[A-List] Japan: economic woes, world implications

["Keaney Michael" <Michael.Keaney@xxxxxx>]

Japanese jolted out of their charmed life
Tokyo's banking crisis threatens to send markets around the world into a
spin
By Leo Lewis
The Independent on Sunday, 08 September 2002

British, continental and US equities have been struggling through a
terrible year, but until last week Japan had managed to stay strangely
immune from it all. While the FTSE, the Nasdaq and the Dow were nursing
double-digit declines, the Nikkei 225 was the only major index that made
it to the third quarter in positive territory.

But as September opened, all hell broke loose. Suddenly Toyko's immunity
vanished and it joined the rest of the world's markets in the dog-house.
As the Friday closing bell rang in Tokyo last week, the Japanese market
had fallen to levels not seen by investors since 1984.

The implications of the sudden slump were not lost on markets around the
world. The resilience of Japan in recent months - despite being in its
11th year of recession - had been one of the few cheerful things in an
otherwise unrelenting flow of bad news, and this was a severe blow. US
and European markets tumbled to new lows in sympathy, and analysts are
predicting much worse to come. As one Nomura broker says: "Japan is a
bear-market tinder-box, with plenty of powder left in store."

While confidence ebbed out of the Japanese market, Tokyo investors
absorbed other news from around the world. Weak-sounding reports from
the US economy hit big exporters like Sony and the auto makers.

But the impetus for last week's crash was nothing new. Japanese banks,
with their huge mountains of bad loans, have been ringing alarm bells
for several years. The credit agencies have cut the country's rating to
humiliating levels and the spectre still looms of a continuing spiral of
deflation. As bigger and bigger Japanese corporations have plunged into
bankruptcy, banks such as Mizuho and Sumitomo have been forced to admit
that their levels of so-called "problem loans" are very likely much
higher than previously supposed.

The Japanese government has repeatedly been pushed into the only action
it has the stomach for: giant bail-out packages that give the banks
enough breathing space to struggle on for a while. There have been three
such deals struck over the past four years. In each case the
justification was clear: the bail-out might be bad, but it was nowhere
near as damaging as one or more of the big four banks failing
altogether. Globally, investors are well aware of the impact that would
have.

The prompt for last week's panic came from the Governor of Tokyo,
Shintaro Ishihara. In a move that instantly smashed shares in all the
Japanese banks, he indicated that the city might shift a portion of its
1.7 trillion yen (£10bn) of public money from Mizuho into deposits at
Citi-group. Not only did this signify a vote of no confidence in the
Japanese banking system, it coincided with revelations about an
investigation into Mizuho that suggested regulators were "hiding"
problems. Mizuho stock fell 9.6 per cent on the day of the Governor's
announcement.

The reason markets have responded so badly is that the banks' situation
constantly exposes the wider problems in the Japanese economy, still the
second largest in the world. The banks have come under the same fire
currently aimed at the management of Japan's once world-beating
corporations. HSBC Japan's chief executive, Haru Yamada, says: "I really
don't think Japanese managers were long-term thinkers: they were praised
in the 1980s for long-term thinking, but it was really just a lack of
short-term earnings pressure."

Additionally, the banking crisis reveals the long-term inability of the
government to work out and administer any lasting cures for its fiscal
malaise. Even the considerable popular mandate enjoyed by Prime Minister
Junichiro Koizumi has yet to materialise into any real reform.

Against this background, however, the chief executive of the Tokyo Stock
Exchange believes a solution to Japan's problems may lie in the equity
markets. In an exclusive interview with The Independent on Sunday,
Masaaki Tsuchida outlines his belief that increased investment by
members of the Japanese public could prove the eventual catalyst for big
changes to the way businesses operate.

The chief problem with Japan's economic growth in the 1980s, he says,
was that companies grew through direct loans from the banks, rather than
through capital markets like their US and European counterparts. During
the bubble, that strategy worked well, but as the banks and corporates
have now discovered, it fails as soon as a bear market takes hold.

All this coincides with the painfully slow but steady unwinding of the
vast company cross-shareholdings that epitomised the Japanese approach
to the markets. As this process gradually releases shares on to the
market, so the theory goes, more investors will be tempted by the
free-floating stocks. The holy grail of all this, explains Mr Tsuchida,
is for the equity markets to start attracting some of the huge reserves
of money that have for years sat immovably in Japanese savings accounts.

"We are involved in many promotional efforts, to get investors
involved," he says. "Japan must shift from the direct financing pattern
to the indirect one, and considering the great base of individual assets
available, I believe such a shift will be possible.

"I wouldn't use the word 'pressure' exactly," he adds, "but the
government is also showing its thinking on this issue by encouraging
investment by various taxation schemes."

Unfortunately for Mr Tsuchida and the Tokyo Stock Exchange, the efforts
at encouraging Japanese households to dip into their savings may be
thwarted by terrible timing. Deflation and an ageing population remain
Japan's most pressing economic issues, and the leading LDP party has yet
to prove to the populace that matters are under control. Meanwhile,
markets around the world will remain firmly on red alert, with analysts
finding it nearly impossible to know what factors will stop Japanese
equities from falling, and spreading their woes overseas.

Recent comments from Japan's finance minister, Masajuro Shiokawa, do
very little to inspire confidence: "I can't think of immediate and
effective measures to boost the economy, but we must think of
something."