After international lending, where to for Japanese banks?

Japanese banks have occupied a dominant place in world capital flows for nearly a decade now.

The global financial crisis that paralysed parts of global banking centers New York and London coincided with the end of Japan’s very painful financial sector restructure. Suddenly, from around 2008 after decades of post-bubble risk aversion, ‘conservative and dull’ Japanese banks found themselves with clean balance sheets, strict governance, high levels of yen deposits, and faltering international competition.

By 2012, Japanese banks were engaged in about one in seven dollars of all global syndicated loans, and by 2013 as high as one in five dollars invested in the U.S. non-bank private sector. This pattern was reinforced in more recent years by relatively low cross-border investments by European and U.S. banks.

In fact, the International Monetary Fund calculated the total cross border capital flow in 2016 at $4 trillion dollars – about the same as in 2000 and down from a high in 2007 of over $12 trillion. Cross border capital comprises FDI, bond and equity purchases, lending and other investment but, while all are down, it is lending that has been free-falling. 

The trend away from cross-border lending is directly relevant to Japan. In 2015, Japanese banks become the largest lenders in the world, topping the traditional leader in this area, the UK banks. Japanese bank lending is also largely decoupled from the domestic economy: year-on-year lending growth for Japanese banks is consistently higher than the year-on-year economic growth (e.g. 2.2% lending growth vs 1.1% GDP growth, first quarter 2018).

Bank lending in general and international loans in particular are therefore core business, fundamental to the success of Japanese banks. What areas then might the Japanese banks focus on to sustain their international integration? The World Trade Organisation’s hosting this month of Structured Discussions on Investment Facilitation for Development might provide a pointer to the future. 

Japan has been a key voice in establishing and promoting the WTO structured investment discussions and history shows that close government-business relationships are a longstanding feature of the Japanese economic model. Japanese urban planning specialist Professor Emiko Kakiuchi notes that the close geographical co-location in Tokyo of political, government agency and business entities has long facilitated ongoing cooperation between these economic actors.

Whether government-business linkages underwrite Japan’s interest in the WTO investment facilitation discussions is an open question. There is no doubt that reform in the banking sector, as advocated for over many years by the Japan Times, has led to some fatigue that is impacting on government-business relations.

However, the Japanese Government has achieved past success in multilateral financial settings. Japan was able to, for example, bring together a strategically important coalition of countries to successfully advocate for East Asian financial cooperation and integration, resulting in the ASEAN plus three financial dialogue between the ASEAN nations, China, Japan and Korea and the Chiang Mai Initiative, a currency swap arrangement.

And Japanese banks do have an incentive to seek further international engagement. The freefall in cross-border lending is one thing, but the risks of a dip in the traded economy because of the policies of large trading partners China and U.S. is a completely different matter. Japanese banks are directly connected to the traded economy.

Concentration in the Japanese export sector results in a small number of very large multinational firms conducting a large amount of trade: these large firms remain directly connected to their home banks. This direct connection to the traded economy would appear to be an incentive for the banks to support initiatives that increase trade and or investment.

For these reasons, the WTO’s Structured Discussions on Investment Facilitation for Development could be closely viewed by the Japanese banks as the next potential avenue for growth.

Dr Garth Taylor’s PhD investigated decision making at international banks. He writes in his capacity as a freelance contributor.

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