Japan Echo Web

Japanese Banks Have the Potential to Save the Global Economy

The financial sector has reached freezing point

More than three years have passed since the collapse of Lehman Brothers in the fall of 2008, and it has been two and a half years since the U.S. economy—which was hard hit by the collapse—bottomed out of its economic downturn. During these periods, despite difficulties in dealing with nonperforming assets, major financial institutions in Western countries have somehow managed to cope with the crises, aided by public money and business restructuring. However, they have not fully recovered. Indeed, their ailments appear to have exacerbated by the fiscal crisis in Europe, which began in Greece.

This precarious situation has become apparent in the wave of layoffs instigated by financial institutions since the summer of 2011. In August 2011, when the financial markets were on high alert in the face of the uncertain outlook of Greece and the U.S. fiscal problems, financial institutions in Europe and the United States announced redundancy plan totaling approximately 60,000. While major financial institutions continued to announce plans for further staff cutbacks in September 2011 and beyond, financial institutions have already reached the freezing point even before winter has begun.

Two main factors have prompted Western financial institutions to take these measures. First, they are suffering from the aftershocks of the collapse of credit, mainly in the real estate industry. Second, they share the view that a v-shape recovery in demand for financing and in the volume of financial transactions is unlikely to occur for some time in the future. Moreover, in addition to the strict capital requirements imposed by the Basel Committee, major banks are now also required to increase their capital following the decision made at the G20 summit. Since deregulation in the 1980s, major banks had enjoyed a long period of expansion. But in a 180-degree policy shift, they are now looking to restrain their activities. This is a major turning point in the history of the financial market.

In Europe, the market has started to distrust Italian fiscal situation, which follows the case of Greece. In the United States, deliberations on policies to reduce the deficit have stalled. With uncertainty in these capital markets, banks are facing difficulties to raise enough capital.. The first and foremost thought in the minds of bank managers is to sell off assets. Some banks have in fact already started to sell their project finance, real estate financing, asset management, and other businesses. It is almost certain that this trend will accelerate in 2012 and beyond.

How have major Western financial institutions ended up in such dire circumstances after producing bonanza just a few years ago? It is true that the sub-prime loan crisis originating in the United States in 2007 and the fiscal problems emerging from Greece in 2010 triggered turmoil in the financial markets. But these events share a core issue: the imprudent growth in financial transactions over the last ten years. Put simply, the problem is the sprawling amount of debt, which has gone well beyond acceptable levels.

The financial markets today look as they have begun to collapse under the weight of the accumulated debt that the markets themselves have created. The only solution is deleveraging, or reducing the amount of debt. A number of major media outlets have been focusing on the aspect of strengthening banks’ capital. But what is really needed is to slash banks’ existing assets, or the debt owed by borrowers.