The Role of Banks in the Corporate Governance
- The Experience of Japan -
Masaaki Kaizuka
Principal Administrator Directorate for Financial, Fiscal
and Enterprise Affairs, OECD
4th Eurasian Roundtable on Corporate Governance
Bishkek, October 29-30, 2003
1
Topics of Discussion

Two different models of Corporate Governance

The Experience of Japan as Insider Model
- focusing on the function of Main Bank System

Lessons to learn
2
Two different models of Corporate Governance

The Outsider Model
(US, UK)
- Dispersed equity ownership with large
institutional holdings
- The recognised primacy of shareholder interest
in the company law
- A strong emphasis on the protection of minority
investors in securities law and regulation
- Relatively strong requirements for disclosure
3
Two different models of Corporate Governance

Corporate Finance and CG in the outsider model
- Equities tend to represent a high share of financial
assets with well regulated and liquid stock market
- Low debt equity ratio is the norm for the company
- Banks provides short term finance and maintain arms’
length relationships with corporate clients
- Buying and selling of company shares
market for corporate control has been established
4
Two different models of Corporate Governance

The Insider Model
(Most of other countries)
- ownership and control held by insiders who
have longer-term stable relationships with
company
- less institutionalization of wealth
- Securities regulation functions by prohibiting
speculative activity rather than by insisting on
strong disclosure
5
Two different models of Corporate Governance

Corporate Finance and CG in the insider model
- Bank played a dominant role including monitoring
clients
- High debt equity ratio of the company
- Stock market is not sufficiently liquid sometimes
with cross shareholdings
- Market for corporate control not functioning
6
Traditional characteristics of Japanese Business
Management and its Environment

Corporate landscape
- Cross shareholdings
- Cohesive corporate group (Keiretsu system)
- Main Bank System

Employment practice
- Life time employment
- Promotion according to seniority

Government regulations limiting competition
7
Main features of Main Bank System

Largest creditor of the company

One of the major shareholders as a result of the
cross shareholding arrangement (up to 5 %)

Principal supplier various financial services to
the company

Monitoring the clients company
8
Main features of Main Bank System

Monitoring by main banks
- Ex Ante Monitoring: investment decision
- Interim Monitoring:
performance of the on-going
business and projects
- Ex Post Monitoring: Evaluate financial performance
when the company in difficulty,
leading role in providing a
disproportionately large burden
to rescue the company
9
Rational of Main Bank System

Client Companies
- enabling long term investment
- securing lender of last resort
- securing stable shareholders

Banks
- solution to asymmetry of information
- rents through long-term relationships (eg. Excessive
deposits, monopolistic handling of employee’s salary
accounts)
- securing stable shareholders
10
Background of Main Bank System

Huge demand of long term capital for the equipment
investment

Lack of robust stock market as a provider of long term
finance

Catch up era: goal setting was simple

Substantial Share holdings by banks contributed to
enhance the risk taking and rescuing capacity of banks
through ever rising share prices

Highly regulated banking sector
11
Corporate Governance Implications

Creating “Silent Shareholders”

Poor culture of disclosure to the public

Lagged development of stock market and lack of
equity culture

Poor governance of the banks
12
Drastic changes in the environments for
banking sector and bank behaviour
1980s
 Post Catch up era: goal setting has become
challenging
 Huge drop in the capital demand from client companies
 Deregulation in banking sector
late 1980s
 Huge lending to real estate industry and the burst of
bubble
13
Drastic changes in the environments for
banking sector and bank behaviour
1990s
 Downward trends in share price and other assets
price
 NPL problems
 Credit crunch
 Bank restructuring
14
Lessons to learn

Japanese Insider Model worked well in the period
of the post war catching up era.

Japan should have developed its stock market
and equity culture with proper regulations along
with its economic growth depending on Insider
Model.

Japanese Banking Regulation should have
addressed to enhancing bank governance and
internal risk management
15
Lessons to learn

Governments should be flexible enough to
identify appropriate model to their countries,
acknowledging that one size cannot fit all and
appropriate Model should be changed according
to the development of the countries.
16
Thank you.
17