattresses. According to Richard Jerram, an economist at ING Baring Securities in Tokyo, as much as 100 trillion yen ($755 billion) is being moved around because of the deposit-guarantee change.

At the smallest banks, deposits fell 1.5 percent in the last three months of 2001. And time deposits, which banks rely on to provide cash for predictable periods, fell more than 30 percent at the nation's credit cooperatives in the first nine months of last year.

The exodus of money out of smaller institutions proved to be the final blow for a record 46 credit unions and cooperatives that collapsed last year. Ishikawa Bank, a larger regional lender, folded in December, the first failure of a full-fledged bank in two years.

Though the more than 600 cooperatives hold just 10 percent of the nation's savings, they are the lender of last resort for the millions of small companies that employ about 90 percent of Japan's work force. The demise of the co-ops has stoked fears that corporate bankruptcies will skyrocket, leaving banks of all stripes with even larger losses.

"From now until the end of March, there will be a financial crisis," Yoichi Masuzoe, a member of Parliament, said earlier this month.

Another problem for Mr. Koizumi is that the co-ops are at the center of many rural districts, where few banking alternatives exist and his Liberal Democrats win most of their support.

Abnormal economy requires special measures

By: Susumu Saito
The Asahi Shinbun, January 16, 2002

Japan appears to be sitting idly waiting for another economic and financial crisis to unfold. 

It seems those in power would use such a crisis as a pretext to inject more public funds
into the Japanese banking system for its recapitalization. Those opposed to the economic policy of the ruling Liberal Democratic party appear ready to use such an occasion to attack and try to topple the government. 

The rapid deterioration in Japanese business conditions is most vividly demonstrated by nose-diving industrial production over the past year. In November, the index of industrial production had already fallen about 16 percent from its August 2000 peak. The electronics industry experienced a 30-percent fall in production. Many companies have seen their sales fall by half in less than a year. 

The level of industrial production in November was about the same as in the autumn of 1987, and below the bottoms recorded in the first and second Heisei recessions in the 1990s. If the recent rate of decline continues for six months or so, industrial production will fall back to the level of 1986, when it remained almost flat for almost a year as a consequence of the rapid rise in the yen's exchange rate against the dollar. 

Since 1986, Japan's manufacturing capacity has expanded by about 50 percent. So the return of industrial production to 1986 levels means about 30 percent of Japan's manufacturing capacity will have become redundant. As manufacturing activity is closely related to non-manufacturing activity, it is no exaggeration to say that about 30 percent of Japan's companies and their workforces are in peril of going under if overall business conditions remain depressed for a prolonged period. 

The rapid weakening of Japanese business activity has resulted in a large number of problem bank loans coming to light. According to data released by the Bank of Japan, the five categories of Japanese banks (i.e., city banks, trust banks, long-term credit banks, regional banks and second-tier regional banks) had 443.196 trillion yen in outstanding loans on their balance sheets at the end of November 2001. This sum represents a decline of 10.1 percent, or 49.523 trillion yen, from the peak of 493.023 trillion yen reached at the end of December 1997. Despite this seemingly drastic cut in loans outstanding for the past four years, about 112 trillion yen, or about 25 percent of the total loans outstanding, is still estimated to have been extended at interest below the prime lending rate of 1.375 percent as of the end of November 2001. In other words, this amount of outstanding loans is potentially bad and will eventually have to be written off if the current strategy of directly cutting problematic loans is to be continued. 

Many opinion leaders have criticized Japanese banks for their slow progress in reducing the scale of problem loans in all loans outstanding, despite the injection of public funds in 1998 and 1999. Their misguided criticism comes from their ignorance of the full picture of Japan's banking problem. 

In 1992, the size of potentially bad loans outstanding held by Japanese banks already exceeded 150 trillion yen, or about 30 percent of the total. If other private financial institutions such as shinkin banks, credit unions and insurance companies had been taken into account, the scale of potentially bad loans would have increased by about 50 percent, or more than 200 trillion yen in total. 

In other words, Japan's financial system would have been insolvent in 1992 if their assets had been evaluated at market prices. 

Without the recovery of asset prices and steady expansion of economic activity, forcing Japanese banks directly to write off bad loans has only transformed the once potential problem of insolvency into an apparent one. 

The forced contraction of outstanding loans, coupled with the government's tighter fiscal policy, has contributed to depressing domestic activity and asset prices for the past four years to result in the exhaustion of all the net worth of Japanese banks. Under these circumstances, the collapse of several major Japanese companies with total debt of only several trillion yen will play the role of the last straw that breaks the back of the Japanese banking system. 

Effective on April 1, 2002, the guaranteed payoff of insured time deposits from a failed financial institution will not exceed 10 million yen per depositor, according to the Japanese government. And also effective on April 1, 2003, the guaranteed payoff of all other insured deposits from a failed financial institution will not exceed 10 million yen per depositor, ending a temporary measure to protect all the deposits without any upper limit since 1996. 

Depositors are said to have been shifting their money from many shaky financial institutions in time before the deadline of March 31. Accordingly, bank failures are expected to rise substantially. To deal with this situation, the Financial Services Agency intends to use 15 trillion yen on the contingency account of the Deposit Insurance Corporation. As is suggested by the size of potentially bad loans outstanding held by Japanese banks, such an amount will not suffice to protect deposits at the failed financial institutions. 

Naturally, the general public, frightened at the prospect of losing deposits, will allow the Japanese government to inject into the Japanese banking system as much money as is deemed necessary. It was quite easy for any sensible economist to predict that the current deflationary economic policy would lead to such a financial situation. If so, there remains serious doubt that the Japanese government has deliberately engineered the economic and financial situation to bend the view of the general public with the threat of a ``major financial crisis.'' 

Some economists, especially Americans, argue that more than 130 trillion yen should be mobilized to write off bad loans all at once. It is technically possible for the Japanese government to mobilize such a huge amount of funds all at once. Then, the Japanese government will have to issue new bonds in the same amount, and the Bank of Japan will have to buy all those new bonds by printing yen. 

The results, however, will be quite unpleasant not only for the Japanese economy as a whole but also for the Asian economies in particular. 

First, Japan's public debt will balloon instantly, leaving virtually no room for reflating the depressed Japanese economy through fiscal policy. 

Secondly, deposits withdrawn from the failed banks will be re-deposited at viable banks. Those viable banks flooded with new deposits, however, will find it difficult to find new investment opportunities in the depressed Japanese economy. The result will be a huge exodus of capital from Japan to result in a sharp weakening of the yen. 

It will mean exporting deflation from Japan to the Asian economies that compete with Japan in the export market. And the greatest beneficiary will be the U.S. economy, where the bulk of Japan's capital will be headed. It is no wonder that the U.S. government and their proxy economists urge the Japanese government to use mass injections of public money to clean up the nation's bad bank loan mess. 

Another beneficiary will be Japan's surviving export-oriented companies. They will enjoy the stronger price competitiveness that results from a weaker yen, while their Japanese competitors are extinguished in the process of writing them off from Japanese banks' balance sheets with the help of massive public funds. 

The biggest loser will be the whole national economy. In the process of writing off bad loans hastily on a massive scale, the Japanese economy will be obliged to shrink sharply while capital is drained from it. 

This whole dilemma stems from the pretense that the nation's economy is in a normal state where conventional monetary and fiscal policy tools can manage to lead business conditions on a steady growth path. To introduce capital and foreign exchange controls, for example, will open other options for the Japanese economy to reflate itself and reduce bad loans at the same time with public funds much smaller than 130 trillion yen. Note that the size of bad loans is not a ``fixed'' number, but is ``relative'' to the level of economic activity.

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