Tokyo's 'dirty thirty' at heart of banking woes
Published: October 3 2002 19:57

Banks prop up 'zombie companies' whose collapse could bring them down too. That's the essence of Japan's problem, writes David Pilling.

No one has ever seen Takeshi Kimura's list. Some even doubt its existence. But the mere fact that the head of KPMG Financial has been appointed to a taskforce charged with sorting out Japan's bad-debt problems was enough to send markets into a tailspin.

The "Dirty 30", the possibly mythical list of companies said by Mr Kimura to lie at the heart of Japan's banking woes, became famous last September when he discussed its implications with Junichiro Koizumi, prime minister. The meeting went badly and the list was quietly dropped.

Its resurrection yesterday, or at least confirmation that Mr Kimura had been appointed to the banking taskforce, pushed the Nikkei average below 9,000 for the first time in 19 years. Banks were savaged. Mizuho, the world's largest financial institution by assets, fell 15.8 per cent, while UFJ dropped 15 per cent, bringing its slide in the past three days to about 30 per cent.

How could a list that no one has ever laid eyes on cause such panic?

The problem is that Japan's banks have an uncomfortably close relationship with the country's most indebted companies. Not only have they lent them huge amounts of money - ¥30,000bn ($244bn, €247bn), according to Mr Kimura - at very low interest rates, but most banks hold shares in companies to which they lend.
Because of these tight relationships, banks have been reluctant to foreclose loans on companies however desperate their business conditions have become. As well as a reticence about calling in loans banks have often not properly made provision for dubious debts.

They can get away with that because, with interest rates at virtually zero, even the so-called "zombie companies" - ones with little or no prospect of ever becoming viable again - can service their debts. Even if they can't, banks have often been willing to lend them more money to maintain the fiction that they can meet interest payments.

Just how precarious the situation is came to light in January when Daiei, a huge supermarket chain, was on the brink of toppling with ¥2,300bn of debts. But not only was it politically unacceptable to pull the plug on a company that indirectly employed at least 100,000 people, it would also have been potentially disastrous for some of the main banks, which had not made provision for Daiei's potential failure.

Not surprisingly, the company was bailed out with a debt-for-equity swap and a restructuring of still-to-be-proven worth. On Thursday, Daiei's shares fell 15 per cent, adding to a 15.5 per cent drop the day before.

Mr Kimura's is essentially a list of 30 companies in Daiei's position or worse, spanning the construction, retail, distribution and non-bank sectors. With share prices more than 75 per cent below their peak and property prices as much as 90 per cent lower, many of these companies have no hope of ever repaying loans racked up in the bubble years.

Robert Feldman, chief Japan economist at Morgan Stanley, says such companies are responsible for Japan's persistent deflation, since their business position is so weak their only means of competing is through lower wages and prices. He argues that deflation, which is itself exacerbating the bad debt problem, could be cured overnight if they were closed - although he concedes this could bring on a recession.

Most of Japan's big banks are heavily exposed to such companies. The fear is that, if they were reclassified as bankrupt, it could force the government to recapitalise the banks, diluting ownership or leading to outright nationalisation.

Brian Waterhouse, banking analyst at HSBC, thinks the big banks have some room for manoeuvre in terms of capital-adequacy ratios. He calculates that they could withstand a few years of heavy losses due to extra provisioning without endangering their viability.

But many of the regional banks are a different matter, he says. In some cases their capital base is in even worse shape than the big national banks. And many are large holders of shares in city banks, such as Mizuho. With those shares toppling, some regional banks could see the value of their equity portfolios dangerously eroded.
Banks must be praying that, like last September, talk of Mr Kimura's list will once again evaporate.