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Financial Sector Profitability and Double-Gearing

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  • Mitsuhiro Fukao

Abstract

In this paper, I show that Japan will not be able to have a viable banking sector without stopping deflation. The banking industry has not shown a profit since fiscal 1993 (ended March 1994) if one excludes capital gains from stock and real estate portfolios. I quantify the financial condition of the sector and show that interest margins have been too low to cover the increase in loan losses brought about by the weak economy. Banks cannot raise margins for several reasons: competition with subsidized government sponsored financial institutions (GFIs); intense political pressure, backed by the Financial Services Agency (FSA), to make new loans to small and medium companies; and deflation-weakened borrowers. I expect that the Japanese government will have to nationalize most of the banking sector by 2005. Capital injections will not solve the problems. Established Japanese life insurance companies are also troubled because they over-promised the amount that they could pay. This can be corrected through a reorganization where the promised interest rates are cut. But this is complicated because Japanese banks and life insurance companies are providing each other capital a practice called double-gearing. Weakened banks ask insurance companies to provide equity capital and subordinated loans. In return, the mutual life insurers ask banks to subscribe their surplus notes (similar to non-voting redeemable preferred shares) and subordinated debt. The risks of double-gearing are analyzed.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 9368.

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Date of creation: Dec 2002
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Publication status: published as Mitsuhiro Fukao. "Financial Sector Profitability and Double-Gearing," in Magnus Blomström, Jennifer Corbett, Fumio Hayashi and Anil Kashyap, editors, "Structural Impediments to Growth in Japan" University of Chicago Press (2003)
Handle: RePEc:nbr:nberwo:9368

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  1. Takeo Hoshi & Anil Kashyap, 2000. "The Japanese Banking Crisis: Where Did It Come From and How Will It End?," NBER Chapters, in: NBER Macroeconomics Annual 1999, Volume 14, pages 129-212 National Bureau of Economic Research, Inc.
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Cited by:
  1. Hoshi, Takeo & Kashyap, Anil K, 2010. "Will the U.S. bank recapitalization succeed? Eight lessons from Japan," Journal of Financial Economics, Elsevier, vol. 97(3), pages 398-417, September.
  2. Hakenes, Hendrik & Schnabel, Isabel, 2004. "Banks without Parachutes - Competitive Effects of Government Bail-out Policies," Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems 8, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich.
  3. Claudio Borio, 2012. "The financial cycle and macroeconomics: What have we learnt?," BIS Working Papers 395, Bank for International Settlements.
  4. David C. Smith, 2002. "Loans to Japanese borrowers," Pacific Basin Working Paper Series 2002-11, Federal Reserve Bank of San Francisco.
  5. Robert Dekle, 2003. "The Deteriorating Fiscal Situation and an Aging Population," NBER Chapters, in: Structural Impediments to Growth in Japan, pages 71-88 National Bureau of Economic Research, Inc.
  6. David C. Smith, 2003. "Loans to Japanese borrowers," International Finance Discussion Papers 769, Board of Governors of the Federal Reserve System (U.S.).
  7. Anil K. Kashyap, 2002. "Sorting out Japan's financial crisis," Economic Perspectives, Federal Reserve Bank of Chicago, issue Q IV, pages 42-55.
  8. Masami Imai, 2006. "The Emergence of Market Monitoring in Japanese Banks: Evidence from the Subordinated Debt Market," Wesleyan Economics Working Papers 2006-008, Wesleyan University, Department of Economics.
  9. Masami Imai, 2006. "Market Discipline and Deposit Insurance Reform in Japan," Wesleyan Economics Working Papers 2006-007, Wesleyan University, Department of Economics.
  10. Imai, Masami, 2006. "Market discipline and deposit insurance reform in Japan," Journal of Banking & Finance, Elsevier, vol. 30(12), pages 3433-3452, December.
  11. Smith, David C., 2003. "Loans to Japanese borrowers," Journal of the Japanese and International Economies, Elsevier, vol. 17(3), pages 283-304, September.
  12. Takeo Hoshi & Anil K. Kashyap, 2004. "Japan's Financial Crisis and Economic Stagnation," Journal of Economic Perspectives, American Economic Association, vol. 18(1), pages 3-26, Winter.
  13. Richard S. Grossman & Masami Imai, 2011. "Contingent Capital and Bank Risk-Taking among British Banks before World War I," Wesleyan Economics Working Papers 2011-003, Wesleyan University, Department of Economics.
  14. Marianne Rubinstein, 2008. "Le marché de l’immobilier résidentiel en France : évolutions récentes et perspectives," Revue d'Économie Financière, Programme National Persée, vol. 91(1), pages 143-163.
  15. Imai, Masami & Takarabe, Seitaro, 2011. "Transmission of liquidity shock to bank credit: Evidence from the deposit insurance reform in Japan," Journal of the Japanese and International Economies, Elsevier, vol. 25(2), pages 143-156, June.
  16. Masami Imai & Seitaro Takarabe, 2009. "Transmission of Liquidity Shock to Bank Credit: Evidence from the Deposit Insurance Reform in Japan," Wesleyan Economics Working Papers 2009-001, Wesleyan University, Department of Economics.
  17. Oren Levintal, 2012. "Equity Capital, Bankruptcy Risk and the Liquidity Trap," Working Papers 2012-07, Department of Economics, Bar-Ilan University.
  18. Mitsuhiro Fukao, 2005. "The effects of ‘Gesell’ (Currency) taxes in promoting Japan's economic recovery," International Economics and Economic Policy, Springer, vol. 2(2), pages 173-188, November.
  19. Imai, Masami, 2007. "The emergence of market monitoring in Japanese banks: Evidence from the subordinated debt market," Journal of Banking & Finance, Elsevier, vol. 31(5), pages 1441-1460, May.

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