Comments on Professor Mera's View on Japanese Banks

Peter Tasker (Arcus Investment)

I would like to make some observations on the comments by Professor Mera. I disagree with his view that "the health of the banks is the number one problem for the entire economy." I would rather say that the health of the economy is the number one problem for the banks. Up until the Asian crisis it was plausible to suppose that the problems of the Japanese banking system were a hangover from the bubble years, but the situation is very different now. The contracting domestic economy automatically degrades the quality of the entire structure of credit in Japan, from government bonds to the worst bad loans. The rational response is for both borowers and lenders to shrink their balance sheets, which is exactly what they are doing. Since borrowers are responding with more alacrity than lenders, the economy is not at all credit constrained. ( If the economy were credit constrained, interest rates would be rising and foreign banks would be rushing to fill the gap , not shrinking their loan books). The idea that "once banks are rejuvenated, young and emerging corporations will be able to invest, giving life to the economy" is attractive, but I fear mistaken. In the Japanese economic system, young and emerging businesses are usually cultivated under the supervision - direct or indirect - of large corporations. Rather than being starved of capital, any promising projects are usually drowned in it at an early stage - as demonstrated by all the money poured into the net bubble, biotech, 3G, etc. That is the reason why Japanese venture capital has continually generated extremely poor returns. In these circumstances replacing bank managements is akin to firing the cocktail waiters on the Titanic. The only way to run a profitable bank in Japan is not to lend out any money – which seems to be the strategy of a certain foreign-owned operation.

From a macro perspective, as long as Japan continues to generate excess savings, capital has to be wasted by somebody - whether the government with its dams and tunnels or the private sector with its collapsing RoI. The root of the issue is how to remove the excess savings. The current course appears for incomes to decline until there is less and less to save - ie a depression. The better course has to be to stimulate consumption so that the savings rate falls naturally. This would be no easy task at any time, but in the current angst-ridden circumstances something dramatic is required. In several countries household savings ratios have fallen when asset values have risen strongly and continuously. Just as FDR targetted higher commodity prices in the 1930s, Japan should now target higher asset prices. This could be done via a) central bank purchase of private sector assets, and b) large-scale multi-decade tax credits for individuals to write off capital losses on securities and real estate. Radical measures, maybe, but otherwise I fear that Japan will simply never recover.