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Bank recapitalization in the U.S. - lessons from Japan

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  • Montgomery, Heather
  • Takahashi, Yuki

Abstract

This study empirically investigates the effectiveness of the Capital Purchase Program (CPP), the centerpiece of the United States 700 billion dollar policy response to the global financial crisis of 2008. We frame our analysis of the United States policy response against the backdrop of Japan’s banking crisis and policy response in the late 1990s. As one of the only advanced economies with a large global presence in international finance, Japan’s banking crisis of 1997 and the effectiveness of the policy response offered important lessons to U.S. policymakers in 2008. Based on empirical studies of Japan’s bank recapitalization program, we distill the most crucial lessons to be the importance of speed, adequate scale and customized restructuring in forming recapitalization packages. The United States and other economies affected by the 2008 global crisis took this first lesson to heart and reacted with unprecedented speed to events in the Autumn of 2008. But despite the large headline figure of 700 billion dollars, the program was not of adequate scale and was actually smaller than Japan’s recapitalization program of 1997-1998 in relative terms. More critically, program implementation in the first year was standardized and there was no investigation into the recipient banks’ business plans or financial condition to allow restructuring to be tailored to each individual recipient bank. These latter two points significantly hampered the effectiveness of the bank recapitalization program. Our findings demonstrate that the program was successful in achieving at least one policy objective of the program: boosting recipient banks regulatory capital ratios. But we find that the program failed to achieve another important policy objective, to stimulate bank lending. To the contrary, we find evidence that recipient banks reduced lending, presumably because of the pressure to cut highly risk-weighted assets in order to increase their capital adequacy ratios. Although encouraging banks to increase bad loan write-offs was not an explicit policy objective of the CPP according to our reading of statements from the Department of Treasury, we also look at the impact of the program on bad loan write-offs and find no evidence that recapitalization stimulated bad loan write-offs either. The main empirical results here echo the findings of analysis of Japan’s bank recapitalization program in 1997. In Japan’s case, the second round capital injections in 1998 were of significantly larger scale and more tailored to meet the needs of recipient banks, which increased the effectiveness of the policy intervention. Future research will investigate whether the United States followed a similar pattern and the CPP recapitalizations of 2009 were more effective than those made in the first year of the program.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 33147.

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Date of creation: Mar 2011
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Handle: RePEc:pra:mprapa:33147

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Keywords: Capital injection; Systemic crisis;

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References

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  1. Luc Laeven & Fabian Valencia, 2010. "Resolution of Banking Crises," IMF Working Papers 10/146, International Monetary Fund.
  2. Graciela L. Kaminsky & Carmen M. Reinhart, 1996. "The twin crises: the causes of banking and balance-of-payments problems," International Finance Discussion Papers, Board of Governors of the Federal Reserve System (U.S.) 544, Board of Governors of the Federal Reserve System (U.S.).
  3. Hoshi, Takeo & Kashyap, Anil K, 2010. "Will the U.S. bank recapitalization succeed? Eight lessons from Japan," Journal of Financial Economics, Elsevier, Elsevier, vol. 97(3), pages 398-417, September.
  4. Kazuki Onji, David Vera and Jenny Corbett, 2011. "Capital Injection, Restructuring Targets and Personnel Management: The Case of Japanese Regional Banks," Asia Pacific Economic Papers, Australia-Japan Research Centre, Crawford School of Public Policy, The Australian National University 390, Australia-Japan Research Centre, Crawford School of Public Policy, The Australian National University.
  5. Montgomery, Heather, 2002. "Taipei,China's banking problems: lessons from the Japanese experience," MPRA Paper 14939, University Library of Munich, Germany.
  6. Montgomery, Heather & Shimizutani, Satoshi, 2009. "The effectiveness of bank recapitalization policies in Japan," Japan and the World Economy, Elsevier, Elsevier, vol. 21(1), pages 1-25, January.
  7. Ito, Takatoshi & Harada, Kimie, 2004. "Credit Derivatives Premium as a New Japan Premium," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 36(5), pages 965-68, October.
  8. Montgomery, Heather & Takahashi, Yuki, 2011. "Bank recapitalization in the U.S. - lessons from Japan," MPRA Paper 33147, University Library of Munich, Germany.
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Cited by:
  1. Montgomery, Heather & Takahashi, Yuki, 2011. "Bank recapitalization in the U.S. - lessons from Japan," MPRA Paper 33147, University Library of Munich, Germany.

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