The Origins and Evolution of Global Banking

International Expansion of Japanese Banks

As American banks were retreating from international lending, Japanese banks were filling the gap left by U.S. banks. Following

the lead of their corporate clients and business affiliates within the "keiretsu"structures, Japanese banks began to expand their international operations and presence overseas in the late 1970s. Flush with the proceeds of Japan's trading surpluses, they set out to penetrate the foreign network of 1939 branches and subsidiaries with assets of $189 billion; by 1989, this network had grown to 300 and $1.4 trillion respectively. Lending at low profit margins enabled Japanese banks to capture a sizable market share worldwide which reached 40 per cent of the total international lending by 1989.

The early 1990s saw the international entrenchment of Japanese banks because of adversity at home. The deregulation of the financial market, combined with higher interest rates, raised the cost of funds and pressured banks to increase earnings. This pressure prompted Japanese banks to abandon their low-cost lending practices abroad in favor of loans that generated higher returns, boosted profits and added to bank capital.

The new focus on profit was moreover consistent with the need of Japanese banks to inprove, by 1993, their capital adequacy ratios in accordance with the Basle agreement. The Basle capital requirements, though fair and consistent in their application to different countries, were significantly higher than the ones Japanese banks had to comply with before, at home. Under the circumstances during 1988 and 1989, Japanese banks had undertaken significant capital raising activities through the issuance of new equity and convertible bonds and realization of gain from the sale of their shareholdings in other Japanese companies.

But some of the improvements in the capitalization of Japanese banks remained undone due to the ensuing sharp stock market decline of the 1990-92 period. This decline made it difficult for banks not only to raise additional equity stakes in commercial firms to bolster their capital positions; the depressed value of their shareholdings affected bank capital in another way, too. Japanese banks were allowed to count, as part of their capital base (tier 2 capital), 45 per cent of the unrealized capital gains from their stock portfolios. With the stock process drastically reduced, the contribution of these shareholdings to bank capital suffered accordingly.

The worldwide recession and the collapse of Japan's speculative economy put further pressure on Japanese banks in the form of substantial losses from international and domestic operations. In the United States most of their losses were on real estate in the depressed Northeast and California markets. In the domestic level, too, the drastic drop in real estate prices magnified the size of problem loans which, by some estimates, exceeded $1 trillion in 1995. These developments prompted an international downsizing of the operations of Japanese banks.