Why leading foreign banks are saying sayonara to Japan

The Marunouchi office of the Royal Bank of Scotland (RBS) is a far more modest operation than it was this time last year. The Edinburgh-based bank is the latest foreign financial institution to downsize in Tokyo, shuttering its trading business in Japanese government bonds and trimming its payroll.

The move follows a similar decision by the Bank of America Merrill Lynch, which announced the end of its private banking venture with the Mitsubishi UFJ Financial Group in 2012. Europe’s biggest bank, HSBC, also waved the white flag in the Japanese private banking market in the same year.

Citibank, which has been in Japan since 1902, is currently trying to sell off its credit card business after having disposed of its retail-banking arm at the end of last year, according to a spokeswoman for the company. And the list goes on: In 2013, Société Générale sold its private banking business to Sumitomo Mitsui Banking Corporation.

Standard Chartered has closed its wealth-management business in Japan. The Tokyo arm of the venerable British bank now employs just 170 people out of a global workforce of 86,000, according to Bloomberg. Lloyds TSB, the Bank of Nova Scotia, UBS Securities and others have also pared back local operations since 2012.

Why does one of the world’s richest financial markets seem to scare off its biggest banks? Japan has the largest pool of personal financial assets in Asia, projected to reach nearly $19 trillion in 2017. That’s a lot of potential business. But getting a slice is far from easy, says John McCormick, former chairman and CEO of RBS Group, Asia Pacific.

Japanese retail banks have the market here covered in great detail, he points out. In commercial or wholesale banking, they have given decades-long service to small and medium-sized businesses. “It’s incredibly difficult to compete with this, even if foreign banks can cut their costs to make them competitive,” he says.

Whatever the market, global banks have been squeezed by tighter rules on capital adequacy and market risk. The Basel III Accord, a voluntary agreement introduced after 2008/9 to reduce the risks of another financial crash, forced banks to increase their deposit bases from 2% to 7%. This has sent many scaling back sprawling empires to core markets.

That means return on capital has never been so important, concludes Niall Morrissey, managing director of Standard Chartered’s Structured Trade Finance, Asia, in Hong Kong. “Any bank looking to trim its operations in markets with low returns and margins will be looking at Japan. It’s a double problem here — high costs and low margins.”

Despite the weaker yen, the prices of labour and office space in Tokyo are among the highest in the world. Combine that with the market domination by Japanese mega banks with deeper roots, higher capital bases and shareholdings in many of the companies they service, and you have an uphill slog.

Japan’s banks operate on wafer-thin margins, and they can undercut pricing, says Nicholas Benes, head of the Board Director Training Institute of Japan. “There never were normal credit spreads here,” he says. To these long-term disadvantages for foreign competitors, add Japan’s shrinking demographic — a falling population means less need for financial products.

Weak market activity has compounded the difficulties — many banks are not earning enough to justify the expense of operating here. Rock-bottom interest rates have shaved margins. And the corporate bond market offers notoriously anaemic yields, leaving investors with a choice between zero-interest bank deposits and high-risk equities.

Still, there remain over 50 foreign banks operating in Japan, according to KPMG, a company that provides tax, audit and financial services to a list of global clients. (The top-ranked in terms of assets is the Paris-based Crédit Agricole Corporate & Investment Bank.) The main reason they stay is that Japan is awash with money.

Elderly Japanese hold trillions of yen in personal savings, and account for two-fifths of the nation’s personal consumption, says the Boston Consulting Group. And they’re becoming more adventurous investors: When they want to research or buy foreign assets such as German-, UK- or US-government bonds, foreign banks may have an edge.

Wealthy Japanese looking to limit their exposure to the Japanese market and buy, say, property in Europe might also turn to a European bank for advice and services — or not, says McCormick. “If I’m Japanese, do I want to deal with someone I don’t know, in a language I don’t understand, in a market where I could get screwed?” he asks. “It’s very challenging.”

Foreign banks are better placed to help large corporate clients in Japan looking offshore to foreign markets, says McCormick. “If they are distributing products in the UK, they’ll want a UK bank.” Local banks are needed to provide short-term financing, gather cash and get it back home in good order. One reason Standard Chartered stays in Japan is because it has a large number of Japanese global corporate clients eyeing Africa, the Middle East and the rest of Asia.

Japanese companies will also continue to need foreign banks to raise money abroad, or issue equity in foreign markets. And they’ll always have niche services — one of Citibank’s main selling points was local currency withdrawals from foreign ATMs, according to Reuters.

Has Abenomics changed the game? Under pressure from the central government, lending is picking up and Japan’s corporations, which sit on ¥229 trillion worth of cash and deposits, have begun to deploy these vast reserves to invest, hike wages and re-inflate the economy. Household spending is slowly inching up.

That could increase the size of the local pie for foreign banks. But the barriers to new entry are considerable: capital requirements and local competition are more challenging than ever. And the Bank of Japan is removing another incentive by effectively nationalising the government bond market — its portfolio hit a staggering ¥10 trillion ($82.7 billion) in March.

The demise of what Benes calls the global bank strategy has coincided with advances in technology that mean, in any case, less emphasis on bricks-and-mortar operations in Tokyo’s Marunouchi financial district and more on desktop PCs. Investors can buy or sell fund management products online from London, Frankfurt or Paris. Says McCormick: “The nature of global banking is changing.”

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