Banking and interest rates in Japan
Briefly banking was divided into three sectors : short-term lending, long-term lending and trust banking.
Today, eleven large city banks dominate the short-term sector. The city banks are so named because they are all headquartered in cities, while regional banks - the city banks' rivals in short-term lending - are headquartered in the countryside. The city banks now are all very large by international standards - the six largest banks in the world are all Japanese city banks.
The city banks are very powerful in several senses. First, because of the almost non-existence of a corporate bond market and other securitized forms of debt, the banks control a far greater percentage of total lending than do American banks. In 1991 bank loans equaled 90 percent of Japan's GNP, while bank loans only totaled 37 percent of GNP in America. Second, although they may own only five percent of the shares of any single company, banks (of all kinds) are the largest holders of equity in Japan, holding 26 percent of the outstanding listed shares. Because they hold significant amounts of debt and equity, banks are key insiders in many firms. City banks maintain seats on the boards of 597 listed companies and account for 35 presidents and 44 vice presidents of industrial companies.
The city banks, because of their size and influence in corporations, concentrated on lending to large companies. Although city banks received compensating balances and other deposits from these large corporations, city banks usually loaned out more than they obtained in deposits, so they made up the difference by borrowing from the approximately 500 regional banks. This made for a nice arrangement because the regional banks had a surplus of deposits but didn't have the resources or expertise to risk lending large amounts to big companies.
Although the 11 city banks would compete fiercely for loans, they competed in an environment where they were almost guaranteed a profit. Rates on deposits were regulated according to the Temporary Interest Rate Adjustment Law (TIRAL) of 1947 that kept rates uniformly low among all the banks. In fact, real interest rates for investors were often negative, although tax and salary systems encouraged savings nevertheless. For example, interest rates on one-year time deposits were kept at 5.5 percent from 1961 to 1970 even though consumer prices rose an average of 5.9 percent annually through this period. In this environment of capital rationing, loans were distributed to needy firms according to connections with banks and government.
In addition, competition from foreign banks was not allowed. Until 1968 large western banks were not granted licenses to do business in Japan. After 1968 western banks were allowed into the Japanese market, but their capabilities were hampered by an inability to advertise and until recently were limited to only one branch office.