Politically Dominated Policy Making: - 3
Learning from the Successful Handling of the Financial Crisis
III. Prescriptions for Economic Revival: The Three "Total Plans" Produced by Political Initiative
As I have explained in the preceding section, we junior LDP legislators formulated a pair of "total plans" whose implementation allowed Japan to weather the financial crisis that struck in 1997. Here I would like to explain the outline of these plans, along with that of our third comprehensive set of proposals, the Survival Plan for the Japanese Economy.
Total Plan for Increased Liquidity: In our first set of proposed policies, the Total Plan for Increased Liquidity of Land and Credits, we provided a set of coherent measures designed to work from the start through the finish. It contained four major planks.
First of all, it set forth clear measures to achieve smooth handling of the relationships between creditors and debtors. We proposed concrete measures including improvement of the auction system, legalization of "special servicer" operations (debt-collection activities, the handling of which had been limited to lawyers), and the establishment of real estate rights adjustment committees to clear up complex webs of claims on the same property. For the first time in Japan, we introduced the concept of "due diligence," which is applied as a matter of course in Western countries, to the task of assessing the current value of collateral real estate for bad loans and determining the amount of the outstanding credit that cannot be recovered.
In line with our proposal to allow the operation of debt-collection activities by private-sector businesses, a Special Servicer Law (Special Measures Law Concerning Credit Management and Collection) was enacted. So far some 50 debt-collection agencies have been established under this law. They have handled about ¥36 trillion in debts, and they have already collected approximately ¥1,388 billion.
We also called for expansion of the functions of the Cooperative Credit Purchasing Co., including the commencement of bulk sales and the strengthening of moves to sell off collateral real estate, thanks to which this organization's collection rate has improved substantially over the past three years, rising from 30% in 1998 to 80% in fiscal 2000 (ending March 2001).
In addition we proposed the enactment of a Law Concerning Liquidation of Specified Assets by Special-Purpose Companies to facilitate the sale of nonperforming assets in the form of small-denomination securities issued and managed by firms set up for this purpose.
The second major plank involved the promotion of urban redevelopment through measures to redraw property lines and consolidate small plots of land so as to put together reasonably sized and shaped development sites. Here the main idea was to make use of the Housing and Urban Development Corp. (called the Urban Development Corp. since October 1999), which was subsequently provided with ¥300 billion in public funds as additional equity.
The third plank was the creation of public-sector demand for land to use in urban reconstruction. We included measures centering on national subsidies aimed at generating demand for land through a comprehensive set of policies covering areas including welfare, disaster prevention, housing, and the revitalization of commercial districts.
And fourth, we proposed the improvement of the system of rehabilitation-oriented handling of corporate failures. The existing Composition Law and Corporate Rehabilitation Law were both oriented to rehabilitation, but the former required companies to be bankrupt before it could be applied, and the latter was designed with large corporations in mind; the procedures it required were arduous, and the process of drafting a rehabilitation plan was overly time consuming. So neither of these laws offered a readily usable approach for a wide range of corporations in trouble.
We therefore called for the urgent enactment of legislation to provide for rehabilitation-oriented procedures that companies could use before becoming insolvent and that would enable their prompt rehabilitation; we suggested that Japan should refer to the Chapter 11 procedures of U.S. law in this connection. The Ministry of Justice heeded our call for urgent action, and this led to the enactment of the Civil Rehabilitation Law in December 1999.
One additional feature of this plan was that we included explicit time frames for all the proposed measures, ranging from the clarification of the bad-debt situation through the effective use of collateral real estate and the enlivening of real estate transactions. In this way we acted to prevent the proposals from ending up as mere blueprints.
Comprehensive Plan for Financial Rehabilitation: As the second stage of our program to achieve a fundamental resolution of the bad-loan problem, we proposed a total plan for revitalization of the financial sector, formally titled the Comprehensive Plan for Financial Rehabilitation. With this we offered an overall set of prescriptions aimed at structural reform of the financial system.
In concrete terms the plan included the following measures designed to promote the rationalization and regrouping of financial institutions and otherwise move forward with structural reform: (1) disclosure of nonperforming assets and appropriate write-offs and reserve funding, (2) achievement of fair and transparent financial-sector administration by the Financial Supervisory Agency* and strengthening of inspection and regulation based on prompt corrective action, (3) promotion of restructuring by financial institutions and improvement of their operational soundness, and (4) prompt establishment of a scheme to deal with failures of financial institutions and creation of a bridge bank system.
The administration sought enactment of the measures that we proposed in this total plan with a package of six bills presented to the "financial session" of the Diet following the 1998 upper house election, but as I noted above, the process of negotiation with the opposition led to the amendment of our proposals and the enactment of the Financial Reconstruction Law and the Financial Function Early Strengthening Law.
The opposition proclaimed that the LDP had swallowed their demands whole by agreeing to the scheme for temporary nationalization (special public management) of failed financial institutions, but in fact our original set of bills had included an arrangement for temporary nationalization through the acquisition of ordinary shares. It is an incontrovertible fact that the plan that we raced with the clock to put together served as the foundation for the Financial Reconstruction Law that was finally enacted in October 1998.
In any case, the two new laws served as the basis for dealing with the failures of the LTCB and Nippon Credit Bank and for injecting needed capital into the major banks, thereby allowing Japan to pull back from the precipice of financial disaster.
We feel that the above two total plans provided 80% of the necessary prescriptions for revival of the Japanese economy. And some progress has been achieved since then. For example, financial institutions have directly written off as much as ¥10 trillion in nonperforming assets over the past three years. At the same time, however, partly because of the application of stricter disclosure standards and also because of the further deterioration of the state of the economy, the volume of bad loans has increased. Financial institutions have not worked as diligently as they should have to deal with this problem, and we have been left with major causes for regret.
One regrettable aspect of the situation is that we politicians were not sufficiently aware of the magnitude of the problem, partly because we did not have accurate figures available to us. Another regrettable aspect is that both the media and the general public have focused most of their attention on the handling of failed institutions and the infusions of public funds into banks, and they have also been distracted by the showiness of the major alliances and mergers among banks and other institutions, losing sight of the essence of the bad-loan problem.
The decision to inject public funds as capital into the major banks was inevitable. But even though the funds were ultimately repayable, inasmuch as banks had received this support from public funding, they should have taken fundamental action with their bad-loan problems; they should also have taken proper blame for allowing the situation to deteriorate so far, both by clarifying the responsibility of their executives and by carrying out drastic restructuring of their operations.
At the time, the administration of Prime Minister Keizo Obuchi was placing top priority on achieving an economic recovery with powerful moves to increase aggregate demand, including large-scale tax cuts and additional outlays for public works. On top of that the government installed a safety net for small and medium-sized enterprises in the form of special public guarantees for lending up to a total of ¥20 trillion (later hiked to ¥30 trillion). These moves, combined with the leeway provided by the injections of public funds, created a good set of conditions for banks to undertake the fundamental resolution of their bad-loan problems.
In fact, however, the banks failed to use the breather provided by this additional capital to deal resolutely with their bad loans; instead they took the easy route of waiving debts. And both the political leadership and the bureaucracy overlooked this failure. The bill from these more than two years of inaction is a big one. If the banks had proceeded diligently in dealing with the problem, we would not have fallen into the critical situation in which we now find ourselves.
The public funds injected for the purpose of rehabilitating the banking system perversely had the effect of magnifying the moral hazard in the financial sector and allowing efforts to deal with the problem to be put off, thereby accelerating the decline of the Japanese economy. This is a terribly unfortunate result.
Now, however, we are approaching the point at which further procrastination is impossible, and we cannot sit idly by and watch the situation continue to deteriorate. Now that we are entering the final stage of the bad-loan saga, we need to start work on a third total plan for the revival of the Japanese economy. And this plan needs to be implemented within the next three years under strong political leadership from a stable administration.
It was with this in mind that last spring, as Prime Minister Yoshiro Mori and his cabinet were on the verge of stepping down, that Nobuteru Ishihara and I, without any official support from the party and without knowing who the next prime minister would be, embarked on the task of drawing up a set of proposals. We worked at a feverish pace to come up with a comprehensive strategy encompassing areas including clarification of the state of bad loans, a further increase in the liquidity of land and credits, the rehabilitation of the financial system, the revival of industry, and putting a stop to asset deflation. Below I present the outline of our proposals, which we titled "Survival Plan for the Japanese Economy: Breaking the Negative Chain of Events."
1. Strict self-assessment and reserve funding: Recovery of confidence concerning the extent of bad loans outstanding
The market cannot rid itself of the suspicion that banks are classifying firms that are in danger of bankruptcy merely as "requiring attention" because they do not have an accurate grasp of their actual condition, particularly in the case of problem firms. In order to sweep away this suspicion, banks must implement a strict classification of borrowers with a view to the economic conditions of their respective industries, paying special attention to the borrowers in the "requiring attention" category, and they must set aside reserves accordingly. In addition, strict external auditing must be sought, and the FSA must promptly implement reinspection.
2. Removal of bad loans from balance sheets: Promotion of direct write-offs to provide effective handling
(1) Promotion of removal of bad loans from balance sheets within a fixed period
First of all financial institutions must be required to determine the state of their bad loans on their own and on this basis to conduct strict self-assessment and reserve funding. With this as a starting point, the FSA must promptly conduct reinspection so as to determine the extent of loans to borrowers requiring attention, and the removal of such loans from banks' balance sheets should be carried out within a fixed period.
The direct disposal of bad loans should be carried out choosing one of the three available methods as most appropriate to the conditions of the borrower: (i) legal procedures (such as under the Civil Rehabilitation Law, Specified Credit Conciliation Law, or Corporate Rehabilitation Law), (ii) out-of-court settlement (debt waiver), (iii) sale of the credit.
(2) Facilitation of settlement of creditor-debtor relations
The Special Servicer Law should be amended to expand its scope of application; nonbank debt instruments, monetary claims that have been made liquid and securitized by special-purpose companies, and monetary claims of failed companies should be added.
(3) Strengthening of the functions of the Resolution and Collection Corp. (RCC): Shift to an organization like the U.S. Resolution Trust Corporation (RTC)
The RCC has already contributed to dealing with the bad- loan problem by acquiring approximately ¥4 trillion in debts for collection and collecting close to half this amount; its functions should be strengthened so that it can take advantage of its human resources and expertise, performing an additional "special servicer" function for the bad loans of financial institutions in general, including banks that are in good condition.
(4) Establishment of debt-waiver rules: Creation of new rules with a view to true corporate rehabilitation
With respect to out-of-court settlement (debt waiver), new rules should be created that will assure social equity by preventing moral hazard and that will add a perspective of considering whether the debtor corporation can truly be rehabilitated. The tax handling of such cases should be made even clearer, and easy-going rehabilitation plans that may have adverse effects on entire industries should not be accepted.
3. Revitalizing industry: Structural reform of industries and corporations
Efforts should be made to revitalize those industries, mainly in the nonmanufacturing sector, where there are groups of companies that have excess liabilities.
(1) Improvement and use of legal provisions for corporate rehabilitation
Systems like those of the newly enacted Civil Rehabilitation Law and Specified Credit Conciliation Law should be extensively publicized, and active use should be made of them.
These systems should be further improved from the perspective of corporate rehabilitation.
Use of the system of DIP (debtor-in-possession) financing should be promoted so as to provide necessary operating funds and the like for companies in the process of being rehabilitated.
(2) Expansion of Industrial Revitalization Law: Creation of measures for firms with excess liabilities (mainly nonmanufacturing)
When the Law on Special Measures for Industrial Revitalization was enacted, the idea of debt waiver was not considered. The scope of this law's application should be expanded; a new set of standards for the designation of industries to be rehabilitated should be drawn up to promote the regrouping and streamlining of corporations where debt waivers have taken place, including ones in the nonmanufacturing sector. For cases of debt waivers meeting these standards, tax-free write-offs should be allowed.
From the standpoint of preventing moral hazard, the responsibility of the executives and shareholders of the borrowing corporations should be made clear, and in principle the remaining interest-bearing debt should be repayable within 10 years (or 5 years, depending on the line of business) so as to achieve rational rehabilitation.
(3) A new perspective on policy toward excess-liability (structurally depressed) industries
With asset-impairment accounting due to be introduced in just a few years, the corporate rehabilitation procedures of the Civil Rehabilitation Law and the Industrial Revitalization Law should be actively used for companies still suffering the aftereffects of the bubble economy (such as firms in the distribution, real estate, and construction industries).
In order to achieve the smooth application of newly defined standards when applying the Industrial Revitalization Law, consideration should be given to the establishment of an Industrial Revitalization Committee to promote the revitalization of industries and rehabilitation of sound firms premised on the strict assignment of responsibility to executives, lenders, and shareholders.
4. Increased liquidity of land assets, promotion of urban revitalization, correction of asset deflation
A further increase should be achieved in the liquidity of land and credits from the standpoint of correcting asset deflation and of urban revitalization.
(1) Creation of "Survival Fund," improvement of market for asset-backed securities
Instead of being allowed to remain in a frozen state, bad loans and collateral real estate owned by financial institutions should be put on the market, and a "Survival Fund" should be created as an organ to provide for the setting of bottom prices for these assets. This fund would securitize the assets that it acquired, thereby putting the market mechanism to work; in addition, by contributing to the development of the market for asset-based securities, it would promote fundamental resolution of the bad-loan problem.
Also, a real estate investment index should be created to assist investors in making judgments.
(2) Temporary, drastic lessening/waiver of real estate transaction taxes
In order to increase the liquidity of land, the tax rates on real estate transactions, such as the real property acquisition tax and the registration and license tax, should be set at zero for a period of three years.
(3) Creation of a Metropolitan Genesis Commission
A new "Metropolitan Genesis Commission" should be created as an organ to strongly promote efforts at metropolitan genesis from a national standpoint. It should promote such projects as a major expansion of the airport at Haneda to transform it into an international, 24-hour facility and establishment of a third major airport in the Tokyo metropolitan area through the reversion of Yokota Air Base from U.S. military use. The commission should promote concentrated investment in urban areas promising major economic ripple effects so as to serve as the catalyst for an economic recovery.
The role of the Urban Development Corp., which has specialized know-how regarding urban development, should be strengthened, and in order to promote metropolitan revitalization, the rate of its equity investment in activities aimed at making effective use of land should be raised to 100%.
(4) Promotion of sale of real estate held by the RCC
Since the RCC is lacking in expertise concerning real estate, it should enter into arrangements for personnel support and joint development with local government organs, private-sector businesses, and the Urban Development Corp. so as to increase the value of its real estate holdings and promote their sale.
5. Supplementary macroeconomic policy measures
(1) Monetary relaxation by the Bank of Japan: Ancillary support for fundamental resolution of the bad-debt problem
Resolute action to achieve final resolution of the bad-debt problem will inevitably have a negative impact on the economy, and so it is essential that this be countered with supplementary macroeconomic policy measures.
(2) Employment policies aimed at promoting greater mobility
Emergency job-creation measures:
Efforts to create approximately 1 million new jobs as a temporary, emergency measure if structural reform leads to a sharp increase in the number of people losing their jobs. Such efforts would include temporary hiring by the public sector, including both national and local government organs, for work in such fields as education, welfare, and the environment, along with trial hiring by private-sector organizations.
Increased labor mobility(support for reemployment):
Use of schemes to support reemployment (such as use of private-sector reemployment support agencies) under the Employment Measures Law.
Creation of new industries, jobs:
Promotion of employment creation measures centered on new and growth industries.
Human resource development:
Promotion of human resource development to enhance people's value in the labor market, using vouchers and other systems; implementation of job-related education and training with a focus on unemployed middle-aged and older people.
Work sharing:
Implementation of a Japanese version of work sharing.
Extension of unemployment benefit period:
Limited extension of the period of payment of unemployment benefits to soften the pain of restructuring, conditional on mandatory participation in ability-development programs and with reduction of benefits for those turning down offered jobs.
This Survival Plan was drawn up as a counterproposal to the emergency economic package agreed upon by the ruling coalition on March 9, because the latter failed to show a clear path to economic revival.
A month after the parties in the ruling coalition agreed on their package, the government announced its own emergency economic package, which was drawn up on the basis of the ruling coalition's proposal with specific content filled in by representatives of various ministries and agencies. However, I am confident that the Survival Plan drawn up by two politicians, Ishihara and me, was far superior to this product of the "bureaucracy-dominated" government.
The only way to achieve a proper resolution of the bad-loan problem that is blocking the revival of the Japanese economy is to move steadily to shift these loans off financial institutions' balance sheets.
In our Survival Plan we proposed measures including the revision of the Special Servicer Law, which was enacted in line with our Total Plan for Increased Liquidity of Land and Credits, and strengthening of the functions of the RCC in adjusting and collecting nonperforming loans. Concrete action has since been progressed in some areas.
In the area of resolving the bad-loan problem, the Advanced Reform Program adopted by the government on September 21 included measures to strengthen the functions of the RCC and a declaration of intention to implement special inspections aimed at making sure that financial institutions set aside proper reserves for loans to borrowers that "require attention."
We also proposed the drawing up of rules concerning debt waiver to deal with the potential moral hazard from borrowers receiving debt waivers too easily. Subsequently the Japanese Bankers Association and Keidanren (Japan Federation of Economic Organizations) set up a special group to study this issue, which has produced guidelines for the waiving of debts.
Also, September brought the start of trading on the stock market for real estate investment trusts (funds modeled on U.S. REITs), which are hoped to contribute to dealing with bad loans. Against a backdrop of deteriorating investor sentiment toward prospects for the stock market, institutional investors looking for relatively high dividend yields have shown considerable interest in these new REITs, and it is expected that the market in securitized real estate of which they form the core will grow to around ¥10 trillion over the next 10 years.
In the area of policy to counter asset deflation, consideration is moving ahead on drastic measures to lighten the tax burden on land transactions. Also, the quantitative relaxation undertaken by the BOJ should help prop up demand. Another urgent issue is the structural reform of the stock market; it has been decided to reform the taxation of securities and to improve conditions so that individual investors will be able to participate in the market with confidence.
Meanwhile, in order to achieve the smooth implementation of this comprehensive strategy, it is necessary, as noted above, to have ancillary support from macroeconomic policy. Final resolution of bad loans and other measures that will have a strong negative impact on the economy must be accompanied by support from the monetary-policy side.The BOJ showed its stance of providing ancillary support for structural reform with its decision on March 19, just before we completed our Survival Plan, to implement additional monetary relaxation, primarily through the reintroduction of its zero-interest-rate policy (pushing overnight rates down effectively to zero). The central bank further moved in August and September to expand the scope of its quantitative relaxation, and in September it also lowered the official discount rate. We hope that it will continue to manage monetary policy appropriately and nimbly.
Another area in which macroeconomic policy must play a supplementary role is in the area of employment policy to cope with the growth of joblessness occurring during the process of structural reform, to promote the movement of labor into new fields, and to alleviate the mismatch between labor supply and demand. Under our Survival Plan we called for the implementation of a comprehensive set of employment policies, including temporary emergency hiring, if the number of unemployed people rose sharply.
This Survival Plan represents a set of prescriptions for the final stage of dealing with the bad-loan problem. The path we have described is one that the Japanese economy absolutely must go down in order to achieve a revival.
Furthermore, while the measures must be implemented on a comprehensive basis, since the two of us were not in positions of responsibility enabling us to push forward with these policies, we were unable to achieve the same sort of influence for this plan as our previous two total plans had.
Partly because it was drawn up to counter the emergency economic package put together by the ruling coalition, our plan was virtually ignored within the LDP, but weekly magazines and newspapers showed interest in it, and we also had chances to explain it through television appearances. Though our plan lacked influence within the party, through the media we were able to exert an impact on the discussions of the bad-loan issue, and I believe that our discussions with bureaucrats during the course of the drafting of our plan have had some effect on their subsequent policy-making activities.
Politically Dominated Policy Making: - 1
Politically Dominated Policy Making: - 2
Politically Dominated Policy Making: - 3
