Japan Takes Steps to Fix Bank Crisis

OFFICIALS of Japan's Ministry of Finance, who administer the world's second-largest economy with lofty self-assurance, have rarely found themselves in such awkward straits. They have been under the klieg lights, foreheads glossy, insisting that problems in the Japanese financial system can be repaired.

The only hitch, according to some analysts, is that the ministry is the problem.

The failures of a large regional bank and four major credit unions in a little more than six months have punctured international confidence in Japan's financial system. The ministry acknowledges that financial institutions of various kinds may be holding $400 billion in bad loans - enough to buy Rockefeller Center 1,600 times. Private estimates of losses are even higher.

The United States Federal Housing Finance Board said last week that 12 government-backed US banks should avoid loans to Japanese institutions. Moody's Investors Service, the international credit-rating agency, rated 50 Japanese banks on Aug. 23 and gave most of them poor grades.

The ministry, acting on the interim report of an advisory group, on Wednesday said it would take steps to correct the crisis. If the group concludes its work as expected, the government will create an institution to guarantee all deposits during a five-year probationary period, including those in excess of $100,000 that are technically unprotected by Japan's Deposit Insurance Corporation. The ministry will also implement more stringent oversight procedures and new schemes to dispose of failed institutio ns.

The ministry is promising to create a version of the Resolution Trust Corporation, the entity that rescued and dismantled failed financial institutions in the US after the savings-and-loan crisis of the late 1980s.

Officials gingerly acknowledged on Wednesday that public money might be necessary in cases where a failed bank's backers do not have adequate funds to reimburse depositors. The use of public funds is a contentious issue here, because critics wonder why taxpayers should pay for bankers' mistakes.

The assertion that public money might be necessary was complicated by the announcement this week that Daiwa Bank, one of the country's 11 premier ''city'' banks, would use its own funds to cover a $1.1 billion loss attributed to a rogue trader.

Japan's bank problems are generally blamed on what is known here as the ''burst of the bubble.'' In the late 1980s and early 1990s, the prices of Japanese real estate and other assets went through a rapid boom and bust cycle that left banks and other lenders with huge portfolios of bad loans. In many cases the collateral the lenders accepted is now worth far less than it was.

But ''bubbles are not just natural bubbles,'' notes Yale University economist Koichi Hamada.

Where the American financial turbulence was facilitated by inadequate regulation, Japan's crisis is in part due to excessive control by bureaucrats, most of them in the Finance Ministry.

The ministry assiduously regulated the financial sector during the post-war decades of Japan's economic ''miracle,'' funneling low-cost loans to manufacturers and other corporations. By keeping interest rates low, bureaucrats discouraged companies from raising money directly through stocks and bonds.

What economists call ''market distortions'' arose in several parts of the economy. The stock and bond markets suffered for lack of business and because of regulations that inhibited the development of new financial products.

Land and tax laws discouraged the turnover of property. ''Those real estate regulations were distorting the market and the complex zoning [system] was an unhealthy constraint,'' Professor Hamada says. Japanese bankers have long complained about the government-run postal savings system, which offers small-scale depositors unimpeachable security and favorable interest rates - and absorbs about a quarter of the market for financial services.

The banks, too, says economist Toru Nakakita at Tokyo's Toyo University, made mistakes. ''They failed to make adequate efforts to develop higher productivity.'' Hamada doesn't just lay the blame with the bankers: ''Japanese financial entrepreneurship,'' he adds, ''hasn't developed because of government regulation.''

Now, adds Professor Nakakita, ''with the end of the regulated interest-rate period, the Ministry of Finance should recede.'' The government has made efforts to deregulate and liberalize the banking and financial-services sector, but analysts say much more needs to be done.

''World markets will force us to change,'' says Rie Ota, financial analyst at Barings Securities (Japan) Ltd., ''or else we will undergo a decline.''

Japan's politicians, however, have been too preoccupied to offer much leadership in the effort to deregulate and liberalize the economy, so the task is left to the regulators. ''It is a problem that they have to get rid of the flaws themselves,'' says Yale's Hamada. ''But on the other hand [the bureaucracies] gather the most brilliant students of the good universities, so they have good human resources.''

But these days analysts are questioning the training of bureaucrats. The Ministry of Finance is in large part staffed by graduates of Tokyo University's Law Department. It is the nation's most prestigious academic institution, but also one that trains people to write regulations, not eliminate them.

One indication that a new world is dawning on the bureaucrats is that they are trying to manage their image. The ministry recently created an office of international public relations. Earlier this year the finance minister dispatched a top banking executive to tour world financial capitals and meet privately with the heads of central banks and other top officials. The idea was to reassure them that Japan's financial crisis is not as bad as it looks.

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