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Failure to cap deposit insurance means banking system will fester

by Teruhiko Mano

Starting in April 2003, the government will no longer protect deposits when banks fail and instead introduce a “payoff” scheme offering partial protection of up to 10 million yen per depositor per bank.

As the deadline draws near, certain sectors of the banking industry and lawmakers within the ruling coalition are urging the state to delay the plan. In the background is the fact that when the government terminated its full guarantee on time deposits in April, the shift of funds from small and medium-size banks — some of which was put into postal savings accounts — was larger than anticipated.

Both individual depositors and corporate clients, as well as public sectors, such as the municipal governments, are reviewing their choice of financial institutions.

However, the government should not delay the payoff scheme any further, given that it has already postponed it once. Another delay would merely leave the banking sector’s problems unresolved and put off much-needed reforms in management.

That is actually what happened when the government postponed the payoff scheme in April 2001. Instead of lobbying for more delays, bank managers should make a concentrated effort in the coming eight months to gain depositors’ trust.

In their bid to ease customer anxiety, some small financial institutions are already seeking tieups and cooperative agreements.

For example, some are planning to divide their larger accounts into more manageable chunks to exchange with similar accounts from other banks so their clients’ funds can be protected in full and remain in the region.

Such moves may represent the first signs that small banks are trying to consolidate — one of the positive effects sought from the payoff scheme.

South Korea, which experienced the full impact of the Asian financial crisis of the late 1990s, introduced a similar plan last year.

Competition in the banking sector is intensifying both in and outside of Japan, with many people realizing the convenience of Internet banking and other new services.

Japan’s traditional sector-by-sector financial system met the needs of the early postwar years when Japan was in a savings shortage. But that system has no relevance today because the nation has an excess of savings.

The fact that all of Japan’s long-term credit banks have been reorganized into new institutions in recent years symbolizes the changes that have taken place in the banking industry.

In addition to reorganizing the private-sector banks, it is only natural for the government to review the “yucho” state-run postal savings system, which, with its governmental backing, has expanded into a behemoth the size of several megabanks combined.

Yucho has clearly outgrown its original role as a vehicle for small-lot savings. The outstanding balance of the postal savings system, which stood at 136 trillion yen at the end of fiscal 1990, expanded to 240 trillion yen at the end of March, accounting for 35 percent of total household savings.

The Diet has just enacted laws to reorganize the postal savings system into an independent public corporation, and discussions on yucho’s future should move on to the next stage.

The state-run postal business has mail-delivery, financial and insurance functions. I would like to focus here on the financial impact of the recently approved reorganization.

Needless to say, the discipline of finance involves the raising and managing funds. The reorganization of yucho into an independent corporation is significant in that its fundraising and fund-managing functions are linked via the Finance Ministry’s special account for the Fiscal Investment and Loan Program, better known as “zaito.”

Most of the money deposited at post offices will be spent on zaito, which is also referred to as the “second budget.”

Opponents of postal reform often say yucho workers give well-accepted service, but that is because they are only in charge of collecting deposits. In any financial institution, the workers in charge of collecting deposits are all smiles to the customers. But the people in charge of fund management — a job that involves screening — cannot afford to be so nice.

Yucho’s reorganization into an independent public corporation means that this huge financial institution will no longer be directly linked to governmental credit, and yucho as the deposit-collecting agent will be separated from other government-affiliated financial institutions that rely on yucho money.

In other words, yucho as the deposit collector will now have to learn how to manage the funds, while governmental bodies that used to manage the funds will need to find ways of raising funds. To win trust of depositors and those buying their bonds, the independent corporation will naturally have to ensure proper disclosure of its assets.

There will also be the issues of deposit insurance, payment of taxes, and clear separation from postal operations. It is essential that a level playing field be secured for competition with private-sector banks. This is the main logic behind the argument for privatizing the postal business.

An organization is run by people. This is why attention is being focused on who will be tapped to head the postal corporation (speculation is that a businessman will be recruited). But I wonder if employees of the state-run postal businesses, once they are handed over to an independent corporation, will be able to perform their new jobs without the government backing they used to rely on?

The answer will be clear when the new corporation releases its earnings results. If its performance turns out to be poor, its very existence will be questioned — just like that of its private-sector competitors.