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Although Japanese banks closed their account books at the end of the fiscal year in March 2003, they can never close their eyes on the ever-present problem posed by bad loans at home.
Non-performing loans began to plague financial institutions in the post-bubble economy and have become a huge liability, with the total burden for banks estimated to be anything from US$350 billion to US$600 billion. Since Japanese banks make money from debt financing as opposed to equity financing, bad loans deprive banks of ready capital due and keep them in a constant balancing act. Indeed, the predicted tightening of capital adequacy ratios by Heizo Takenaka, the new Minister of Financial Services, left banks scrambling to raise funds before the end of the 2002 fiscal year.
However, higher levels of capital will not be enough to resolve this festering problem, which threatens to implode on a spectacular scale if the banks run out of capital and collapse. The strain placed by bad loans on Japanese financial institutions is so severe that a real recovery will require significant pain in the short term for gain in the long term. Both the government and the financial industry in Japan must renounce the lax or timid moves taken in the past and adopt a hard-headed approach, identifying and calling in more non-performing loans even if it means admitting that the problem is far larger than previously reported. A realistic assessment will also mean that Japanese banks and insurers must brace themselves for restructuring and corporate failures. Yet while politicians and businessmen have constantly carped of reform over the past decade, there was no significant change. Now is the time to take action so Japan can ride the next wave of global economic growth with ready capital and stable banks.
Japan's...