Financial Sector

October 2003

Further monetary easing may become necessary if the specter of a further rise in the yen against the dollar grow s more likely, according to the Bank of Japan (BOJ) board. Though the effects of quantitative easing on foreign exchange rates are unclear, the BOJ may be able to generate expectations for a weaker yen if it bolsters its easing policy amid the global economic recovery. If the dollar falls further below the Y110 line, Japanese manufacturers' earnings could be eroded, with many firms having assumed a dollar exchange rate of around Y115 at the beginning of the current fiscal year. The yen's rise may have a serious impact on the economy as many Japanese companies are becoming more reliant on exports. The BOJ board said that central bank will keep a close watch on currency exchange rate movements. BOJ concerns that even a small shock could lead to a sharp rise in long-term, interest rates, in light of the huge amount of outstanding government bonds. (October 28, Jiji-Press, the Japan Times)

The Accounting Standards Board of Japan (ASBJ) is poised to oppose a proposal issued by the International Accounting Standards Board (IASB) to require insurance companies to disclose the fair value of liabilities and assets. The ASBJ, a private-sector body to set Japan's accounting standards, opposes the timing of the proposed fair value disclosure requirement; The IASB plans to adopt in 2006. From the perspective of the ASBJ, the main problem is that the IASB has yet to define precisely how fair value of insurance assets and liabilities should be calculated. Imposing a requirement for fair value disclosure without mapping out measurement rules may cause turmoil among both life insurers and investors, according to the ASBJ. Although the IASB hopes to hammer out the proper calculation methods during the period leading up to the adoption of the new standard, the ASBJ will propose delaying the disclosure requirement until a clear set of rules on fair value measurement can be finalized. The ASBJ will formalize its stance, to prepare for submitting a written comment to the IASB before the Oct. 31 deadline. The dissenting opinion of the ASBJ echoes mounting opposition to fair value disclosure in the insurance industry in the U.S., Europe and Japan. The fundamental stance of insurance companies is that fair value accounting is inappropriate to the long-term investment horizon to match their liabilities. One underlying worry in the industry is that the adoption of fair value disclosure may cause insurance liabilities to appear larger when interest rates are low, as a lower discount rate would be used to calculate the present value of those obligations. The IASB's plan to require fair value disclosure in the insurance industry is part of a wider move by the accounting body to orchestrate global convergence around the principle of fair value accounting. After weighing the opinions of standard setters from various nations, the IASB aims to craft a provisional set of implementation rules by March 2004. With the strong opposition in both the U.S. and Europe, there is a real possibility that the disclosure requirement will be delayed. Although Japanese insurance companies are not required to follow international accounting standards, a new set of international rules would put pressure on Japan to review its own standards. (October 22, the Nihon Keizai Shimbun)

The Bank of Japan (BOJ) voices concern over yen. The central bank will closely watch developments in overseas economies and financial markets, expressing caution over the rising yen. BOJ governor Fukui said that BOJ is firmly committed to maintaining its quantitative easing policy until the consumer price index logs zero percent or above on a year-on-year basis, a move intended to help the budding economic recovery. The Asian economy has rebounded since the epidemic of severe acute respiratory syndrome was over come. Fukui said that Japan's export climate and business sentiment have improved due to the robust recoveries of the U.S. and East Asian economies, and that exports and production are likely to gain steam, bringing positive effects to the economy. Policymakers are also concerned a stronger yen could hurt Japanese exporters by making their goods more expensive foreign competition, causing the export driven recovery to falter. (October 21, Kyodo News, the Japan Times, the Nihon Keizai Shimbun)

Financial Services Agency (FSA) official has been formally appointed secretary general of the Basel Committee on Banking Supervision. Ryozo Himino will be the first Japanese to assume the post. Himino, who heads the international planning office at the FSA's Planning and coordination Bureau, will start the job on November 1. The committee supervises issues related to the banking business, including capital adequacy ratios, under the Bank for International Settlements. Himino is an expert on international financial affairs. He joined the Finance Ministry in 1983 and worked at its Banking Bureau and the former Financial Supervisory Agency's international section before getting his current FSA job in July. (October 15, Kyodo News, the Japan Times)

A growing number of call money market transactions are being completed at negative interest rates, where the lender actually pays interest to the borrower. The weighted average of unsecured overnight call money rates, which serves as the benchmark for short-term interest rates, fell to minus 0.003%, marking its first descent into negative territory since June. This highlights the growing excess liquidity in the market since the Bank of Japan further eased monetary policy. Foreign banks have been able to secure yen on the swap market at rates of about minus 0.17%, they can profit from the spread even if they lend these funds at negative rates on the call market. There were some Y85 billion worth of transactions among foreign banks at rates around minus 0.1%.　(October 15, ｔhe Nihon Keizai Shimbun)

The Bank of Japan (BOJ) upgraded its assessment of the state of the economy for the second straight month in October, citing an improvement in the export climate and business sentiment, especially among manufacturers. In its September report, BOJ said that economic activity still continues to be virtually flat as a whole, although signs of improvement have been observed in such areas as the environment for exports. The central bank said that exports likely continue to increase and industrial production would gradually gather steam, given a relatively steady recovery in the U.S. and Asian economies. Yet, it cited uncertainty over such optimism due to the weakness in the U.S. dollar, which sold for Y108-109 in recent trading, the lowest level in three years. A stronger yen would hurt Japanese exporters by making their goods more expensive compared with foreign products, causing export-driven growth to falter. The decision drove the BOJ to expand the target of the outstanding balance of deposits in current accounts held by private financial institutions at the bank to Y27 trillion. The positive view was mirrored in the recent rise in Tokyo share prices, with the Nikkei Stock Average briefly piercing 11,000, up 40% from its 20-year low of 7,607.88 on April 28. According to the October report, net exports have begun to increase, and capital spending is recovering gradually, although private consumption continues to be weak. (October 15, Kyodo News, the Daily Yomiuri, the Nihon Keizai Shimbun)

The Bank of Japan Tuesday upgraded its economic outlook for a second consecutive month but said that the yen's appreciation and a weak U.S. labor market threaten a pickup in exports. The central bank for the first time since January didn't describe Japan's economy as "flat", cautiously acknowledging that a recovery is in sight. The foundation for a gradual recovery in Japan's economy is being laid, as the environment for exports and business sentiment has improved. Still, there is uncertainty about exports as the employment situation in the U.S. continues to be sluggish and the yen exchange rate has been unstable, tending toward appreciation against the U.S. dollar. BOJ Governor Toshihiko Fukui flagged the assessment upgrade, following the central bank's decision to ease monetary policy, partly in response to a 7% appreciation of the yen against the dollar in the past month. The central bank raised by Y2 trillion the upper end of its target for liquidity, which it measures through the account balance, to Y32 trillion. Analysts said that the increase in liquidity would allow Japan to continue its yen-selling intervention to stem the currency's rise without the BOJ needing to drain the yen pumped into the financial system. In the past, the BOJ usually eased policy in tandem with a downgrade in its economic assessment. Fukui said that the latest easing is different as it is aimed at supporting the still-fragile economy. But the easing wasn't without controversy, with three of the BOJ's nine policy board members opposing the move. One board member said that the BOJ's pumping of trillions of yen into the financial system hasn't been as effective as hoped. He was also cautious about the BOJ taking preemptive steps such as boosting the account balance target, saying it would make it difficult for market participants to accurately assess the central bank's actions. Aside from stronger exports and greater confidence among firms, the BOJ also cited continued increases in corporate profits and a recovery in other economies, particularly in the U.S. and East Asia, as reasons for its brighter outlook. But the central bank maintained a cautious assessment of Japan's labor market and personal spending, saying conditions on both fronts "remain severe". And it forecast continued deflation, saying consumer prices will keep falling gradually despite a possible temporary halt in price declines in the period ahead. One-time factors such as recent tax hikes and higher rice prices due to an unusually cool summer could boost the consumer price index after a 0.1% on-year fall in August. The BOJ emphasized that it has no plans to end its ultra-easy monetary policy, which targets short-term interest rates at zero, despite signs that deflation pressures are easing. Instead, the central bank tightened its own policy objectives. The BOJ separately said that its own domestic corporate goods price index fell 0.5% in September from a year earlier, the 37th consecutive monthly decline, but the smallest drop in three years. (October 14, Dow Jones)

The Ministry of Finance (MOF) has compiled a draft plan that would have postal savings and life insurance operations underwriting government bond issues, instead of buying through the market, in order to ensure market stability. The purpose is to have bond purchases continue after the privatization of Japan Post, which now holds about Y130 trillion in government bonds, or just more than 20% of the outstanding total. The MOF plan would also strengthen cooperation with the Bank of Japan (BOJ) and private-sector financial institutions. Although the central bank now buys a large amount of bonds as part of its monetary policy, the MOF would like to expand its cooperation with the BOJ to ensure the steady sale of bonds. The MOF intends to finalize the plan by the end of next month, and begin coordinating its effort with other government agencies and institutions. As of March 31, Japan's long-term government debt stood at Y542 trillion, an amount that is expected to continue to increase. But as the economy shows some improvement, the pressure on long-term interest rates is rising, and there is growing concern about the ability to sell government debt smoothly to the financial markets. thus, the MOF has decided that it is necessary to create a structure that ensures a steady flow of postal savings and insurance funds into government bonds. The postal savings and insurance systems now buy government bonds on the market, just like any private-sector investor. The MOF would have these postal services underwrite government bonds directly at predetermined amounts. These nonmarket bonds would have the same interest rates and maturities as ordinary government bonds. Japan Post currently has more than 80% of its saving system's funds in government bonds. If it is privatized, it could move to diversify its portfolio and reduce its government bondholdings. Japan Post and the Ministry of Posts are expected to resist efforts to limit the fund management options of a new privatized postal service by having it underwrite government bonds.　(October 13, the Nihon Keizai Shimbun)

The Bank of Japan (BOJ) further loosens easy monetary stance. In an aggressive effort to keep interest rates down while simultaneously acknowledging signs of economic growth, BOJ will increase the maximum amount of money to jump into banks. The central bank rephrased its target balance of banks' current accounts held at the BOJ to around Y27 trillion to Y32 trillion from around Y27 trillion to Y30 trillion. The actual amount is expected to be around Y30 trillion. An improved economic outlook and optimistic gross domestic product projections have financial markets asking if and when interest rates will start to rise. Central bankers are struggling to quell those expectations. Short-term interest rates have been forced down by the BOJ's super-easy monetary policy. Long-term interest rates have fluctuated since September, with the benchmark 10-year government bonds showing yields between 1.3% and 1.7%. When long-term interest rates rise, interest rates on housing loans and loans to businesses rise as well, dampening growth. While the yen's recent strength relative to the dollar is a cause of concern, as Japan's nascent recovery is predominantly driven by exporters, BOJ governor Fukui said that the central bank was paying more attention to the fundamental strength of the economy. While it is true that monetary easing logically tends to weaken the yen, BOJ's decision is to prepare for new risks that will stir the economy to move forward, according to Governor Fukui. (October 11, the Japan Times)

The Bank of Japan (BOJ), which continues to acquire shares from banks as part of its special stock-buying program, posted about Y300 billion in unrealized profit on these holdings as of the end of September, according to estimates by Dai-ichi Life Research Institute. At the end of March, the central bank had incurred unrealized losses of around Y65.8 billion. But with the rise in share prices since the spring, the BOJ saw the value of its shareholdings increase. Launched in November 2002, the BOJ's stock purchase program spent a total of Y1.84 trillion to buy shares through the end of September. The amount is released about every 10 days, by examining how many shares the bank acquired in each period as well as share price averages, a rough estimate for its unrealized gains or losses can be determined from current share prices. With share prices still rising in October, the BOJ's unrealized gains on its shares purchased from banks appear to be growing. The BOJ's stock purchase program aims to bring stability to the financial system by limiting the impact of share price fluctuations on banks. When the program was begun, there were some concerns about the large risks that the BOJ would burden. Meanwhile, with the rise in long-term interest rates since June, the BOJ has seen the prices of its bond-holdings drop. And with the yen's appreciation, its foreign-currency-denominated assets are declining in yen terms. Thus, the BOJ's finances remain in a tight spot. (October 8, the Nihon Keizai Shimbun)

The International Monetary Fund urges Japan to recapitalize banks to boost the country's struggling financial sector. Stefan Ingves, director of the IMF Monetary and Financial Systems Department urged that the Japanese government should also reduce its large stake in the private sector to strengthen bank profits. Ingves comments follow an assessment of Japan's financial system under a joint IMF and World Bank Financial Sector Assessment Program. Ingves said that the Japanese banks could increase profitability by producing new types of banking services, but that would require the government to cut back its large role in the financial sector. If the government maintains its current role in the private sector, the banks are likely to continue to have problems with their profitability. Japan's postal savings system and postal insurance system were among the largest in the world, and that the money in the systems was largely channeled to the government through investments in the government bonds, according to Ingves. The assessment report showed that the bigger, publicly supported lending schemes and deposit-taking institutions in Japan needed to shrink their investments in the financial sector if the banking sector was to profit, consolidate and develop new and better products. In the short run, the government needs to get more involved in dealing forcefully with the banking problems and the lack of capital, whereas in the medium term, it needs to reduce its role in the financial sector. Ingves said that Japan should speed up the pace of its financial sector reforms. (October 8, Reuters, the Daily Yomiuri)

The Financial Services Agency (FSA) is signaling tougher stance in reviewing restructuring plans that banks have orchestrated for ailing corporate borrowers. To date, the FSA has taken a hands-off approach in the view that restructuring plans were an issue best left to banks and their borrowers. But the view is gaining ground that government regulators will have to become more closely involved in order to resolve the bad-loan problem. Meanwhile, the banking industry is becoming increasingly alarmed about the prospect of a heavier hand by the FSA. The first sign of a shift by the FSA came after the cabinet reshuffle by Prime Minister Koizumi last month, when Heizo Takenaka　declared that restructuring plans aimed at sweeping festering problems under the rug would not be permitted. This remark touched nerves in the banking sector, leaving banking executives wondering whether the FSA already had particular companies in mind, or whether the new policy would target existing restructuring plans or only new ones. A special team of examiners launched by the FSA to focus on restructuring plans will focus on bank assessments of troubled borrowers. The basic principle adopted by the FSA is that different lenders to the same troubled borrower should have the same internal rating of that borrower. If the agency takes a tough stance with regard to large corporate borrowers with restructuring plans, banks with lax ratings could be forced to increase their loan loss reserves. Underlying Takenaka's remark was a sense of concern within the FSA that banks are turning away from the restructuring assistance offered by the government-backed Industrial Revitalization Corp. of Japan. They are putting together borrower's restructuring plans on their own in order to put off losses. (October 4, the Nihon Keizai Shimbun)

The nation's six major banking groups saw their capital ratios increase from the end of March to the end of September, staying above the 8% threshold for soundness. Except for Mitsui Trust Holdings Inc., the capital ratios at the major banking groups grew to 10% or higher. In the six months, the banking groups saw unrealized losses on their shareholdings disappear as the stock market moved higher, and they counted part of newly generated unrealized profits as capital. At Mitsui Trust, which holds a large amount of shares relative to its capital, the capital ratio rose by 1.5 percentage points. The capital ratios at Mitsubishi Tokyo Financial Group Inc. and Sumitomo Trust & Banking Co. improved to about 12% and more than 11.5%, respectively.　(October 1, the Nihon Keizai Shimbun)

Yen-selling market interventions conducted by Japanese monetary authorities in the foreign exchange market from January through September totaled Y13.48 trillion, far exceeding a yearly record of Y7.64 trillion set in 1999, according to data released by the Ministry of Finance (MOF). Despite the massive market interventions, the Japanese currency has gained nearly Y9 against the dollar since the beginning of the year. Buying of the yen associated with Japan's trade surplus as well as global fund flows are making the Japanese monetary authorities' market interventions ineffective. Japanese exporters generated a trade surplus of nearly Y6 trillion from January through August. In addition, demand for buying the yen to invest in Japanese equities has grown substantially among foreign investors since June. On the back of expectations for an economic recovery in Japan, foreign investors bought Y5.6 trillion of Japanese stocks on a net basis from June through Sept. 19. Speculative buying of the yen by European and U.S. hedge funds has also helped the Japanese currency move higher rapidly. The yen's appreciation has further picked up pace after finance ministers and central bankers from the Group of Seven major industrialized nations, in their joint statement issued Sept. 20, cautioned against Japan's intention of intervening in the forex market.　(October 1, the Nihon Keizai Shimbun)