Financial Sector

April 2003

The government is taking the latest bout of stock slides seriously and will study aggressive measures to prop up the market. Minister Hiranuma of the Ministry of Economy, Trade and Industry (METI) cited such possible steps as the use of postal savings funds, a further easing of monetary policy by the Bank of Japan and the front-loading of public works spending. Hiranuma said that with profits at Japanese companies improving, the stock market slump will not directly deal a fatal blow to them. He said the government "needs to stem the slide in stock prices" by quickly working out supportive measures while paying attention to what steps the ruling coalition parties are considering. (April 30, the Nihon Keizai Shimbun)

New international banking rules should prompt banks to step up their efforts to dispose of bad loans, but are unlikely to present an immediate threat to their capital standing, according to regulators. A third and final fine-tuning of the New Basel Capital Accord set standards for how much capital banks must set aside against unforeseen risks, part of a regulatory overhaul that is considered one of the biggest changes to hit the industry in decades. But the new accord is called Basel II as it replaces the old 1988 Basel Accord, which likely has only a small impact on banks' capital standing should not change much from the current standards, according to a Japanese official of the Financial Services Agency. (April 30, the Daily Yomiuri, the Nihon Keizai Shimbun)

Banking-sector stocks continue to fall on concern about the profitability of Japan's banks. Some have suggested that the business model that once worked so well for Japanese banks may have to be revamped, but a sudden shift will not be a simple task. According to Keio University professor Kazuhito Ikeo, Japanese banks are commercial banks that carry a strong industrial bank flavor. Industrial banks provide loans to companies for day-to-day operations as well as capital spending, and establish deep-rooted ties with such borrowers through cross-shareholdings. German financial institutions are said to exemplify such types of lending. On the other hand, U.S. and British banks provide loans for day-to-day funding as commerical banks, while separately supporting companies in the capital markets as investment banks. Japanese banks have a hybrid style that uses the German-style of banking as a foundation, while adopting U.S. and British-styles of banking as well. The advantages of employing such a hybrid model is that even if a company grows to the point where it does not need to rely on banks for their funding anymore, banks can offset this through their retail operations. But since fiscal 1993, losses from the disposal of nonperforming loans have far exceeded banks' core operating profits, giving way to a prolonged money losing structure. Professor Ikeo believes that the banks should revamp their hybrid style and shift to becoming full-scale commercial banks or retail banks. The general reaction among major banks to such a suggestion for a business model change is mixed. The major banks are shifting the focus of their lending away from large companies to small and midsize firms as well as individual borrowers, but most say they still seek to be comprehensive institutions that provide services to all. Therefore, they remain unable to dispense with the traditional business model for major banks. The operating profits of Japan's big four banking groups range between 700 billion yen and 1 trillion yen a year. According to Bank of Japan calculations, however, banks' real interest margins, which subtract bad-loan disposal costs and expenses from loan spreads, are only about 0.5 point. Indeed, some banks generate at least half of their core operating profits through market-related operations. The ultralow interest rate environment is supporting bank earnings. At the same time, the transformation into a commercial bank is no easy task. High labor costs at major banks prevents them from competing with regional bans and credit associations. With the burden of deflation weighing down on banks, companies and individuals, a shift in business models for banks will prove to be a formidable task. (April 30, the Nihon Keizai Shimbun)

The Financial Services Agency (FSA) is preparing a manual to scrutinize various aspects of capital increases by bank holding companies. On the back of a recent series of capital increases by Japan's major banking groups, the Agency will strictly examine whether banks have abused their position as creditors by forcing borrowers to buy new shares. It prepared similar manuals to oversee banks in 1999 and life insurance companies and securities firms thereafter. The FSA began preparing the inspection manual for bank holding companies last fall and plans to finalize it in June for use from August. The manual will have a comprehensive list of items that it will check regarding private placement of shares by bank holding companies, a feature not found in its previous manuals. The FSA will ensure that bank holding companies have measures to comply with the Anti-Monopoly Law. Should they force corporate borrowers to buy new shares by taking advantage of their power as creditors, their behavior could be deemed violations of the law. The agency will also ask bank holding companies to have lawyers prepare written opinions stating that allocation of new shares to corporate clients is carried out in an appropriate manner. In addition, the FSA will carefully examine whether banks' capital increases serve to genuinely enhance their capital bases; it will look into whether group banks are using complex financial transactions and essentially are underwriting risks on behalf of clients that have purchased new shares from their parent holding companies. The FSA may determine that bank holding companies and insurance companies are not genuinely increasing their capital if they provide capital to each other. It will also check to see whether capital increases by bank holding companies could weaken the financial soundness of banks under their umbrellas or harm depositors' interests. The FSA will keep major banks from conducting capital increases backed by very high dividends that could undermine their financial standings. Using the manual, the agency will also inspect whether banks operating under holding companies are well-prepared for emergency situations resulting from banks having difficulty obtaining operating funds or facing computer system problems so as to prevent any troubles from spreading to their group firms or the nation's financial system. (April 30, the Nihon Keizai Shimbun)

The Bank of Japan's policy board voted unanimously to ease monetary policy by increasing its account balance target by 5 trillion yen to a range of 22-27 trillion yen. The BOJ said that given uncertainty over the economic and financial situation it is appropriate to raise the account balance target to maintain financial market stability, thereby strengthening support for economic recovery. In particular, the BOJ cited a possible adverse impact on Asian economies from the recent outbreak of SARS. The BOJ will pay close attention to the impact of volatile stock prices on the economy and financial markets. Continuing its focus on making easy monetary policy more effective, the BOJ also said it would accept as collateral in its money market operations loans by private-sector institutions to the government's new Industrial Revitalization Corp. (IRC). The move won't likely have significant financial market implications but signals the central bank is willing to help the government push forward with structural reforms, which the BOJ believes are necessary for easy monetary policy to have its full impact. The IRC will aim to rebuild ailing companies that don't look hopeless business-wise and could benefit from some governmental help. The BOJ will also release its semiannual risk assessment report, which includes the board members' forecasts for gross domestic product and the consumer price index for this fiscal year. The BOJ has added new sections in the risk assessment report "describing the conduct of monetary policy and the financial environment" in order to increase policy transparency. Given that the BOJ decided on additional easing today, the central bank may highlight further risks to the economy such as SARS. （April 30, Dow Jones）

The discussion of pension system reform is focusing on how unemployed housewives should be treated as beneficiaries and if it is advisable to expand pension coverage to part-time workers. Currently, full-time homemakers are eligible for pensions even if they do not pay premiums if their husbands are company employees and contribute to the pension program, which consists of two portions: the basic pension managed by the government and the other run by individual corporate pension funds. Married working women who have to pay pension premiums in addition to the contributions made by their husbands have criticized the system being unfair. Full-time housewives are also not satisfied with the system as they will be eligible only for the basic pension in case of divorce, giving up the corporate pension portion, which goes to their husbands entirely. One of the ministry's proposals calls for a 50-50 split of corporate pension benefits between husbands and wives, allowing the women to receive half the benefits even after they are divorced. The average monthly pension payment for working households now totals about 220,000 yen, 66,000 yen each for the husband and wife from the government pension program, and 85,000 yen from the corporate pension plan. This compares with 53,000 yen in total monthly premiums, which is shared equally by the worker and employer. Unemployed housewives may be required to contribute to the government pension program under another proposal being considered by the Welfare Ministry. Since they are dependents, they have to turn to their husbands and their employers for the additional contributions. Yet, another proposal calls for cutbacks in government pension benefits for full-time homemakers. This will meet strong resistance from those concerned. (April 28, the Nihon Keizai Shimbun)

The second round of special inspections conducted by the Financial Services Agency (FSA) essentially completes the task of getting major banks to tighten their loan assessments. Now, the focus shifts to the question of whether these banks will be able to meet the government's tough goals for reducing their bad-loan totals. The FSA's special inspections, conducted from January to April this year, were aimed at determining whether the internal loan assessments of major banks matched the real financial conditions of their borrowers. As a result of the examinations, the nation's 11 major banks booked an additional 1.3 trillion yen in loan loss charges for the fiscal year ended March 31, topping off loan loss reserves to more appropriate levels relative to bad loans on the balance sheet. But the major banks are still facing a major hurdle: the government's goal of halving nonperforming loans as a percentage of total lending by fiscal 2004. To meet this ambitious goal, banks have no choice but to reduce bad loans, either by successfully restoring troubled borrowers to financial health or by selling off loans. The Industrial Revitalization Council (IRC) was established for just this purpose, giving banks a framework to deal with nonperforming loans. The IRC's principal brief is to help main banks restructure troubled big borrowers, partly by purchasing nonperforming loans to these borrowers held by other lenders. Banks other than the main bank to a borrower targeted for an overhaul can remove bad loans by selling them to the IRC. Then, assuming restructurings proceed successfully, main banks will be able to reclassify nonperforming loans as healthy. If the purchase prices paid by the IRC are too low, banks selling to the entity will be forced to book losses on the sale. Bad loans to small and midsize businesses are another issue and one that is still waiting to be addressed. While the IRC focuses on large corporate borrowers, the Resolution and Collection Corp. plans to take on the role of assisting the restructuring of smaller companies. The overall success of the bad-loan cleanup may hinge on how effectively these two institutions perform. (April 26, the Nihon Keizai Shimbun)

The Bank of Japan (BOJ) is considering plans to accept loans extended to the Industrial Revitalization Corp. (IRC) as collateral when it provides liquidity to financial institutions via its market operations. Designating loans to the IRC as eligible collateral for market operations would mark a closer degree of cooperation with the government. The government is backing the IRC as a centerpiece of a wider initiative to support the restructuring of ailing companies hobbled by excessive debt loads. Poised to launch full-scale operations in May, the IRC is expected to purchase as much as 10 trillion yen in nonperforming loans over the next two years. The immediate financing for the IRC's loan purchases will come from private-sector financial institutions, which will bid to provide loans to the entity through a competitive auction process. The BOJ's acceptance of IRC loans as eligible collateral would most likely spur more active bidding by financial institutions, thus leading to lower financing costs for the entity. From the BOJ's perspective, meanwhile, the move is also expected to have benefits, making it easier for the central bank to funnel liquidity to financial institutions through market operations. The risk of accepting IRC loans as collateral is considered small because the loans will be backed by government guarantees. (April 25, the Nihon Keizai Shimbun)

Japan's major banks hiked their non-performing loan write-offs in the fiscal year, after regulators pressured them to get tougher on debt-burdened firms. Major banks added 500 billion yen more loan write-offs and cleared 800 billion yen off their balance sheets last fiscal year after the government conducted its second round of special bank inspections. The total of 1.3 trillion yen in bad loan write-offs followed 1.9 trillion yen prompted by the first round of special inspections conducted a year ago. Analysts praised the latest move, but conceded that the write-offs represent just a fraction of Japan's nonperforming loans that, by some estimates, amount to more than one-fourth of the nation's gross domestic product. The latest results come as banks downgraded loan classifications on 27 firms, or 2.4 trillion yen worth of loans, as a result of the FSA's special bank probes launched Jan. 27. Of that, some 24 firms, or 2.2 trillion yen worth of loans, belong to four of the nation's most indebted sectors, construction, real estate, wholesale and retail and nonbank financial. The audit covered 14.4 trillion yen of loans held by 167 large borrowers that have debts totaling 10 billion yen or more and have seen their share prices or credit ratings plunge. The nation's seven major banking groups now estimate losses resulting from bad-loan disposals came to some 5 trillion yen for last fiscal year, up around 1.8 trillion yen from projections made at the end of September. The increase stems largely from banks putting aside greater loan-loss reserves to reflect the results of the FSA's findings and accelerated final disposal of bad loans. The latest round of special inspections are part of Takenaka's banking-sector reform plan announced late last year. The FSA launched the probe in January to determine whether major banks had accurately assessed the default risks of major borrowers undergoing restructuring. The FSA's first round of special inspections, which targeted loans made by major banks to their most troubled and heavily indebted borrowers, was conducted in autumn 2001. The results were announced in April 2002. The fact that loan classifications for 27 firms were downgraded this time around, even after the strict probes that were conducted last year, underscores the government's vigilance in getting banks to crack down on troubled borrowers. Under the first round of inspections, loans to 71 firms, or 7.5 trillion yen worth, were downgraded. In the latest round of inspections, the FSA applied the discounted cash-flow accounting (DCF) method for the first time, a move which likely played a large role increasing banks' loan-loss provisions. The introduction of the DCF method prompted banks to add 400 billion yen of loan reserves than otherwise. Under DCF accounting, banks must consider a borrower's ability to repay loans by assessing future earnings. Most Japanese banks had previously relied on historical bankruptcy rates for the borrower's entire industry. Takenaka declined to say whether the FSA was planning a third round of special inspections, but said the government will continue to monitor and inspect the banking sector in order to solve the bad-loan problem. （April 25, Dow Jones）

The Private accounting standards body will decide whether to freeze mark-to-market rules on corporate securities holdings by the end of May. The ruling coalition requested that the Financial Accounting Standards Foundation suspend the mark-to-market rules to limit damage from the stock market plunge. Under this accounting method, companies must book their cross-held shares at market value. The Accounting Standards Board of Japan, a committee operating under the FASF, decided to solicit opinions on the issue by holding a public hearing on May 1. The ASBJ has decided against considering changes in the mark-to-market accounting method on securities holdings at least for fiscal 2002 corporate book closings. Many ASBJ members are against freezing the rule, arguing it could distort the accounting principle and undermine the credibility of Japanese firms. (April 24, Kyodo News, the Japan Times)

Business leaders voiced their objection to a proposed freeze on fair value accounting rules now in place and a delay in the introduction of asset impairment accounting, both which were proposed by the ruling coalition parties. The Japan Association of Corporate Executives (Keizai Doyukai) released a statement that read: "Accounting standard changes that are devised without thorough consideration will damage confidence in capitalist markets and the nation's financial system." Japanese companies are (already) starting to make moves according to the international accounting standards. The timing is also too late, now that March, when most Japanese firms close their books, is over. Asked about the review of fair value accounting rules, Federation of Electric Power Companies Chairman Yosaku Fuji said that electric power suppliers tend to hold stocks with low book value. So, even if they are allowed to choose accounting methods, they will not benefit much from switching to a method under which they book their stockholdings at a purchase price. Rather, many will likely conclude that it is better for them to continue practicing fair value accounting, which guarantees transparency. (April 19, the Nihon Keizai Shimbun)

Corporate accounting rules will remain unchanged when listed companies file their earnings reports for the 2002 business year. Their financial statements will be based on the globally accepted mark-to-market accounting rule, according to the Accounting Standards board of Japan. A group of coalition politicians have been urging that the rule be suspended so companies could artificially inflate their earnings by listing he value of their shareholdings at the time of purchase,, rather than current market value. ABSJ members said that they consider temporarily suspending the rule in the future. A majority of more than 2,000 listed companies are scheduled to release their earnings reports for fiscal 2002 later this month or early next month. The members will also consider a proposal to delay for two years the introduction of another rule that would require firms to report a sharp decline in their fixed asset prices. The board also plans to gather opinions from industries that would be affected by changing the rule and conclude discussions as soon as possible. Suspending the mark-to-market rule would not free companies from the Commercial Code that encourages disclosing a steep decline of their asset holdings. (April 18, the Japan Times, Kyodo News)

The government's Tax Commission began discussions to reduce taxes imposed on investors suffering losses from stock trading to encourage individuals to engage in risky stock investments. Consequently, the deliberations will not be aimed at devising measures to quickly lift the depressed stock market, as sought by business leaders. The spotlight of the discussions will be on a proposed measure to allow investors to offset gains and losses from financial securities holdings. In the fiscal 2003 tax reform, the government decided to reduce to 10% taxes on capital gains and dividends on listed stocks, as well as distributions from equity mutual funds. It has also decided to allow investors to deduct losses from redemptions of mutual funds from capital gains starting from next January. The subcommittee will now study enabling investors to deduct more losses from their gains. Under the current system, an investor who had 1 million yen in capital losses and earned a dividend income of 1 million yen has to pay 100,000 yen in taxes that are imposed on the income. If the new measure allowing the offsetting of capital losses with dividend income is approved, no taxes will be due. Also on the agenda of the deliberations is a possible introduction of the taxpayer number system. According to the subcommittee, tax authorities must use such a system to confirm the accuracy of investors' tax filings in order to ensure fairness for taxpayers who will not receive tax breaks offered to investors. The proposed assignment of a number to all taxpayers has been controversial from the point of privacy protection. Therefore, the subcommittee plans to consider requiring only those who will benefit from the proposed measures to use a taxpayer number. The nation's three leading business groups unveiled joint emergency proposals aimed at propping up stocks, including exempting investors' dividend income from taxation. (April 16, the Nihon Keizai Shimbun)

Finance Minister Shiokawa was opposed to a proposal by three top business lobbies to lift the capital gains tax on the sale of stocks. The Prime Minister also voiced an objection to the proposal. Chief Cabinet Secretary Fukuda confirmed the government stance, saying that the capital gains tax proposal is not a matter that should be implemented soon. He appreciated the effort by the business groups and will consider the feasibility of the proposal, adding that early change could weaken the battered stock market further. (April 16, Kyodo News, the Daily Yomiuri, Dow Jones )

The Industrial Revitalization Council (IRC) plans to buy 7.3 trillion yen in claims on bank loans to troubled companies over a two-year period after it begins operations in May. The IRC will begin selling them in the second year. It is expected to report a loss in its first two years of operation, but the sale of loans is predicted to pick up in its third year, leading to an accumulated profit of 42.1 billion yen over five years. The IRC will earn profits from interested rates on loans to companies seeking to rehabilitate under the corporation, while the cost of evaluating assets and employees' salaries will be considered as expenditures. It will incur a loss of 42.5 billion yen in the first year, but post a surplus of 56 billion yen in the third year. The IRC is expected to eliminate all its outstanding obligations in the fifth year. About the calculations of new organization's profits and losses, Minister Tanigaki for industrial revitalization said that IRC's operations will not be restricted by the estimates. The IRC is responsible for purchasing loans extended by banks other than main creditor banks to support the revitalization of struggling companies. The corporation plans to purchase 3.7 trillion yen of loans in its first year and 3.6 trillion yen in the second year. The IRC's operation will start on May 8. (April 16, Kyodo News, the Daily Yomiuri, the Nihon Keizai Shimbun)The government's Council on Economic and Fiscal Policy (CEFP) is ready to discuss structural reforms, such as the introduction of a "bracket budget" system, while the Ministry of Finance has begun to direct its eyes to a "merit-based" budget allocation formula. Attention is now on whether the government can realize such drastic changes in the method of budget allocation to reinvigorate the domestic economy. The municipal government has introduced the bracket budget system beginning this fiscal year. The ward office transferred to individual departments most of the public-finance department's authority to examine budget requests and execute budgets. The system gives each department autonomy in deciding how to make actual disbursements within a bracket of funds. Each division in the municipal government works out how to use the limited budget resources, according to an order of priority given to administrative services it provides. The public-finance division will now shift the focus of its business onto checks on how budget funds have been actually spent. The budget bracket system is aimed at making it possible for funds to be allotted to priority areas, while curbing overall outlays. Making a budget plan, executing the budget and stringently evaluating the way the budget was used are a series of routine work conducted at private-sector companies. As Takenaka sees it, the central government has been lacking this budget management know-how. Review of the country's budget system is a major issue on the agenda of the CEFP this year. The MOF launched probes on the way budgets are spent, in a bid to realize a "merit-based" distribution of budget funds, according to a proposal from Finance Minister Shiokawa. The envisioned system aims to reflect creditable or poor performance in budget spending on budget allocations for the following years. This year, the ministry plans to lay particular stress on inspection of 18 special accounts of the national budget, such as those for public pension/insurance programs, state-run hospitals and the buildup of airport facilities. Inspection results are due to be put together in June and be referred to scrutiny by a subcommittee of the Fiscal System Council. The government is now required to carry out visible reform in the three stages of budget business: planning, implementation and posterior assessment. A "qualitative" improvement in budget allocation is of vital importance at a time when fiscal difficulties make it difficult to increase outlays from the state coffers. (April 15, the Nihon Keizai Shimbun)

Hoping to bolster stock prices, the nation's three business lobbies called fir a freeze on the tax on capital gains from the sale of shares. The Japan Business Federation (Nippon Keidanren), the Japan Association of Corporate Executives and the Japan Chamber of Commerce and Industry made the proposal to the government. They also urged the government to suspend the tax on dividends and halve the tax burden on inheritance. The measures target stocks that investors bought or will buy in fiscal 2003. Leaders of the three business lobbies agreed that a prolonged slump in stock prices could have a serious impact on the financial system but also on the economy. But Prime Minister Koizumi remained adamant in his determination not to take any new measure to turn the stock market around, while suggesting his reluctance to give any additional fiscal stimulus to the economy. It is crucial to press ahead with the reform policies, according to Koizumi. Financial regulators were also cool toward the business community's proposal, since the government launched the revised securities tax code April 1. It needs to see how this will affect share prices in the medium to long term. It is important to help the new system of levying a 10% tax on capital gains from stock sales filter down into the market as a part of the tax system modifications for fiscal 2003. Minister Takenaka of Financial Services said that if market players are allowed to harbor expectations that the tax system will be altered again, it would set up obstacles to the new system. (April 15, Kyodo News, the Japan Times, the Daily Yomiuri, the Nihon Keizai Shimbun, Dow Jones)

The International Monetary Fund's policy panel urged Japan to work faster to end deflation, clean up bad bank loans and boost corporate restructuring to help jump-start a global economic recovery. In Japan, further steps are needed to strengthen the banking and corporate sectors and end deflation, accompanied by a start toward strengthening the medium term fiscal position, according to the IMF's International Monetary and Financial Committee. Japan's finance Minister Shiokawa briefed his counterparts from 23 other IMF member countries on Japan's efforts to put its economy on a firm recovery path. Shiokawa said that the Government and the Bank of Japan are making efforts in an integrated manner to secure the stability of the financial and capital markets and overcome deflation, both of which are indispensable for the revitalization of the Japanese economy. IMF Managing director Horst Koehler warned that survey evidence suggests deflationary expectations are becoming more widespread and persistent. The committee reaffirmed its commitment to close international cooperation to strengthen confidence and support the global recovery. (April 14, Kyodo News, the Japan Times, the Nihon Keizai Shimbun)

The Financial Services Agency (FSA) is designing a new crisis management framework for regional financial institutions. With regional economies mired in deepening slumps across Japan, the FSA wants to put in place a reinforced safety net that will prevent potential failures of regional financial institutions from touching off a wider financial system crisis. The new safety net will be anchored by special loans from the Bank of Japan and injections of public funds to shore up the capital bases of weak lenders. The FSA has already adopted a new special assistance framework that will enable regulatory authorities to consider immediate fund injections and BOJ loans if a major bank falls into a crisis. Now the agency is trying to lay out the concrete conditions under which these options could be employed for regional financial institutions, precisely when aid should be provided and to what entities (April 12, the Nihon Keizai Shimbun)

In an effort to maintain a neutral stance when choosing debt-ridden companies to rehabilitate, a new government backed industrial revival body will not hire bank employees or retirees. The Industrial Revitalization Corp. (IRC) will start operations on May 8 with a workforce of about 100. The IRC unofficially decided on the appointments for senior posts, and none are from the banking sector. The move is intended to defend possible criticism that the group favors banks by giving them a better price for their bad loans to troubled companies, which may be purchased by IRC. The IRC is to help rebuild heavily indebted firms that are still considered viable by accelerating bad loan disposal in Japan's banking system. But the new organization could draw criticism if it finds difficult to make a fair judgment in determining which indebted companies are still viable. (April 12, Kyodo News, the Japan Times)

The Financial Services Agency (FSA) and the Bank of Japan (BOJ) have decided not require regional banks to use the discounted cash flow method in assessing loan loss reserves. Many of the regional institutions' borrowers are small and midsize business, whose future earnings would be very difficult to accurately estimate. They will leave the decision on whether to use the accounting method to each individual bank. Widely used in the U.S., the DCF method requires banks to set aside any difference between the present value of the loan, derived from the expected future cash flows at the borrower, and the actual principal amount. (April 9, the Nihon Keizai Shimbun )

Minister Takenaka of economic, fiscal and financial policy expressed caution about a Liberal Democratic Party (LDP) proposal to freeze the mark-to-market accounting method on corporate securities holdings to limit damage from falling stock prices. The importance on an accounting practice generally considered fair and adequate should be emphasized. Taro Aso, chairman of LDP Policy Research Council, and Hideyuki Aizawa, chairman of the LDP's ad hoc committee for measures to fight deflation, made the proposal in a meeting with Takenaka. (April 9, Kyodo News, the Daily Yomiuri)

The Bank of Japan (BOJ) will purchase commercial paper backed by company receivables to help smaller firms gain access to finance. The BOJ board voted by an undisclosed majority to keep monetary settings steady, the first split decision of the board on monetary policy since March 2002, following continued strong pressure from the government to further ease policy. The BOJ left the target for its liquidity measure, the account balance, at a range of 17 trillion-22 trillion yen. But it maintained its commitment from mid-February to pump extra funds into Japan's financial system if necessary to maintain market stability. The central bank left unchanged its monthly purchases of government bonds at 1.2 trillion yen, but it may broaden its asset purchases, which help the BOJ achieve its liquidity target, to include asset-backed commercial paper (ABCP). The following is the BOJ statement: Ample liquidity provision by the Bank of Japan has made a significant contribution to securing financial market stability and upholding the economy and prices. For the ample liquidity provision to effectively lead to economic expansion, however, it is deemed necessary to strengthen the transmission mechanism of monetary easing.（April 8, Dow Jones, the Nihon Keizai shimbun）

In a bid to help meet the funding needs of small and midsize firms, the Bank of Japan policy board will generate measures aimed at nurturing the asset-backed commercial paper (ABCP) market. Specific measures, such as BOJ purchases of commercial paper backed by companies' accounts receivable will be discussed by the board. Currently, the BOJ provides funds to the market through such methods as buying government bonds from financial institutions. But instead of using this money to extend loans, banks are choosing relatively safe investments such as government bonds because of such factors as bad loans. On the other hand, small and midsize companies that are heavily dependent on bank loans for their funding have had a difficult time securing necessary cash. Consequently, the economic stimulus effect of monetary easing is waning. If the BOJ is able to encourage growth of the ABCP market through purchases, it would mark the first round of measures to overcome the waning impact of monetary policy. ABCP instruments are issued by companies to raise short-term funds and are backed by accounts receivable or loan claims. These instruments have not yet taken off in popularity among investors, so the balance of issuance is limited to around 5 trillion yen. If the market were to grow, however, the day-to-day funding of small and midsize companies that harbor accounts receivable could possibly improve. The BOJ already provides funding to financial institutions that use ABCP as collateral. But it will be difficult for the BOJ to purchase all ABCP instruments, since there is the risk that the accounts receivable backing the instruments could become worthless if the firms responsible for them go bankrupt. Currently, the BOJ purchases commercial paper via repurchase agreements as part of its money market operations. Its purchases are said to be basically limited to commercial paper that has a credit rating equivalent to A or higher. The government will urge an increase in its monthly outright purchases of government bonds from the current 1.2 trillion yen. But many at the BOJ are cautious about this because of uncertainty about the bank's ability to stimulate the economy as well as the impact on the bond market. In addition, the government may press for the purchase of stock-index-linked exchange-traded funds. Again BOJ officials remain cautious about that as well because the bank's ability to encourage the flow of funds to companies remains uncertain. (April 7, the Nihon Keizai Shimbun, the Mainichi Shimbun)

The government's Tax Commission will focus on easing tax-deductible write-off rules to facilitate disposals of nonperforming loans by banks. There are three steps now under review to encourage banks to dispose of their bad loans. One is to bolster the tax-deductible write-off program, and another is to lift a suspension of loss carry-backs and extend the carry-back period allowed from one year to 15 years. The third step is to extend the permitted span for loss carry-forwards from the current five years to 10 years. Many lawmakers oppose the reintroduction of loss carry-backs, because they are concerned about a decline in tax revenue. This step is also strongly criticized because the government is seen as giving tax benefits only to financial institutions. Although these measures to facilitate bad-loan disposals were originally requested by the Financial Services Agency (FSA) late last year, they were not included in the fiscal 2003 tax reform plan. The recent stock market downturn prompted the ruling parties to urge the government to consider these steps immediately, and Finance Minister Shiokawa indicated his intention to put them on the Tax Commission's agenda again. There is room for some revision in the interpretation of the tax-deductible write-off standards, according to panel Chairman Hiromitsu Ishi, who indicated his willingness to bolster the program. The FSA seeks banks to categorize borrowers that are effectively in negative net worth as being in danger of bankruptcy and to build up loan loss reserves. Under current tax law, banks are not allowed to book such loan loss provisions as a tax-deductible expense unless the troubled borrowers have been in negative net worth for quite a long time. The Tax Commission plans to review these differences and clarify the standards. However,the tax panel is not keen on lifting the freeze on loss carrybacks, which was effected in 1992 due to tight government finances; tax revenue would fall by nearly 10 trillion yen, if the suspension were lifted and the carryback period would be lengthened to 15 years, as requested by the FSA. Ishi dismissed this measure, as it is preposterous to call for the lifting of the freeze when tax revenue totals just 41 trillion yen. A shorter extension of the carryback period would likely limit the banks that can benefit from the measure, as the majority of banks have been suffering net losses. (April 2, the Nihon Keizai Shimbun)

Having launched a program to buy portfolio shares from private-sector banks last November, the BOJ has concluded that it must bolster its capital base in order to ensure that potential losses on purchased shares do not threaten its financial soundness as the nation's central bank. The BOJ will request Finance Minister Shiokawa for formal approval in mid-April to raise the component of capital known as the legal reserve. The new Bank of Japan Law requires the central bank to transfer 5% of all net income to the legal reserve, which is seen as a vital cushion against potential future losses. The imminent request to bolster its legal reserve is the first by the central bank since the new BOJ Law went into effect in 1998. Increasing the legal reserve would require the BOJ to reduce its payments to the national treasury. Masakazu Hayashi, administrative vice minister at the MOF, indicated that the issue of increasing the BOJ's legal reserve would require a careful dialogue with the central bank. BOJ payments to the government grow out of profits from banknote issuance, and one view is that this money should be returned to the Japanese public as a whole. The immediate reason for beefing up the legal reserve is the growing vulnerability of the BOJ's balance sheet to asset value declines due to its share-purchasing program. The BOJ has purchased just over 1 trillion yen worth of portfolio shares from banks so far, and with the benchmark Nikkei Stock Average ending the fiscal year under 8,000, there is a real danger that the BOJ's financial stability could be shaken by the stock market slide. But the view is also emerging among BOJ watchers that the bank may be trying to pave the way for new open-market operations, in which it would purchase assets that carry far more price risk than the government debt securities that form the mainstay of open-market operations now. As part of a wider effort to provide a financing lift to small and midsize businesses, the BOJ is studying the possibility of purchasing commercial paper backed by corporate accounts receivable. (April 1, the Nihon Keizai Shimbun)