by Taiki Murai and Gunther Schnabl
Similar to the credit unions in the US, the goal of the Japanese Shinkin banks is the promotion of the sound development of the regional economy. The members of these non-profit cooperatives are small- and medium-sized enterprises as well as natural persons from the respective regions of Japan. The Shinkin banks manage deposits, perform banking operations and make loans. Until the Japanese bubble economy burst in the early 1990s, they were the backbone of the regional economy in Japan. Since then, however, the business model has been gradually changing, driven by the Bank of Japan. The upshot is that the Shinkin banks’ business activities have been gradually turning away from the regions and, therefore, their original aim.
In the 1980s, the Shinkin banks thrived. The opulent deposits collected through the nationwide network of branches were mainly lent to small- and medium-sized enterprises operating in the Japanese provinces. The remaining surpluses of the Shinkin banks’ deposits were lent through its umbrella organization, the Shinkin Central Bank, to the supra-regional Japanese banks (known as city banks) via the money market. During the 1980s, the traditional lending business and the money market lending operations delivered (net) interest rates between 4% and 6% to the then 456 Shinkin banks.
With the bursting of the Japanese stock and real estate bubble at the beginning of the 1990s, the tide turned against the Shinkin banks. The increasingly loose monetary policy of the Bank of Japan squeezed the spread between deposit and lending rates from four percentage points (1990) to one percentage point today. In addition, the small- and medium-sized enterprises in the provinces of Japan have remained stuck in an increasingly precarious economic state, curbing their demand for bank loans significantly. The money market lending turned unprofitable as the Bank of Japan pushed money market interest rates towards zero and has kept short-term interest rates at close to zero from 1999 onwards.
Since the bursting of the asset bubble, therefore, the Shinkin banks have been lending more to local public entities in their regions by buying local public bonds. The nevertheless growing surpluses of deposits over lending were deposited in the Shinkin Central Bank which invested in Japanese government bonds. This was possible because Japan’s government debt was mushrooming from 66% of GDP in 1990 to 240% in 2017 owing to steadily declining tax revenues and numerous fiscal stimulus programs. The share of government bonds in the steadily growing balance sheet of the Shinkin Central Bank reached its peak in 2012 with 50% of overall assets (see chart).
Figure: Selected Balance Sheet Items of the Shinkin Central Bank
Source: Shinkin Central Bank.
From 2013, however, the so-called Abenomics rendered the post-bubble business model of the Shinkin banks unsustainable. The volume of government bonds which have been bought by the Bank of Japan under Haruhiko Kuroda since March 2013 amounts currently to 342 trillion yen (approx. 3 trillion dollars). As a result, government bonds can no longer be the dominant asset in the balance sheet of the Shinkin Central Bank, while the deposits at the Bank of Japan now account for the largest share with about 13 trillion yen (approx. 115 billion dollars). As the Bank of Japan is charging negative interest rates on the deposits since February 2016, the deposits at the Bank of Japan are a burden. We estimate the resulting losses to be roughly 1.5 billion yen (approx. 13 million dollars) per year.
Therefore, the Shinkin Central Bank would like to invest more abroad because the economic perspectives abroad are better and the expected yields are higher. But there are risks. First, financial crises can occur abroad. For example, the Shinkin Central Bank lost about 200 billion yen (approx. 1.8 billion dollars) in the US 2007/08 subprime crisis, which was the biggest loss since its establishment in 1950. Second, overseas investment entails foreign exchange risk. If the yen appreciates, foreign assets expressed in yen decline, leading to significant revaluation losses in banks’ balance sheets, posing a threat to financial stability.
The recent deregulation by the Japanese Services Agency allows the Shinkin Central Bank to convert its foreign assets into investment products, which are since September 2017 permitted to be sold via the local Shinkin banks to the retail investors in the Japanese regions. The growing deposits of households and companies in the regions – which neither regional companies nor other large banks nor the Bank of Japan want to have – are passed on like a hot potato abroad. The risk is borne by the small savers in the Japanese provinces.
This will provide some relief for the economically shaky Shinkin banks – their number has almost halved from 451 in 1990 to 264 today – and their central bank. However, in course of the next global financial crisis, the economic and political climate in Japan’s crumbling periphery is likely to deteriorate even more, as households would bear the losses. Having been forced to turn away from their original regionally-focused business model, a significant loss of confidence in Japan’s cooperative banks seems inevitable.