Nationalisation required for Japanese bank recovery, says Fitch

A partial nationalisation of Japan’s ailing banks may be the only way to resolve the country’s economic woes, with recent efforts by individual institutions to restructure their balance sheets unlikely to lead to an autonomous recovery in the banking sector, according to a report by ratings agency Fitch Ratings.

Despite recent initiatives from three of the four major Japanese banks – Mizuho, Sumitomo Mitsui Financial Group (SMFG) and UFJ – to strengthen capital provisions and write off bad loans, there is little prospect of a meaningful recovery in the near to medium term, said Fitch analyst and report author Reiko Toritani.

In January, Mizuho said it expected to post a net loss of around ¥2 trillion in the year to March – making it the largest loss in Japanese corporate history - after drastically increasing the level of bad debt it has written off over the year. The bank added that it expected to raise ¥1 trillion, probably through the issuance of preferred shares, to bolster its capital. Meanwhile, US investment banks Goldman Sachs and Merrill Lynch said they would invest in SMFG and UFJ respectively, as the Japanese institutions look for new ways to shore up capital reserves ahead of the fiscal year end.

But with special inspections by the country’s regulator, the Financial Services Agency (FSA), expected in the next few months, banks could be forced to raise their loan loss provisions further. The FSA plans to use a stricter discount cashflow methodology, which assesses a borrower’s ability to generate profits when categorising loan quality. The FSA may also restrict the use of deferred tax credits – essentially tax refunds on the cost of writing off bad loans - widely used by banks to shore up capital levels. This means that banks may still require substantial injections of additional capital, Fitch said.

“Somewhat ironically, the most likely event that would raise [banks’] long-term debt and individual ratings would be full-fledged nationalisation,” said the report. The FSA is currently setting guidelines for the conversion of government-owned preference shares into ordinary shares – a move that would make the government the major shareholder in the big banks. “On the other hand, the banks are making every effort to avoid this alternative,” the report added.

Fitch last week downgraded the long-term ratings of Mizuho, Sumitomo Mitsui Banking Corporation and UFJ to BBB+ from A-, maintaining a negative outlook on all three banks.