Financial Sector

July 2002

The government will maintain full protection of deposits exclusively used for settlement purposes, creating a special exception to the end of the full guarantee on all current deposits in April. In a meeting with Minister Yanagisawa of the Financial Services Agency, Prime Minister Koizumi sought measures to protect payment functions in the banking system, to ease growing depositor worries about the re-imposition of a ceiling on deposit insurance protection. A deposit insurance cap was reinstated on time deposits in this April, but full government protection of ordinary savings deposits was extended for an extra year. Following the meeting with Yanagisawa, Koizumi stressed that elimination of full government protection on savings deposits would proceed as scheduled. Separately, Yanagisawa told reporters that the FSA would study the possibility of retaining full protection of current deposits used for settlement purposes. Deposits used for settlement purposes are fundamentally different from those used for savings and investment, and maintaining the stability of the financial system might require special treatment of deposits in which funds are parked only briefly before being paid out. The FSA will move swiftly to ensure that settlements are not impaired in the event of a financial institution failure. In concrete terms, the agency will reopen discussions about creating a framework to speed up the resolution of failed financial institutions and revisit the issue of monitoring the stability of bank computer systems. In addition to maintaining full protection of no interest-bearing demand deposits that companies use to pay their bills, the FSA will also consider offering blanket protection to any new no interest-bearing deposit products that might emerge targeting individual customers. Koizumi intends to put a halt to growing calls from the ruling coalition and business circles for a delay in the reinstatement of the deposit insurance ceiling. The underlying worry is that deposit outflows touched off by the move could undermine the stability of regional financial institutions and lead to a credit crunch for small and midsize businesses. Koizumi hopes that action directed at protecting the banking settlement system will remove this concern. The FSA is also considering using injections of public funds to encourage a process of consolidation among regional financial institutions. The FSA plans to shore up the foundation of the financial system from every possible angle, combining protection of the settlement system with a faster resolution of failed institutions and mergers to strengthen regional financial institutions. (July 31, the Nihon Keizai Shimbun)

Prime Minister Koizumi will ask Financial Services Minister Hakuo Yanagisawa and other relevant ministers to compile a package of concrete measures to ensure that regional banks and businesses can smoothly deal with next April's termination of a full guarantee on demand deposits. The government has been consistent in its policy of not postponing the termination of a full-deposit guarantee. The government spokesman said that the Financial Services Agency is considering what measures should be taken, indicating that moves to support mergers between regional banks, such as an injection of public funds and tax relief for merged banks, are expected to be included in the package. On the same issue, Finance Minister Shiokawa said that his ministry would back the policy of the FSA encouraging smaller banks to merge. His endorsement has boosted the likelihood that the government will put into place a number of programs to help stabilize the operations of regional banks. Any such move will take place in an extraordinary Diet session expected to convene in autumn and during the drafting of the budget for the next fiscal year. (July 25, the Nihon Keizai Shimbun)

The Council for regulatory Reforms urges that stock companies should be allowed to enter restricted fields, including health care, social welfare, education and agriculture, in its interim report. However, the ministries and agencies with jurisdiction over these areas oppose such deregulation, saying that entry by profit-seeking firms will compromise consumer convenience and undermine the principle of protecting the public interest. The council will likely face an uphill battle with pertinent ministries and agencies as it prepares to compile a final report by year-end. The council believes that diversity in service providers and operators will give consumers more choices while improving quality and lowering costs. As for consumer safety, it said that as long as there are regulations for services and practices at a basic level, there is no need to restrict operators and providers. The Health and Welfare Ministry said that the entry of stock companies into medical care could lead to errors and other problems as a result of a strong emphasis on profit, as the goals should be to save lives and restore patients' health. The ministry rebutted the council's call to include medical care in special regulatory reform zones. The Japan Medical Association has also warned that the equal treatment of patients, which has been made possible by the not-for-profit nature of medical care, will no longer be attainable. The Ministry of Education is resisting the council's proposals as well, with Vice Minister Ono saying that profit-driven stock companies are not appropriate to operate schools. But these arguments appear to reflect conceptual differences between those with vested interests in the mentioned areas and those without them. As for medical care, some stock companies are setting up medical corporations to operate hospitals. In several cases, some hospitals were established by stock companies for their own employees and later opened their doors to local residents. Ironically, some existing hospitals are managed even more like profit-seeking corporations than stock companies are, according to an executive of the Japan Medical Association. The entry of stock companies into farming is winning some support in the Agriculture Ministry. The steady inflow of cheap imports combined with the aging of farmers is contributing to an increase in idle farmland. Some in the ministry are expressing hopes that companies and others with the ability to farm efficiently on a large scale will take an active role in the sector. Some agricultural cooperatives and Liberal Democratic Party lawmakers are against the idea, citing the possibility that once farming operations become unprofitable, companies may begin developing farming land into leisure facilities. (July 24, the Nihon Keizai Shimbun)

The Financial Services Agency (FSA) is planning to earmark another chunk of public funds to extend financial assistance to merged financial institutions. FSA says that the current framework for public fund injections, which can only be used when the financial system is deemed at risk, cannot justify a capital infusion to support individual bank mergers. Large banks as well as regional banks, a sector facing the eminent need to reorganize itself, will be allowed to use the new facility. The agency intends to work out the specifics by the end of August, and hopes to include the plan in the fiscal 2003 draft budget. The Agency is also reviewing the Deposit Insurance Law to legalize the creation of the facility. It may submit related bills to an extraordinary Diet session expected to convene this autumn. At present, the government has 15 trillion Yen in its contingency account holding public funds for injection into troubled banks. Use of the money, however, requires an official recognition by the prime minister that the banking system is on the verge of collapse as well as endorsement of the contingency response panel comprised of ministers. The new facility could be worth several trillions of yen, and funds will be provided based on requests from banks. The FSA will not require the submission of a management reconstruction plan as a prerequisite for receiving funds, as it has for previous fund injections. The looser attitude is aimed at "helping banks combine operations in a forward-looking manner." Fund injections under the new plan will most likely take the form of buying preferred shares in a bank with taxpayers' money, as has been the case in previous injections. The new plan will cover large banks since they could be buyers of smaller financial institutions. Theoretically, major banks can take advantage of the new facility to create a merger between them. Part of the reason the FSA is considering easing conditions for giving public funds to banks is that many institutions are hesitant to apply for money, as they will lead to government interference in their operations. But easing conditions could touch off criticism that the government is loose with taxpayers' money. Hakuo Yanagisawa, minister in charge of financial affairs, has opposed an additional public fund injection to dispel concern about a financial crisis. But the minister appears open to the new scheme aimed at promoting restructuring in the banking industry. Preferred stocks bought by the government in exchange for public funds will in principle be bought back by banks, imposing no financial burden on the national public. (July 21, the Nihon Keizai Shimbun)

The government should simplify the tax system for securities trading and require the postal savings system to bear the same tax burden as private-sector institutions, a panel of experts on financial administration said in a report. Its report also called on the government to revamp the nation's financial system, which is built around banking operations involving deposits and lending. The focus should be more on direct financing with the capital market. The report consists of two parts: one proposing a future vision for the financial system and the other detailing administrative tasks, such as resolving the bad-loan problem and strengthening the capital market. Based on the report, the FSA plans to draw up its medium-term vision this fall. The report's proposals will also be discussed by the Financial System Council. The panel envisions a financial system in which banks raise lending rates based on borrowers' credit risks and handle a wider variety of products, such as securitized debt claims. Even if market-oriented financial transactions become widespread, some regional institutions would continue to exclusively serve local customers. On the reform of public-sector financial institutions, the panel focused on the postal savings system, which will be handed over to the Postal Public Corp. in April 2003. The report points out that the postal savings system is exempt from the taxes levied on private financial institutions as well as the insurance premiums paid to the Deposit Insurance Corp. It should shoulder the same financial burden as private financial institutions and work to improve information disclosure. One topic not broached was privatizing the postal savings system. It is important to have public financial institutions operate under the same market principles. The privatization of the Postal Public Corp. is expected to become a sticking point in compiling the FSA's medium-term vision. The report urged the government to thoroughly revise the existing complex system, citing the current securities tax system sets different income categories and applies different tax rates depending on the investment vehicles, such as cash stocks, stock futures and investment trusts. The panel also supported introducing a dual income tax system designed to separate investment income, such as such dividends and interest, from earned income. Panel members concurred that having an effective macroeconomic policy is a key to preventing fresh nonperforming loans from emerging. Although the panel backed using public funds to bolster the capital of banks that have a chance of reviving their businesses, it dropped from the report the idea of using public funds to help the Resolution and Collection Corp. purchase nonperforming loans. (July 13, the Nihon Keizai Shimbun)

Finance Minister Shiokawa said that the development of guidelines to promote realignment of the financial industry will be one of the key policy goals of the Koizumi government. He intends to propose that the Council on Economic and Fiscal Policy draw up the guidelines, with the Cabinet retaining overall responsibility for the matter. Tax breaks could be among the steps to promote consolidation of the financial sector. Referring to problems related to the reshuffle of major banks, large banks are still moving in lock step in the convoy-style approach. They need to shed the practice. Shiokawa also stressed that there is a need for financial system to integrate big banks and smaller financial institutions. In a related development, Minister Hakuo Yanagisawa of financial affairs intends to announce an outline of measures to promote mergers of regional financial institutions. The measures will have "no direct bearing on the guidelines mentioned by Shiokawa, though they may partly overlap," Yanagisawa said. (July 9, the Nihon Keizai Shimbun)

Finance Minister Shiokawa said at an Asia-Europe Meeting (ASEM) gathering that Tokyo aims to strengthen efforts to restructure Japan's banking industry. The Minister was apparently hinting at the ministry's intention to reorganize the industry by encouraging mergers and acquisitions and to devise measures to alleviate cutthroat competition in the belief that bank profitability must improve in order to restore stability to Japan's financial system. The minister reiterated that Japan is making steady progress to expedite bad-debt disposal at banks. He also voiced concern that the banks are not making sufficient profits even though the major institutions have been consolidated into four groups. The government will encourage uncompetitive banks to withdraw from the business. Government protection of time deposits has been capped at 10 million Yen since April and a similar measure will take effect for ordinary deposits next April. It is feared that the move will accelerate fund withdrawals from banks that are considered to be in poor financial condition. Shiokawa said this is why the banking industry needs to be further restructured to avoid any instability. The Financial Services Agency (FSA), meanwhile, is considering new legislation that would modify the deposit insurance system and provide tax breaks and other financial support to encourage mergers among regional financial institutions. Shiokawa also intends to have the operations of less-competitive banks restructured and merged with those of more sound institutions. While the Finance Ministry and the FSA differ over the details of the proposed tax breaks and financial support, Shiokawa's remarks made at the ASEM talks will likely give impetus to government efforts to revamp the banking industry. There has also been mounting criticism among foreign countries that excessive bank lending and corporate debt are simply two sides of the same coin and that unless this problem is addressed, Japanese banks' bad-debt woes will likely persist. At the ASEM talks, officials from the International Monetary Fund explicitly said that problems regarding Japan's financial industry could destabilize the global economy. (July 6, the Nihon Keizai Shimbun)

The Financial Services Agency (FSA) is discussing measures to encourage mergers between regional lenders. Measures to stabilize the financial system are imperative, particularly as government protection of bank deposits will be capped at 10 million Yen for ordinary deposit accounts from April next year, following a similar move for time deposits this April. The FSA has opposed the idea of injecting public funds into banks to replenish their capital, with Hakuo Yanagisawa, state minister for financial services, arguing that any such measure would diminish the sense of responsibility on the part of bank management. The FSA views that the restructuring of large financial institutions is more or less complete and that it is now necessary to expedite mergers among regional lenders. Meanwhile, the FSA also differs with the Council on Economic and Fiscal Policy over how to administer financial institutions. While the council wants to set earnings targets for private financial institutions, the FSA believes setting such targets would constitute excessive government intervention in the private sector. However, the Finance Ministry, the FSA and the council agree that they have to make further efforts to improve the condition of the nation's banking industry, as the scheduled end to full government protection of deposits is certain to intensify competition among financial institutions. The FSA plans to draw up proposals for measures to assist bank mergers by the time Diet goes into session early next January. Meanwhile, the outcome of Diet debate is uncertain, since a growing number of politicians belonging to the ruling political parties are calling for the postponement of the deposit-guarantee cap. (July 6, the Nihon Keizai Shimbun)

The Council on Economic and Fiscal Policy (CEFP) will require major banks to set numerical targets for profitability as part of a broader plan to facilitate the consolidation of public financial institutions. The goal of the new policy is to bolster profitability at private banks for taking over loans extended by government-affiliated financial institutions when they are consolidated. Minister Takenaka of economic and fiscal policy stressed the need to promote the consolidation of public financial institutions in tandem with the strengthening of private banks. "Government-affiliated financial institutions and private banks are like the two sides of the same coin," said Takenaka. The panel argues that if public financial institutions are consolidated, smaller companies will have nobody to turn to for loans unless private banks are ready to expand their lending. The CEFP hopes to have private banks raise their profitability and efficiency by mandating them to introduce and achieve such numerical targets as return on assets and return on equity. If banks are required to have profitability targets, they will invariably be forced to set interest rates that better reflect borrowers' default risks. The panel also believes that with such a system, banks will lend to more companies and subsequently be able to boost their financial health, which in turn will enable them to promote the disposal of bad loans. The CEFP will discuss the consolidation and privatization of public financial institutions in line with its structural reform schedule. The panel believes that small and midsize companies will not be negatively affected by the consolidation if loans provided by public lenders are gradually reduced, while lending practices by private banks are closely monitored. The CEFP will finalize the plan to introduce numerical targets by the end of this year. Although setting profitability targets is to encourage the shift of loans from public lenders to private lenders, major banks are expected to oppose setting such targets. The CEFP hopes to link the plan with a medium-term vision to be compiled by the Financial Services Agency, with the aim of thoroughly reviewing the nation's financial system. A private panel led by Hakuo Yanagisawa, state minister for the FSA, pointed out in its report the poor profitability at banks and proposed that they raise their lending rates. However, the panel is reluctant to urge banks to set numerical targets. (July 6, the Nihon Keizai Shimbun)

The Financial Services Agency (FSA) is mulling the creation of a new set of laws to encourage mergers between regional financial institutions such as banks, credit associations and credit cooperatives. Some of the proposals floated so far include special tax programs designed to facilitate the integration of banking networks. In addition, the FSA is trying to make changes to the deposit insurance system to ensure that depositors are not disadvantaged as a result of mergers, after full government protection of ordinary deposits ends next April. The FSA plans to draw up bills that will revise the Deposit Insurance Law, the Banking Law and relevant tax laws. It aims to submit them as a package to next year's ordinary Diet session and to seek their prompt passage and enactment. The envisioned legislative measures will target regional banks, second-tier regional banks, credit associations and credit cooperatives. The FSA will announce the specific points in making legal revisions. Specifically, what the FSA is considering are measures such as easing tax burdens on institutions when they carry out mergers; the tax reductions would be applied to investments for the integration of computer systems. Other tax measures would be reviewed, such as the deferral of taxes on capital gains from the sale of real estate in the wake of branch closings as well as cuts in registration and license taxes. The agency is considering these measures to have the government partially shoulder system integration expenses and will begin negotiations on details with the Finance Ministry soon. In addition, the agency seeks to include steps to simplify the merger process in the new laws. It plans to hold discussions with the Fair Trade Commission to come up with ways to potentially reduce the inspection period for proposed mergers. The FSA is also planning to simplify the merger notification process that credit cooperatives are now required to follow. The agency also plans to look at the introduction of a system that enables credit associations to buy back and retire their own subscription certificates, the equivalent of stock company shares. During mergers, credit associations tend to see increases in requests from members to sell their certificates. Credit associations are now required to sell these subscription certificates right away to other association members. If they are able instead to buy back and retire them, the associations can reduce their dividend burdens. Other proposals include a recapitalization program to inject public funds into sound financial institutions that absorb entities in relatively weaker health. For depositors with accounts at financial institutions that merge, the FSA may seek to effectively increase deposit insurance protection; if two credit associations merge, the amount covered by deposit insurance protection is cut in half. To avoid this, a depositor may decide to put the portion exceeding 10 million Yen into other financial institutions. When the 10 million Yen cap on deposit insurance protection for time deposits and other accounts was reintroduced this past April, many depositors fled small and midsize financial institutions for major banks. With ordinary deposits and others set to see the termination of blanket government protection as well next April, depositors could potentially pull their funds out of smaller regional institutions and head for major banks. To avoid such a deposit outflow, the FSA plans to encourage mergers among smaller financial institutions enabling them to have stronger capital bases, when deposit insurance caps are introduced for ordinary bank deposits. (July 6, the Nihon Keizai Shimbun)

The Financial Services Agency (FSA) will in the current fiscal year unify audits of major banks with those of their securities and investment trust subsidiaries to inspect group operations. Behind the move is a growing trend by leading banks to set up holding companies and strengthen comprehensive financial services. The FSA believes adequate oversight now requires auditing companies belonging to the same group as a whole rather than separately. The Inspection Bureau of the FSA will launch fiscal 2002 auditing of the five major banking groups in August: Mizuho Financial Group, Mitsubishi Tokyo Financial Group, UFJ Group, Resona Group and Sumitomo Mitsui Banking. The FSA will restructure its auditing staff, currently organized by the financial sector, into teams focusing on each financial group, with chief auditors assigned to a single group for at least one year. With major banks increasingly turning affiliated brokers and investment trust firms into subsidiaries, the older approach has made it tougher for assessors to grasp whether a group as a whole has sound finances. The FSA also hopes the unified audits will help it uncover illegal transactions between banks and securities houses in the same group. (July 2, the Nihon Keizai Shimbun)

The Council on Economic and Fiscal Policy (CEFP) will review its own role. The council will begin a review of its activities later this month in light of fears it has lost much of its effectiveness due to resistance from government ministries to its proposals on tax reform. Specifically, the council will consider whether its main function should be to make recommendations on economic policy or to coordinate between the ruling political parties and ministries and agencies. The CEFP was created in January 2001 with a view to shifting greater responsibility for economic and fiscal policy to the prime minister and the Cabinet and away from bureaucrats. It is unclear what the outcome of the review is likely to be, as Finance Minister Shiokawa views that the council should not have too much sway over the specifics of economic policy. While the council proposes the outlines of given policy, whether or not relevant ministries and agencies implement these ideas is decided by the Cabinet. However, proposals made by the council often become watered down as they go through debate among members of the ruling coalition parties, ministry and agency representatives. This has prompted, Minister Takenaka to consider having the panel tailor its approach to the particular matter under discussion. Specifically, Takenaka wants to have the Cabinet decide on basic policy proposals put forward by the council, after thorough discussion among the ruling parties and ministries. One of the key economic reform issues is that the prime minister should issue directives to relevant Cabinet members, as the minister hopes to give the Cabinet a leadership role in forging ahead with structural reform. Among key issues on the council's agenda for the rest of this year are vocational training, the social security system and reform of government-affiliated financial institutions. None of these issues would not be able to resolve unless the government adopts a top-down approach to reaching decisions, according to many observers. Everything will depend on whether Prime Minister Koizumi can demonstrate the necessary leadership. In the tax reform debate, the premier was forced to make concessions to the Finance Ministry, allowing tax reform policy to be geared toward revenue enhancement rather than tax cuts. The prime minister must rally ministers to get behind proposals made by the council, if the group is to have a real effect on the state of the nation's economy. When the government decided on a new package of measures to combat deflation in February, the prime minister, Takenaka and Minister of Economy, Trade and Industry Hiranuma agreed on key policy points aimed at stabilizing the financial system. This attempt to engage in top-down decision-making on applying more rigorous standards in bank inspections and public release of the results had little effect in the final analysis. This is due to the fact that the government was subsequently forced to put on hold its plan to inject public funds into troubled banks, as the proposal met with stiff resistance from the FSA. The basic policy on structural economic reform the council hammered out was also significantly revised during debate among the ruling parties and ministry representatives. A call for sweeping reviews of government expenditure in such areas as public-works projects was exercised from the policy paper. A council proposal that would have seen public benefit payouts linked to the inflation rate was also replaced, with a more moderate phrase stating that the government will take price trends into account, when reviewing pension payouts appearing in the final version. (July 1, the Nihon Keizai Shimbun)