Commentary: Making Japan's Bank Crisis Worse
In Japanese finance these days, it's tough to figure out which is scarier--the looming possibility that a collapsing stock market will trigger a new bank crisis or the half-baked solutions politicians and regulators alike are throwing out. Unfortunately, the way things are going, both the crisis and the solutions could do lasting damage to a very sick economy.
First, look at the bank crisis in the making. Despite a government fix-up job in 1998 and 1999, Japan's banks are still larded with old nonperforming loans just as the economy slows down again, only two years after a recession. On top of that, a wave of bankruptcies is ripping through Japan's debt-glutted retailing, construction, and real estate sectors. Bankruptcies topped a record 25,000 last year, ING Barings estimates. So even when banks write off bad loans, new ones crop up. The adequacy of the banks' capital reserves becomes a more pressing issue every day.
Perversely, the banks are creating the conditions for a market panic. One by one, they're unloading shares from the stock portfolios they have hoarded for years. Why? They need money, and they want to disengage from stock holdings in companies in which they no longer have a meaningful business interest. The selling deepens the banks' losses on their portfolios, making another issue more pressing: At the end of March, for the first time, regulators will force the banks to mark their portfolios to market--and show the world just how gigantic those losses are. "The falling stock market is wreaking havoc on their balance sheets," warns ING Barings analyst James Fiorillo.
Tokyo's money center banks alone are expected to dump $20 billion of holdings in their borrowers' shares in the fiscal year ending in March, according to HSBC Securities Inc. The mass sell-off has played a key role in pushing the Nikkei index down 35% in the past nine months, to 13,500, approaching levels of a decade ago. That's a wipeout of $884 billion in market value in Japanese blue chips alone.
Bankruptcies, souring loans, market sell-offs--somebody do something! It's a visceral reaction. But that leads to the next problem: It's Japan's pork-barrel specialists in the ruling Liberal Democratic Party who want to come to the rescue. The government's response to the crisis is all but certain to be a reprise of 1999, when it bailed out the banks to the tune of $70 billion, money the banks were supposed to use to get their capital-adequacy ratios up to the Bank of International Settlements standard of 8%. In the meantime, paralyzed official Tokyo has come up with a series of variations, some of them downright wacky, on one tired old idea--let's prop up the stock market.
THROWBACK. The most shop-worn and crudest is a classic "price-keeping" operation in which portions of Japan's $2 trillion-plus in postal savings would be diverted into stocks, shoring up the Nikkei and banks' balance sheets. Yet this tactic, which LDP party operatives broached last year, has failed in the past, most notoriously in the early 1990s, when no amount of market intervention could stem the exodus from Japanese stocks.
LDP elder Shizuka Kamei has an even less imaginative idea--a throwback to Finance Ministry practices of the 1980s. He wants to stem the Nikkei's slide by fiat; he would order the banks to stop selling shares. Fortunately, Prime Minister Yoshiro Mori's economic advisers killed the idea--but who's to say politicians won't revive it?
Mori, meanwhile, has set up an LDP panel to study ways to boost share prices. Among the ideas it has weighed: have banks sell the government their shares, which would put a floor under prices; postpone implementation of the new accounting rules on valuing assets, including stock portfolios; and ease regulations on share buybacks, boosting prices by taking shares off the market. Others want to issue new government bonds and use the proceeds to buy shares as the banks dump them.
Not one of these solutions makes much sense. In fact, they all smack of yet another shameless wealth transfer from taxpayers to the LDP's pals in the business and financial world. Few individual shareholders would get much out of a bounce in share prices, since individuals are scarce in Japan's stock market. Giving the banks a break on the new accounting rules, whose point is to help investors gauge the true health of Japan's opaque banks, would send the worst possible message to world markets. For state-controlled postal savings institutions to siphon private nest eggs into this black hole smacks of irresponsibility. And with Japan's outstanding government debt already running at 140% of gross domestic product, among the highest of wealthy industrial nations, issuing more government paper could set off tremors in the bond market.
What's more, all these solutions seem designed to do one thing: eliminate the impact of a large sell-off in shares. Yet the banks' action is a healthy development in one sense. Once the hallmark of capitalism Japanese-style, cross-share arrangements now tie up precious capital and skew lending decisions toward relationships instead of cold judgments about business prospects. Severing those relationships would be good for both the banks and the borrowers.
But don't just take the word of the gaijin on this. Toyota's decision to buy back $2.1 billion of its stock from banks and others--a rare bit of good news for shareholders--shows that at least one Japanese company is facing up to reality. And no less a financial eminence than Eisuke Sakakibara, the public face of Japan's foreign-exchange policy in the 1990s--also known as Mr. Yen--gives the half-baked schemes the thumbs-down. "The market is giving us a signal that Japan needs a major structural overhaul, and we should respond to that signal," says Sakakibara, now a professor at Keio University.
LIFE SUPPORT. The painful truth is that some of Japan's smaller banks will have to fail, and with them a host of companies they've kept on life support by forgiving bad debt and other forms of indulgence. A shakeout in the overcrowded sector would begin to free Japan's economy, allowing asset prices to fall to levels that would bring back investors. Meanwhile, bank mergers must happen fast. Yes, some banks have announced ambitious combinations aimed at cutting costs, fixing balance sheets, and improving earnings. But the new combines, such as Sumitomo-Mitsui Banking Corp. and Bank of Tokyo-Mitsubishi Ltd., are integrating so slowly that any restructuring payoff is years away. "If this were the U.S. or Europe, bank mergers could be completed in one year," complains Taichi Saikaiya, the state minister for economic planning who resigned a few weeks ago.
This is not to say that the government should stand idly by and let a mass bank panic ensue. ING's Fiorillo warns that Chuo Mitsui, Daiwa Bank, Yasuda Trust, and Toyo Trust are the most vulnerable. Letting these big players go under would be reckless, and could trigger deposit runs elsewhere. No central bank could allow that. To avoid a complete meltdown, Japan may need another round of bailouts--only this time with strict conditions for fast slimdowns, balance sheet cleanups, and solid, new shareholders--not simple handouts of free money as in the past.
It's doubtful the government will let any big banks fail. But the purpose of intervention shouldn't be to prop up the market--it should be to force the banks to clean up their act once and for all. The 1999 bank bailout failed because the government doled out cash with few strings attached. "They have to bite the bullet," says one senior executive with a U.S. bank in Japan. The country's culture makes it profoundly averse to such harsh methods. But if it can't do what has to be done, expect Japan's long-running banking saga to keep churning out economically depressing cliff-hanging sequels for years to come. The Japanese people deserve better.