Global Policy Forum

By Jonathan Watts

Is bigger really better? That is the trillion-dollar question hanging over the launch in Japan today of the world's largest bank amid renewed fears about the health of the country's bloated financial sector. The formation of Mizuho Financial Group is supposed to be a symbol of the changes that Japan has undergone in the two years since its banking crisis threatened to bring down the entire global financial system.

With assets of Yen 134.4 trillion (£853bn), the group dwarfs it closest rival, Deutsche Bank. The company's president, Katsuyuki Sugita, says it can become one of the five leading instititions in the global financial community and a pioneer of new businesses in the domestic market. The launch comes against a backdrop of declining bank stocks, falling asset prices and growing concerns among politicians and investors that the problems of bad loans and poor profitability faced by Japanese banks are merely being swept under the carpet.

Mizuho is a holding company formed by Dai-Ichi Kangyo Bank, Fuji Bank and the Industrial Bank of Japan as the first step towards a full reorganisation of their operations by 2002. The group's shares were listed for the first time yesterday on the Tokyo stock exchange. In October, the three banks' securities arms and trust banking affiliates will merge their operations. It is the biggest in a wave of mega-mergers engineered by the government to shore up the Japanese financial system after a decade of lax lending led to the collapse of three major banks and the near bankruptcy of several others.

The government strong-armed the banks to accept the alliances in return for trillions of yen in public cash to stabilise their precarious finances. It justified the cost to taxpayers by arguing that the move would force the banks to clear up their bad loans and improve their profitability. But this is proving easier said than done. Despite huge write-offs over the past eight years by its three member banks, the Mizuho group begins life with Yen 4.7 trillion in bad debts, the biggest burden among the four Japanese major banking alliances. It must also repay the Yen 2.8 trillion it received from the government for recapitalisation.

Like other banks it is suffering on the other side of the balance sheet, where its assets continue to decline as a result of falling land prices and a slump in the stock market since the start of the year. According to analysts, the outlook is not much brighter. A recent rise in interest rates is expected to push many firms into bankruptcy, which will mean more uncollectable loans. "There is a great deal of concern about bad loans," said Paul Migliorato, a broker at Credit Suisse First Boston. "And it's not likely to get better any time soon."

As well as this tough business environment, the painful but necessary reform needed at Mizuho and other banking groups is not likely to have been helped by a change of political climate. With the end of the crisis, the sense of urgency in the government has dissipated. Since April, a new administration led by conservative prime minister Yoshiro Mori has taken a cautious stance towards financial sector reform that has alarmed many in parliament. It has supported weak construction companies, such as Hazama and Kumagai Gumi, that hold so many of the problem loans.

"Two years have passed since we started trying to clear up the financial system, but nothing has really changed. If anything the situation has deteriorated," said Yasuhiro Shiozaki, one of the legislators who drew up the banking reform plans two years ago. "We are just postponing the difficult decisions." Investors have been rattled by similar concerns. Banking shares have lost more than 18% since August, compared to a 3% average decline by all stocks on the Tokyo stock exchange.

Although Mizuho made a smooth debut on the Tokyo bourse yesterday, analysts have given a mixed judgement on plans to turn the company around. The group's executives have promised to improve profitability by diversifying into more lucrative areas of business, making better use of information technology and cutting 7,000 employees, 20% of the workforce. By 2005, the company said it will improve its return-on-equity ratio - the main measure of profitability - from 4% to 12%.

Analysts have complained that this is slower than rival banking groups and still short of the 15% to 20% ratios usually offered in Europe and the US. "The decision to merge was radical but the strategy for the bank is not as radical as the merger was," noted David Atkinson, a banking analyst at Goldman Sachs. Merging institutions is clearly only the beginning of the modernisation process.

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