2002.01.15

Politically Dominated Policy Making: - 2

Learning from the Successful Handling of the Financial Crisis

II. The Shift from Bureaucratic to Political Dominance

The July 1993 lower house election resulted in the defeat of the LDP, which was forced to yield power to an eight-way coalition of anti-LDP forces. Thus ended 38 years of rule by the Liberal Democrats under the 1955 setup.

During its decades in power, the LDP had developed a close policy-making partnership with the bureaucracy, which the party used in effect as its own think tank. Through this partnership, LDP administrations were able to develop Japan into the world's number-two economic power. The arrangement functioned smoothly as long as the Liberal Democrats were properly aware of their responsibility for policy and there was an appropriate degree of orderliness and tension in the relationship between them and the bureaucrats on whom they relied for policy-making assistance. But over the course of time the politicians gradually relaxed their hold on the reins, and in a number of crucial fields, such as financial regulation, they came to rely completely on the bureaucrats. Thus it was that a bureaucracy-dominated system was allowed to take hold.

The process of drafting and implementing policy must be accompanied by discipline and responsibility. The emergence of the system of bureaucratic dominance was the fault of the Liberal Democratic politicians who allowed the bureaucrats to take control. So the defeat of the LDP in 1993 represented a good chance to correct the situation. And the new administration that was inaugurated that August under Prime Minister Morihiro Hosokawa, the popular leader of the Japan New Party, proclaimed that it would bring the bureaucrats' power under control. But the new ruling coalition, made up as it was of eight relatively small parties, ended up relying even more heavily on the bureaucracy than the LDP had. Perhaps the most extreme example was the proposal for a new “national welfare tax” that was drawn up by the bureaucrats of the powerful Ministry of Finance and that the Hosokawa administration adopted without any serious review from the political side.

In April 1994 Hosokawa resigned and a new coalition formed under Tsutomu Hata, head of the Japan Renewal Party. But Hata's coalition did not even have a clear legislative majority, and it was incapable of exerting control over the bureaucracy. Barely two months after its inauguration it fell, and the LDP returned to power, this time in a coalition with the Socialists and a third small party.

The bureaucracy's strengths lie in its store of policy-making expertise and its effective monopoly on much of the necessary information. In order to seize the policy reins from the bureaucrats' grip, politicians must possess a combination of strengths of their own: logic, wisdom, a sense of balance, conceptual power, and the power of persuasion.

Having started out on the opposition side in the Diet, I was strongly conscious of this set of requirements, and I worked at building my own capabilities in those areas where I felt I was lacking. At the same time I actively cooperated with other junior legislators in producing policy recommendations, and together we were able to get a number of our proposals implemented. On the basis of this track record we earned a reputation within the LDP as policy crafters. Then the Japanese economy was shaken by a huge tremor, the financial panic of November 1997.

A string of financial institutions went under in rapid succession: Sanyo Securities, Hokkaido Takushoku Bank, Yamaichi Securities (one of the big four brokerage houses), and Tokuyo City Bank. The direct cause of this chain reaction was the default on obligations in the call market (the overnight interbank money market) that occurred immediately after Sanyo Securities' failure. If the financial authorities (specifically, the mandarins of the Banking Bureau within the Ministry of Finance) had properly gauged the gravity of the situation when the default occurred and had acted to prevent its recurrence, the rush of failures might have been averted, along with the runs on certain banks by panicky depositors. At the time, however, it was all the bureaucrats could do just to deal with the individual cases of bankruptcy as they happened. This inability to take preventive action and defuse the crisis highlighted the limits of the bureaucracy-dominated system, which became totally ineffective during the subsequent debate over infusions of public funds to shore up financial institutions.

The reason Japan's financial sector came to malfunction so seriously was the delay in dealing with the problem of nonperforming loans. Shortly after the November 1997 panic, politicians took the lead in planning and implementing injections of capital from the public sector into the major banks. Unfortunately, however, this did not produce a fundamental solution of the problem.

The only way to deal effectively with the nonperforming loans of financial institutions is to get them off the institutions' balance sheets. Many of the loans that had gone sour were backed by real estate as collateral; we in the LDP figured that if it were made possible to transfer the ownership of such real estate more readily, banks would be able to sell off the properties they had taken as collateral and thereby wipe the bad loans off their books. This, we thought, would allow the financial sector to recover.

It was with this idea in mind that in February 1998 the LDP, which had taken the policy reins from the paralyzed mandarins of MOF, started to prepare measures to promote the liquidity of land and financial credits. The work was undertaken by a specially created panel, called the Special Research Commission on the Implementation of the Total Plan for Financial Revitalization, headed by Okiharu Yasuoka; the core members were Nobuteru Ishihara (now minister of state for administrative reform), Shiozaki, and me, and a number of other junior and mid-ranking legislators also took part, including Yoshimi Watanabe.

The fact that we younger members were assigned this important job was due to our having previously served in policy-making posts within the party. Junior legislators, however talented, cannot put their abilities to work unless they are assigned positions of responsibility. In this respect we owed much to the understanding of two senior figures within the party: Koichi Kato, who at the time was the LDP's secretary general, and Taku Yamasaki, who headed the party's Policy Research Council; they had both consistently called for a change of generations within the party's organization.

In any case, we worked intensively on this project, taking the policy-making initiative as politicians while consulting repeatedly with representatives of the relevant bureaucratic organs. Within a short two months we were able to complete work on the “Total Plan for Increased Liquidity of Land and Credits” that was incorporated into the package of emergency economic measures set forth by the LDP toward the end of April that year.

Often in Japan multiple financial institutions and other creditors have claims on a single piece of land. These overlapping claims need to be sorted out before the land can be sold in settlement of an unpaid loan. Our plan was designed to make it possible to break through this logjam and get the property on the market.

Our next step was to come up with a scheme that would push financial institutions to effectively dispose of their nonperforming credits, get the financial system on the road to recovery, and promote structural reform. As we were undertaking this new task, it came out that the Long-Term Credit Bank of Japan (LTCB) was in critical condition, and this made our work even more difficult than it otherwise would have been. But it also gave us a strong sense of urgency, and so we stepped up the pace of our “politics-dominated” initiative, which led to the approval on July 2 of our second “total plan,” the Comprehensive Plan for Financial Rehabilitation.

In our work to develop these plans, we started out by sketching the overall policy outline. Next we conducted repeated and thorough consultations with representatives of the responsible bureaucratic organs. We considered this feedback and then put together the final draft of the plan. I feel that we successfully achieved a “politics-dominated” approach, that is to say, an appropriate form of policy making with elected politicians taking the lead.

Japan has many highly capable bureaucrats. But there are limits to what they can successfully handle, and naturally they cannot be expected to make political judgments. Because their perspective is that of their particular ministry or agency, they find it hard to coordinate their views on policy topics that cut across organizational lines or that involve important issues of overall national strategy.

The Cabinet Councillors' Office on Internal Affairs does exist within the bureaucracy as a policy coordination organ, but about all it can manage to do is assemble proposals from the various ministries and agencies and package them to look like a comprehensive policy set. A bureaucratic organ cannot really be expected to do a full job of adjusting among the conflicting pulls of the individual policies of other bureaucratic organs and putting them all together into a coherent whole.

So it is up to politicians to deal with the formulation of policy in areas that involve multiple agencies or matters of national strategy. My own involvement in the policy-making process made me recognize even more strongly than before just how important it is for elected politicians to exercise leadership in this respect.

To accomplish this, politicians naturally must have the requisite policy-making knowledge. Ishihara, Shiozaki, and I, who formed the nucleus of the junior-legislator policy-making team, met this requirement, each in our own way. Ishihara had been actively involved in fiscal and monetary policy affairs ever since becoming a national legislator. Shiozaki was an expert on finance, having worked for years at the Bank of Japan (BOJ). And I, as a former bureaucrat, was familiar with the policy-making process; I did not have specialized knowledge of finance, but I studied diligently to overcome that lack. The three of us, together with other energetic and eager Diet members of our generation, developed and refined our policy proposals through a rigorous process of brainstorming.

In any case, it was unprecedented for this sort of crucial policy-making agenda to be entrusted to a group of relatively junior Diet members like us. One reason this became possible was that the power of the bureaucracy had declined, making it easier for politicians to take the policy reins. But the biggest factor was the collapse of the structure of control by the LDP elders resulting from the end of the 1955 setup, which threw the political world into disorder and resulted in the assignment of important work to us younger legislators who were eager to practice policy-centered politics.

The two total plans that we put together proved that it was possible for politicians to take the lead in formulating important policies. They also served as a model of politics-dominated policy making in terms of the close teamwork that we achieved between the cabinet and the ruling party. In addition, the policy-making process benefited from the smooth interaction between Prime Minister Ryutaro Hashimoto and LDP Secretary General Koichi Kato, both of whom were policy experts in their own right.

When we were putting together the second total plan, we expected that the LDP would emerge victorious from the July 12 House of Councillors election; according to the scenario that we envisioned, an extraordinary Diet session would be convened toward the end of July and it would enact the government's package of six laws for financial revitalization no later than mid-August. We believed that quick action was of the essence in defusing the financial crisis.

In the July upper house election, however, the LDP unexpectedly suffered a major defeat, and our schedule was greatly disrupted. At the extraordinary Diet session that deliberated the financial crisis, the opposition parties presented a joint legislative proposal in competition with the one presented by the ruling party, and the Diet became bogged down in the struggle between the two sides. As the deliberations dragged on, the shares of the troubled LTCB dipped further in price, aggravating concerns about the stability of the financial system.

As the situation appeared to be descending into a vicious cycle, junior legislators from the LDP and from the opposition Democratic Party of Japan entered into talks to reach a compromise, on the basis of which the original LDP package was revised and two key laws were passed in October: the Financial Reconstruction Law, which stipulated procedures for handling the failure of financial institutions, and the Financial Function Early Strengthening Law, which provided for up to \60 trillion in public funds to be used in shoring up banks' capital adequacy.

Politicians also took the initiative on the LTCB issue, which up that point had been the object of efforts to find a solution under existing legislation; they arranged that the troubled bank would be dealt with under the new Financial Reconstruction Law. As soon as the new law went into effect, it was applied to the LTCB, which was temporarily placed under government ownership.

In the new cabinet formed just before the extraordinary Diet session, I was appointed parliamentary vice-minister for health and welfare, and so I did not participate in the deliberations over the financial legislation during this session. As a person who had been deeply involved in putting together the “total plan” for financial rehabilitation, I was particularly sorry that I was not able to take part in the final work of getting the relevant bills, including the provisions concerning the bridge bank scheme, passed into law.

Above I have run quickly through the course of events from the financial crisis that struck in November 1997 through the “finance session” of the Diet in the following year.

To reiterate, the process by which the financial crisis was treated involved the operation of a politics-dominated system centering on the younger legislators labeled “brats in the Diet”; this took place against a backdrop of rapid debilitation of the bureaucracy that had previously been in effective control of the financial sector and the resulting shift of initiative to the hands of elected politicians.

In putting together the best set of policies we could within the limited time available, we fully and unhesitatingly called on experts in the bureaucracy for help in negotiations over the legislative package with the Cabinet Legislation Bureau and in dealing with the parts of the proposed legislation requiring specialized technical knowledge. Some people have suggested that such an approach might invite a return to the old bureaucracy-dominated system. But there is no danger of this happening if, as I noted at the beginning of this essay, politicians are aware of their responsibility for policy and maintain an appropriate degree of orderliness and tension in their relationship with the bureaucrats who assist them.

For the politics-dominated system to work effectively, politicians must be able both to think for themselves and to make full use of the bureaucratic organs while exercising their leadership role.

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