TY  - JOUR
AU  - Fukao, Mitsuhiro
TI  - Financial Sector Profitability and Double-Gearing
JF  - National Bureau of Economic Research Working Paper Series
VL  - No. 9368
PY  - 2002
Y2  - December 2002
DO  - 10.3386/w9368
UR  - http://www.nber.org/papers/w9368
L1  - http://www.nber.org/papers/w9368.pdf
N1  - Author contact info:
Mitsuhiro Fukao
Musashino University
Department of Economics
Tokyo, Japan
E-Mail: m_fukao@musashino-u.ac.jp
M1  - 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)

AB  - 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.
ER  -