Japan Financial Crisis

1. Japan Financial Crisis By: Sander Chau Winslow Han

4. Postwar Financial System • Bank-based system with underdeveloped stock and bond market. • Stable system – no threat of new entry • Safe but inefficient system • Postwar system could not last forever • Banks grew too large but restricted by many restrictions

5. 4 Basic Causes of Bank Difficulties • Failure to create prudential regulatory system • Macroeconomic mismanagement • Effects of Globalization • High rate of financial innovation

6. Prudential Regulatory System • Deregulation of the system took place without creating a effective system • Generates competition • Profit no longer guaranteed

7. 5 Macroeconomic Policy Mistakes • Interest Rates were at postwar lows • Not easing monetary and fiscal policies in the early 90’s • Relying excessively on easy monetary policies in the mid 90’s • Fiscal Stimulus through supplementary budgets in the mid 90’s, too little too late. • Wrong optimistic forecast for ‘97

8. Effects of Globalization • Economic and financial policies subject to foreign pressures • World’s largest creditor nation: Japanese financial institutions engaged in foreign lending and portfolio investment • Flourishing of a free global capital market • Big Bang deregulation creates competition in Japan home market from foreign financial institutions

9. Financial Technology Innovation • Wide range of new financial derivatives • Mostly American and some European players • Japanese banks unable to learn • The most capable Japanese are hired away by foreign firms

12. Banking Sector Problems • Mergers and failures have left Japan with 7 major banks • Low profitability for more than 10 yrs • Banks depend too heavily on revenue from lending • Government sponsored financial institutions • Evergreening

13. Comparison to US Banks • Interest Margin of Japanese banks 1.2% compared to 3.3 to 3.5% of assets • “Other Revenue” 38% revenue from lending operations compared to US 73% of lending revenue

14. Government Sponsored Institutions • Japan Post: post office and largest deposit-taking institution in the world • Heavily subsidized • 9 times the branches of all city banks • Same rate on deposits, explicit government guarantee, no maintenance fee, lower rate on lending, no prepayment penalties • Strong government resistance to address this problem and no public recognition of the losses that these government institutions have made with explicit subsidies

15. Table 1: An Overview of the Japanese Financial System

16. Bank Problem Example • 1.1 trillion yen of public funds injected into Asahi and Daiwa Banks • March 2003: Asahi and Daiwa Banks merge into Resona Bank (5th largest) • Resona granted another 1.96 trillion yen • September 2003: Resona records loss of 1.76 trillion yen for period between Mar-Sept 03 (90% capital provided, disappears) • Regulators principal aim to avoid large bank failures • Little attention to future viability of recapitalized banks • Regulators did not systematically force other banks to reassess their risk ratings • Gives little incentive for Banks to restructure

17. Book Value and Adjusted Capital in the Japanese Banking Sector

18. Conclusion • Cumulative loan losses by banks since 1990 is 91.5 trillion yen (18% of current Japanese GDP) • Tax payer burden very likely at least 100 trillion yen (20% of GDP) • Solutions: • Banks must shrink in size • Find alternative means of income other than lending • Recapitalization and restructuring • Reining in of Government sponsored financial institutions