The 2006 Asian Roundtable on Corporate
Governance
Session 2
Enforcement Problem in Japan
Seki Obata
Keio Business School
Japan
Bangkok, Thailand
14-15 September 2006
Japan could be the best capital market
• Japan:
– Very well developed Economy
– The Second largest capital market
– Quality of Government： very high
– Rule of law: good quality
Japanese Financial Market could be the
ideal one without corporate governance
problems
What factors important?
• For capital market development
– Good economy
– High level income per capita
– Good quality of government
• Most important one: Legal system
Law is important
• Legal system is one of the most important
factor for financial market
– Outside Investor protection Is the key factor
– Shleifer et al (1997,1998）
• Legal origin seems matter
– Common law countries' markets perform
better
Why does legal system matter?
• Protection on outside dispersed investors
– By statues (Shleifer et al 1997,1998)
– Common law countries protect outside
investors, French law countries do not.
– German law countries protect them
moderately well.
• Japan:
– Score of investor protection is high
– but not so much as Singapore and HK
Still,
Japan has the governance problem
Why?
• Japanese problems are not so wild
– Not direct theft of corporate cash flow or
assets
– Financial figure manipulation
– Insider trading
– Unfair transaction in the stock market
Bad enforcement
•
•
•
•
Japanese law: the statute is very good
But
Enforcement system is not effective.
Law efficiency score: much lower
compared to the score for the statute
Why bad enforcement?
• Corruption?
– Not the issue in Japan
• Incentive?
– Not strong incentive to wipe out insider
trading and price manipulation for government
official
– but not so weak
• Shortage of staffs
– Now improving
Two fundamental problems
• Legal structure
– German law system
– But commerce law and security law: imported from
US after the WWII
– Mismatch
– Ex: security law stipulate that all unfair transaction
and insider trading prohibited and punished
– Practically, prosecutors and court both seem
hesitated to use this code: unbalanced with all other
legal systems and legal convention
– Emphasize the bright line rule, not discussion in the
court room
High Legal cost
• Rare private enforcement
– Legal cost is very high
– Not only financially but culturally
– Then shortage of lawyers in this field and also
their experience
– The same story for judges
Encourage the gamble
• Therefore, only clearly illegal transactions would be
indicted
• Prosecutors need the bright lined crime
• Then, those who focus only on the cash return (not
reputation) would try to execute the risky transaction in
the gray zone
• Gray zone: substantially illegal but no violation of the
bright line rule
• Only bad people try to gamble and they would be never
captured if they are clever and sophisticated enough
• Bad people would thrive and decent people feel unfair.
High legal cost also
for public enforcement
• Incentive for prosecutors
– They should win a case with 100% probability
– This comes just from convention:
• People believe that prosecutors’ decisions are
always right
Livedoor case
• Livedoor case
– CEO and founder Horie and other directors
arrested and indicted now on trial
– Effectively insider trading and unfair
transaction (price manipulation)
– However, prosecutors tries to establish this
case as manipulation of accounting figure and
intentionally false disclosure
– Because of the bright line rule sentiment
Murakami case
• Activist fund manager Murakami also arrested
related to Nippon Broadcasting System that
Livedoor tried to buy out
• Insider trading
• Livedoor directors told prosecutors facts of
insider trading
• Prosecutors finally decided to arrest Murakami
• This time, prosecutors got the evidence of
confession from Livedoor directors
Other factors
• Cultural factors
– Not strict opinion on insider trading
– Investment on some stock usually some kind
of insider information
Other factors II
• Private enforcement: not effective in Japan
• One reason: no large shareholder with an
incentive to maximize the share price
• Good corporate governance system
without the player to implement