Business Conditions of Japanese Banks and Their Challenges

Japanese banks have largely overcome the nonperforming loan problem that constituted their greatest challenge after the mid-1990s. In fiscal 2005, both the major banks and the regional banks registered record levels of net income. Improvements have also been made in capital adequacy ratios. However, the high profit levels of the past few years were attributable to significant but temporary declines in credit costs caused by the reversals of loan-loss allowances. The fiscal 2007 financial statements actually showed that credit costs were returning to expected average levels and that improvements in core profitability slowed. The upward trend in capital adequacy ratios also hit a plateau. Moreover, the quality of capital is not necessarily high enough given the continued high proportion of preferred securities and subordinated debts. In light of these facts, improvements in core profitability and the quality of capital remain crucial challenges for banks. From a macroprudential perspective, these also pose important challenges in ensuring financial system stability.