Japan's highly sophisticated banking system continues to play a dominant role in financing the country's and the world's economic development, despite Japan's decade long recession. In the mid-1980s, while the US was becoming a debtor nation, Japan became the world's largest creditor. Banks provide not only short-term but also long-term credit, which often in effect becomes fixed capital in industry. In terms of sheer size, Japanese banks occupy some of the top spots in worldwide bank ratings.
The controlling national monetary institutions are the Bank of Japan (founded in 1882) and the Ministry of Finance. The Bank of Japan, as central bank, has power over note issue and audits financial institutions to provide guidance for improving banking and management practices. Ceilings for interest rates are set by the bank, while actual rates, commissions, and discounts are arranged by unofficial agreements among bankers and other financial institutions, including the National Bankers' Association. A new banking law, replacing the National Banking Law of 1928, was adopted in 1982. Its objectives were to increase competition in the financial world by enabling banks to sell bonds and by authorizing both banks and securities firms to sell commercial paper and certificates of deposit.
Eleven important city banks, with branches throughout the country, account for about two-thirds of all commercial bank assets, the rest accruing to 131 regional banks, 7 trust banks, and 83 foreign banks. In addition, 112 foreign banks have representative offices in Japan. Of special interest are the postal savings facilities, which are used by many Japanese families and have assumed many of the aspects of a huge state-owned banking business.
The Foreign Exchange Law was changed to totally liberalize cross-border transactions in 1998. Important foreign exchange banks include the city banks, long-term credit banks, trust banks, major local banks, major mutual loan and savings banks, and the Japanese branches of foreign banks. Such governmental financial institutions as the Japan Export-Import Bank, the Central Bank for Commercial and Industrial Associations, and the Central Bank for Agriculture and Forestry also participate in foreign exchange markets.
The rapid expansion of bank lending and the importance of land and stocks as assets in Japan's financial sector have exposed its financial institutions to the risks stemming from falling asset prices. Thus one of the root problems of Japan's difficulty in returning to a trend rate of GDP growth lies in the fragility of the financial sector. Banks and other financial institutions have been rocked by the huge sums of non-performing debt, stemming from an earlier lending spree based on inflated land values as collateral. In the aftermath of the collapse of the "bubble economy," many of the generous loans extended, especially to land and property developers, cannot be repaid or even serviced. Japan's 21 major banks, including the 11 city banks, wrote off about ¥11 trillion ($102 billion) of bad debts at the end of March 1996.
The bad debt held by the seven failed "jusen" (housing loan companies established by banks and agricultural financiers), which were liquidated partly at public expense, led to huge secondary losses in other areas of the financial sector. The liquidated jusen moved their assets to the newly established Housing Loan Administration Corp., which had the responsibility, from the beginning of its operations in October 1996, of recovering loans from the seven companies. This was unlikely, however, since not only would many property companies go bankrupt, but also much of the bad debt was extended illegally or to companies associated with yakuza (gangsters). Consequently, several jusen executives were arrested in 1996 on charges of alleged aggravated breach of trust.
The most dramatic merger was that between the Bank of Tokyo and Mitsubishi Bank in April 1996. This "mega-merger" created the world's largest bank, which became highly competitive in global financial markets. In 1999, three Japanese banks: Dai-Ichi Kangyo Bank, Fuji Bank, and IBI, announced a merger worth more than $1.3 trillion, surpassing all other large financial institutions. The other premier Japanese banks in 1999 were Sumitomo Bank, Sanwa Bank, and Sakura Bank. The International Monetary Fund reports that in 2001, currency and demand deposits—an aggregate commonly known as M1—were equal to $2,318.7 billion. In that same year, M2—an aggregate equal to M1 plus savings deposits, small time deposits, and money market mutual funds—was $5,293.5 billion. The money market rate, the rate at which financial institutions lend to one another in the short term, was 0.06%. The discount rate, the interest rate at which the central bank lends to financial institutions in the short term, was 0.1%.
Major securities exchanges are in Tokyo, Hiroshima, Fukuoka, Nagoya, and Osaka; small regional exchanges are in Kyoto, Niigata, and Sapporo. Although prior to World War II most stocks were held by large business firms (zaibatsu), stocks are now available for public subscription. The Tokyo Stock Exchange, the largest in the world, is the most important in Japan.
In the late 1980s, there were three categories of securities companies in Japan, the first consisting of the "Big Four" securities houses (among the six largest such firms in the world): Nomura, Daiwa, Nikko, and Yamaichi. The Big Four played a key role in international financial transactions and were members of the New York Stock Exchange. Nomura was the world's largest single securities firm; its net capital, in excess of US $10 billion in 1986, exceeded that of Merrill Lynch, Salomon Brothers, and Shearson Lehman combined. In 1986 Nomura became the first Japanese member of the London Stock Exchange. Nomura and Daiwa were primary dealers in the US Treasury bond market. The second tier of securities firms were affiliates of the Big Four, while some were affiliated with banks. In 1986, 83 of the smaller firms were members of the Tokyo Securities and Stock Exchange. Japan's securities firms derived most of their incomes from brokerage fees, equity and bond trading, underwriting, and dealing. Other services included the administration of trusts. In the late 1980s a number of foreign securities firms, including Salomon Brothers and Merrill Lynch, became players in Japan's financial world.
The Tokyo Securities and Stock Exchange became the largest in the world in 1988, in terms of combined market value of outstanding shares and capitalization, while the Osaka Stock Exchange ranked third after Tokyo and New York.