Japan had hoped to convince its Group of Seven partners that it is serious about cleaning up banks’ bad loans. But things could not have gotten much worse after Friday’s meeting in Washington.

Finance Minister Masajuro Shiokawa’s statement that Japan will do its best to solve the problem was overshadowed by his flip-flopping comments over what he had said and where he had said it.

Squabbles at home over loan-cleanup policy made it even less likely that the government would achieve its goal of solving the problem by the fiscal year ending in March 2005.

Expectations were high that Shiokawa would tell his G7 counterparts that Japan is ready to tackle the problem by taking the controversial step of injecting public funds into banks.

But he did not mention the matter in the G7 talks. Instead, he caused confusion by making contradictory comments as to whether he mentioned it in a separate meeting with U.S. Treasury Secretary Paul O’Neill.

Shiokawa sought to put an end to the fiasco Saturday by admitting that he mentioned the use of public funds to O’Neill only informally — outside of the 40-minute meeting with him.

This came after a denial, an admission and another denial Friday over whether he had told O’Neill that Japan is ready to use the funds to boost the capital base for banks to help them dispose of bad loans.

The nonperforming loans weighing down the Japanese banking sector have been a major burden on the struggling economy. Government estimates put such loans at 52 trillion yen by the end of October, but some analysts think the actual figure is much higher.

“Japan’s bad-loan problem is now in a difficult phase,” a senior Bank of Japan official said in Washington.

“Getting rid of the relics of the bubble economy will not spell the end of the problem.” With structural changes taking place, the official explained, the selection of corporations is continuing and is leading to an increase in bankruptcies. “That means that there is a problem of fresh bad loans,” he said.

Back home, key policymakers are still divided over how to deal with the problem, especially concerning the use of public funds.

Financial Services Minister Hakuo Yanagisawa, head of the agency that oversees the banking sector, is against the proposal.

Yanagisawa has maintained that although public funds should be used in times of crisis, the current situation does not qualify.

Discussions are under way over whether to use taxpayer money at such a politically sensitive time. Prime Minister Junichiro Koizumi is set to reshuffle the Cabinet, and the fate of Yanagisawa is a major focus.

Even if the government decides to use public funds, a fresh round of wrangling is likely — especially over how to use the funds and under what criteria.

The debate on the use of public funds grew heated after the BOJ rocked financial markets Sept. 18, announcing that it would buy shares directly from commercial banks to help stabilize the banking sector.

BOJ officials have said the move — unprecedented for any central bank in a developed country — is aimed at prompting the government to act boldly to restore the health of the nation’s banking sector.

The BOJ plan apparently received a mixed reaction from Japan’s G7 partners at their just-ended meeting.

O’Neill urged Japan on Saturday to achieve strong economic growth by opening up its markets and promoting deregulation, not by resorting to tools like the BOJ stock-buying plan.

The U.S. Treasury secretary branded the BOJ plan as amounting to “interventions.” He maintained there is basically no difference in the use of BOJ money and public funds, since the central bank’s funds ultimately come from taxpayers.

The senior BOJ official said that attention is now on whether Japan will deliver on its pledges.

“Expectations are high that the government and the BOJ will act together to help dispose of nonperforming loans, and to use the stock-buying plan as an opportunity to do so,” the official said.

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