Commentary: Now, Will Koizumi Bail Out the Banks?

By Brian Bremner

In early September, Japanese Financial Services Minister Hakuo Yanagisawa traveled to the U.S. to reassure financiers and politicians that Japan's banking system was recovering. "Of course, if a catastrophe occurs, the story might be different," he acknowledged in a Sept. 4 interview.

One week later, catastrophe occurred. The terrorist attacks in the U.S. sent global markets plunging, setting off a vicious cycle for Japan's banks. Between Sept. 11 and Sept. 17, the Nikkei market index fell 7.6%, to 9,504, a 17-year low, although it closed at 9,679.88 on Sept. 18. Banks' stock portfolios were battered. The dollar's drop against the yen threatens to make Japanese exports pricier. Fewer exports means lower profits and more loan defaults; that pushes more banks to the edge.

The World Trade Center tragedy also shattered confidence. The global financial system can't afford the collapse of the Japanese banking sector now. Japan's officials can no longer maintain the fiction that the $145 billion in bad loans carried by the money-center banks is manageable. Fortunately, Prime Minister Junichiro Koizumi's government may be coming to terms with the banking fiasco. On the Friday after the attacks, Koizumi sounded resolute about ending Japan's addiction to debt: "Even if low economic growth persists, we will go forward," he said.

WRITE-DOWNS. The hope is that Koizumi's team will take the next step. Until Sept. 11, Yanagisawa's position on the bank crisis was that the banks are in trouble but don't need yet another government bailout. Investors fretted that without the leverage of a government rescue, Koizumi couldn't force massive loan write-downs on the banks. Then, on Sept. 14, Japan's fourth-largest retailer, Mycal Corp., collapsed. Why is that important? Because its lenders should have forced Mycal into receivership years ago but held back for fear of the hit they would take. Now the banks have pulled the plug on Mycal's $8.7 billion debt. As a result, Mizuho Bank--created from the three-way tie-up between Dai-Ichi Kangyo Bank, Fuji Bank, and the Industrial Bank of Japan--will suffer a $2.2 billion loss for the six months ending Sept. 30. Heizo Takenaka, State Minister for Economic & Fiscal Policy, told reporters on Sept. 17 that up to 30 other big companies are likely to follow Mycal soon.

Something has clearly goaded the banks into action--probably regulators applying behind-the-scenes pressure. The signs are subtle. After a Cabinet meeting on Sept. 17, Yanagisawa said that the Resolution & Collection Corp., Japan's fledgling bailout vehicle, deserves more money. Another hint: Ex-Prime Minister Kiichi Miyazawa said he discussed a bank cleanup with Koizumi on Sept. 10.

Investors think this means Koizumi is mustering support for a plan to inject massive funds into the banks, probably via the RCC, using the economic fallout from the World Trade Center disaster as political cover. "It would be a silver lining if the Japanese government were to seize these circumstances to justify a new round of capital injections," says HSBC Holdings PLC Chief Economist Peter Morgan.

Koizumi can also blame gaiatsu--foreign pressure. Yanagisawa recently dropped his opposition to the International Monetary Fund's request to examine the books of Japan's major banks. An IMF team is expected by yearend. They're most anxious about some $700 billion worth of so-called "classified credits," or shaky loans. If the IMF concludes the loans are duds, Koizumi would have another excuse for action.

The question now is how much money the banks need and on what terms they will get it, a subject the Diet is expected to take up soon. Goldman, Sachs & Co. economist Tetsufumi Yamakawa says that if the debt is as big as the IMF fears, the banks' operating income and reserves would cover less than half the needed provisions--even if they spread the write-offs over three years. The Bush Administration's envoy on this issue, former U.S. Resolution Trust Corp. Chairman L. William Seidman, says the government will need to sell some $100 billion in bonds to fund future operations of the RCC. Painful. Koizumi's room to maneuver keeps shrinking, though. Catastrophe occurred. It's a different story now.

Bremner is Tokyo bureau chief.

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