MNI INSIGHT: Japan Banks More Vulnerable Due To Souring Loans

The vulnerability of Japan's financial institutions has increased as many loans in the medium-risk category extended before April may have turned non-performing, MNI understands.

Commercial banks, mainly regional banks, have extended huge loans to moderately risky firms but the balance sheet at many businesses has worsened in the wake of Covid-19. The lending facilities of the government and the BOJ have contained credit costs to some extent but the cost of borrowing has risen for firms higher up the risk scale and while some loans may have soured, regional financial institutions are unlikely to have increased necessary loan loss reserves.

The loans that financial institutions extended under the lending facilities of the government and the BOJ are guaranteed by credit guarantee corporations.

DEVIATION

The results of the 'heat map' in the latest Financial System Report, which showed six financial activity indexes as "red," show a large upward deviation from the trend. The six included the corporate credit to GDP ratio, the total credit to GDP ratio and the real estate loans to GDP ratio.

The BOJ downplayed the results, saying the deviations were due mainly to a sharp decline in nominal GDP caused by Covid-19. But some dispute that conclusion, saying the heat map may have shown a worsening of financial conditions at many businesses rather than overheated economic activity as the drop in nominal GDP showed that the ability of companies to earn profits or sales declined, meaning banks' vulnerability has worsened.

The FSR warned that the impact of support measures may lead to a rise in default rates due to rising debt if the deterioration in profits is prolonged and firms' debt servicing capacity declines. Default rates are, therefore, bound to rise significantly as the BOJ didn't include the drop in sales or profits in the calculation, MNI believes.