First in a series

Staff writer

Fueled by a bribery scandal involving bankers, uncertainties are mounting over how Japanese banks will close their accounts at the end of March.

The close of the 1997 fiscal year comes at a critical time, with the economy on the verge of a recession, the financial system remaining fragile and the Asian financial crisis threatening to drag down the global economy.

The banks' settlement of accounts can greatly affect the country's economy as the "reluctance to lend" by banks has been placing many companies in deep financial trouble, posing a risk of more bankruptcies.

Three issues hold the key to the banks' closure of accounts:

1) The government scheme to pump capital into banks with the use of public money;

2) a reappraisal of the banks' landholdings;

3) and flexible accounting regarding latent losses on their shareholdings.

But whatever makeshift measures banks take in March, experts say, many of them will have to face a still tough environment from April because the fundamental problem is not being solved.

"If (some banks) survive for half a year, they could not continue for much longer unless they improved their profitability," said Susumu Takahashi, chief economist at the Japan Research Institute.

The enactment on Monday of financial system stability laws paved the way for the use of up to 30 trillion yen in taxpayer money, 13 trillion yen of which will be set aside to strengthen banks' capital bases.

The capital infusion is partly aimed at relaxing the banks' reluctance to lend. Banks, heavily burdened by massive nonperforming loans and a potentially fragile stock market, are shrinking their loans to meet capital-adequacy standards before April.

Under the new legislation, the government plans to buy by March 31 preferred stocks and subordinate bonds to be issued by financial institutions. Such procedures, however, are subject to the approval of an examining committee.

The minimum standard for capital-to-asset ratios of internationally operating banks is 8 percent under the guidelines of the Bank for International Settlements, based in Basel, Switzerland. The standard for domestically operating banks is 4 percent.

An inability to meet these standards points to a bank's poor financial health. A bank may be forced to discontinue operations if the ratio falls far below the standards.

The Finance Ministry announced last month that the potential sour loans held by the country's banks are estimated at 77 trillion yen, 3.5 times greater than earlier figures. Many analysts believe the actual total is much larger.

Japan's 19 major banks -- city, trust and long-term credit banks -- plan to write off nonperforming loans worth 7.7 trillion yen this fiscal year. The writeoff is expected to force 13 of the banks into the red, with the Bank of Tokyo-Mitsubishi expecting the largest pretax losses of 730 billion yen. The losses, which will increase if stock prices plunge, will cause the banks' net worth to fall.

Yukiko Ohara, a senior analyst at UBS Securities Ltd., said many banks began cutting back on loans because their capital ratios could otherwise fall below 8 percent.

Ohara predicted that using 2 trillion yen to 3 trillion yen in public funds for capital injection and 3.5 trillion yen for the reappraisal of banks' landholdings would raise the average capital-adequacy ratio of the 19 major banks by about 1 percent.

Under the landholding reappraisal, a makeshift measure for banks planned by the Liberal Democratic Party, the value for land would be set by market prices rather than purchase prices. Purchase prices are usually lower, and the unrealized gains can be counted as capital.

Yet a reappraisal of landholdings could destabilize banks' capital-adequacy ratios if land prices continue to drop, said Kyoko Narita, a senior associate director at the Tokyo branch of Deutsche Morgan Grenfell Capital Markets.

What's puzzling about preferred stocks is that all banks may not need a capital injection of public money to meet the capital-adequacy standards.

"Building up our capital base is not going to be a factor when we decide whether to apply for a capital injection," an official of a large bank said. But the stabilization of the entire financial system -- helping weak banks to protect their sound borrowers -- would constitute one, he added.

The government wants strong banks to apply first so that weak banks can apply without fear of being considered to be desperately weak.

However, now that the Bank of Tokyo-Mitsubishi and Sumitomo Bank, as leading institutions, have become embroiled in the bribe scandal involving Finance Ministry officials and four other large banks, the government scheme to stabilize the financial system faces more uncertainties.

Naotaka Saeki, president of Sanwa Bank, has hinted that his bank may not apply for the capital-infusion scheme because of its alleged involvement in the scandal.

Another issue focuses on which accounting method banks will adopt for their long-held listed stocks: the cost method or the lower-of-cost-or-market method. Traditionally, banks have had to opt for the cost-or-market method, in which stocks are appraised at their lower values. By this method, banks incur latent losses when market stock prices fall below the purchase price.

The cost method, whose concept is opposite to that of landholding reappraisals, is based on purchase prices. Free from stock market fluctuations, the method prevents appraisal losses, which would otherwise reduce capital-adequacy ratios.

In a bid to ease the banks' reluctance to lend, the Finance Ministry announced in December that they could now choose either method. But the catch is that the cost method makes up accounting figures superficially, and latent losses that would have been incurred can easily be made known to the public.

Narita of Deutsche Morgan Grenfell said the cost method will have a negative impact on credit ratings because rating agencies are sensitive to discrepancies between accounting figures and the reality of an institution's position.

But banks with capital ratios bordering on the regulatory standards will have no choice but to use the cost method, Narita said.