Japan sees U.S. repeating its mistakes on bank plan

For all the money the United States and Europe have committed to rescuing banks so far, the veterans of Japan's own banking crisis have two words of advice: more, faster.

The Japanese have been here before. They endured a decade of economic stagnation in the 1990s as their banks labored under crippling debt, and successive governments wasted trillions of yen on half measures to restore them.

Only in 2003 did the government finally take the actions that led to a recovery: forcing major banks to submit to merciless audits and declare their bad debts; spending two trillion yen, or $22.23 billion at today's rates; effectively nationalizing a major bank at the expense of shareholders; and allowing weaker banks to fail.

By then, the Nikkei 225 stock index had dropped by almost three-quarters from its heights. Real estate prices would ultimately fall for 15 consecutive years. Public debt had grown to exceed gross domestic product. And deflation stalked the land.

Some students of the Japanese debacle say they see the United States heading for a similar train wreck.

"I thought America had studied Japan's failures," said Hirofumi Gomi, a top official at the Japanese Financial Services Agency during the crisis. "Why is it making the same mistakes?"

Some U.S. critics of the plan announced Tuesday by Treasury Secretary Timothy Geithner said it lacked details. Experts on Japan found it timid - especially given the size of the banking crisis the administration faces.

"I think they know how big it is, but they don't want to say how big it is," said John Makin, an economist at the American Enterprise Institute, referring to administration officials. "It's so big they can't acknowledge it."

He added: "The lesson from Japan in the 1990s was that they should have stepped up and nationalized the banks."

Instead, the Japanese first tried many of the same remedies that the administration of President George W. Bush tried and the administration of President Barack Obama is trying - low interest rates, fiscal stimulus and ineffective cash infusions, among other things. The Japanese even tried to tap private capital to buy some of the bad assets from banks, as Geithner has proposed.

One reason Japan was so timid was fear of public outrage, which grew with each act of the bailout.

But the Japanese experience shows that resolving the mess will require a firm government hand and will be extremely expensive. Delay will only raise the price tag.

A further lesson is that the bank rescue will determine the fate of the wider economy. While Obama has prioritized his stimulus plan, no stimulus is likely to succeed unless the banking sector is repaired. "I think Obama made a tactical mistake," Makin said.

The Japanese crisis of the 1990s and early 2000s had roots similar to the American crisis: a real estate bubble that collapsed, leaving banks holding trillions of yen in loans that were nearly worthless.

Initially, Japan's leaders underestimated how badly the real estate collapse would hurt banks. As in the United States, a policy of easy money had fueled stock and real estate speculation as well as reckless lending by banks.

Many in Japan thought low interest rates and economic stimulus measures would help banks recover on their own. But in late 1997, a string of bank failures set off a crippling credit crisis.

Prodded into action, the government injected ¥1.8 trillion, or nearly $20 billion at current exchange rates, into Japan's main banks. But the injections - too small, poorly planned, and based on little understanding of the extent of the banking sector's woes - failed to stem the growing crisis.

Japanese voters, angry at what they saw to be a waste of taxpayer money, punished Japan's ruling coalition at the polls that year, prompting Prime Minister Ryutaro Hashimoto to resign. After that, fear of public outrage slowed the government's hand.

Indeed, fearing more bad news, leaders did not force major banks to come clean on the amount of their bad debt. Banks kept loans to "zombie" companies on their balance sheets, instead of fully disclosing them and writing them off.

Instead, Japan experimented with a series of funds, in part privately financed, to relieve banks of their bad assets - a mechanism similar to what Geithner has proposed in his bailout plan.

Those funds brought about limited results at best, said Takeo Hoshi, an economics professor at the University of California at San Diego. For one thing, the funds were too small to have an effect. The depository for bad loans had no orderly way to sell them off.

And the purchases that did take place failed to stem banks' capital shortages, because the bad assets were priced at steep discounts.

Japanese taxpayers are estimated to have recouped less than half of what it cost the government to bail out the banks. From 1992 to 2005, Japanese banks wrote off about ¥96 trillion, or about 19 percent of the annual gross domestic product.

So far, the Obama administration's plan avoids the hardest decisions, like nationalizing banks, wiping out shareholders or allowing banks to collapse under the weight of their own bad debts. In the end, Japan had to do all those things.

"The U.S. is repeating many of the mistakes that Japan made, and that's surprising," said Makin, the economist, "because American policy makers were all too ready to supply advice to Japan."

Economists say the blunders meant Japan's financial system did not start to recover until late 2002, six years after the crisis broke. That year, the government of the reformist leader Junichiro Koizumi ordered a tough audit of the top banks. The move, called the Takenaka Plan after Heizo Takenaka, who led the government's financial reforms, finally brought the full extent of bad loans to light.

Initially, banks publicly lashed out at Takenaka. "The government can't order bank management to do this and that," Yoshifumi Nishikawa, president of Sumitomo Mitsui Financial Group, said in October 2002. "It's absolutely absurd."

But Takenaka stood firm. His rallying cry, he said in an interview Wednesday, was, "Don't cover up. Don't distort principles. Follow the rules."

"I told the banks clearly, 'I am in a position to supervise you,"' Takenaka said. "I told them I am not open to negotiation."

It took another three years to get most of the bad loans off the banks' books.

Resona Bank, which was found to have insufficient capital, was effectively nationalized. But Takenaka's toughness restored faith in the banks.

"That was a turning point in the banking crisis," said Gomi, formerly of the Japanese Financial Services Agency, who worked with Takenaka on the audits. "After that, markets finally trusted the banks again."

By then, other factors had fallen into place that aided economic recovery, including a boom in exports to the United States and China.

But the United States probably will not be able to count on a growing demand for its products as the global economy worsens.

"The way things are going right now," said Hoshi, the economics professor, "the U.S. taxpayers' burden will keep going up and up. "

[Source: By Hiroko Tabuchi, Herald Tribune, Japan, 13Feb09]

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