On the Establishment of the Financial Services Agency

Transcription

1 On the Establishment of the Financial Services Agency Masaharu Hino, Commissioner of the Financial Services Agency, Japan At the Bank of England, September 2000 INTRODUCTION It is a great honor to be able to speak before the Bank of England with its long history and illustrious tradition. My thanks go to Sir Edward George and others who made this opportunity possible. Spearheading the reorganization of central government ministries and agencies, the Financial Services Agency was established on July 1, 2000, through the merger of the Financial Supervisory Agency and the Ministry of Finance's Financial System Planning Bureau. The newly established FSA will have broad regulatory authority over the financial sectors of banking, insurance, and securities and will have integrated responsibility for financial system planning, the inspection and supervision of financial institutions, and the surveillance of securities transactions. The FSA's administrative structure is a response to the progress of financial and information technology, which has led to the appearance of financial groups and conglomerates spanning financial sectors and the development of complex financial products. On the international level, this consolidation of financial administration to create integrated regulators is fast becoming the prevailing trend. I understand that the enactment in the United Kingdom of the Financial Services and Market Act has transferred authority for the regulation and supervision of financial institutions to a single Financial Services Authority. The reorganization bringing the FSA into being has the purpose of making the most of its qualities as an integrated regulator. What is needed is an organizational structure that will allow for fair and transparent financial administration based on clear rules anchored on market disciplines and the principle of self-responsibility. To achieve such a structure, the FSA will build on the organizational structure of the Financial Supervisory Agency and have functionally separate departments for financial system planning, inspection, supervision, and surveillance. By March 31, 2001, the FSA will have a total of 766 regular staff. This figure will increase to about 2,100 if we include the finance staff of the Ministry of Finance's Local Finance Bureau, who undertake the inspection and supervision of regional private financial institutions. While this level of staffing still falls short of our counterparts in Europe and North America, it is worth recalling that the Financial Supervisory Agency had only 500 employees at the time of its founding, even when the staff of the Financial System Planning Bureau are included. This should show that staffing has been reinforced rapidly in recent years. As the financial business grows increasingly global, sophisticated, and complex, I believe we are building an organizational structure that will ensure the stability of the financial system, respond prudently to changes in the times, and permit the prompt and consistent implementation of financial administration.

2 Today I would like to share my views on the direction of financial administration under the new FSA. Before I discuss the future, however, let me first briefly reflect on the past. THE TWO YEARS OF THE FINANCIAL SUPERVISORY AGENCY The Financial Supervisory Agency, the predecessor to the Financial Services Agency, was founded in June 1998 in the midst of severe financial instability. In these trying circumstances, I set forth five principles to guide the agency's work. They included establishing fair and highly transparent financial supervision based on clear rules and, as the foundation for such supervision, undertaking strict and effective inspections and rigorous monitoring. Since then, agency staff have worked as one to restore and stabilize Japan's financial system. Today I will explain the nature of our endeavors over the last two years. Banks I will begin with our efforts to stabilize the financial system. In July 1998, right after the Financial Supervisory Agency was founded, the government and the ruling party announced its Comprehensive Plan for Financial Revitalization. This plan contained the policy statement that, as an emergency measure, the Financial Supervisory Agency should cooperate with the Bank of Japan to carry out the concentrated inspection of Japan's 19 major banks. Taking account of this and other factors, the agency, in cooperation with Bank of Japan, began the concentrated inspection of 19 major banks in July 1998, consisting of nine city banks, three long-term credit banks, and seven trust banks. This was then followed by the concentrated inspection of regional banks and the member banks of the Second Association of Regional Banks. The Diet's legislative session from summer to autumn 1998 came to be known as the financial Diet. In this session, much progress was made in developing an architecture for stabilizing the financial system. Two of the financial Diet's accomplishments were the passage of the Law concerning Emergency Measures for the Reconstruction of the Functions of the Financial System (Financial Reconstruction Law) and the Financial Function Early Strengthening Law. The Financial Reconstruction Law sought to protect depositors and maintain the integrity of the credit system in two ways. It prescribed principles, such as minimizing cost, for dealing with bankrupt financial institutions. It also established emergency measures for placing financial institutions under the management of financial administrators, for continuing the operations of bankrupt financial institutions, for placing banks under temporary public control, and for purchasing the assets of financial institutions. The Financial Function Early Strengthening Law stipulated emergency measures for recapitalizing financial institutions with public funds. Fiscal measures were also brought to bear to stabilize the financial system. First, a financial

3 reconstruction account of \18 trillion was established to provide loans to banks under temporary public control as well as to purchase the bad debts of financial institutions. Second, a special operations account of \17 trillion was set up to help pay for a portion of the cost associated with the disposal of bankrupt financial institutions (the amount exceeding payoff costs) and to buy the assets of such institutions. Third, an account for the early strengthening of financial functions of \25 trillion was created to recapitalize financial institutions. In total, \60 trillion was set aside to help stabilize the financial system, an amount that was increased to \70 trillion this year with the revision of the Deposit Insurance Law. Of the regulatory action taken under the Financial Reconstruction Law, the first that can be mentioned is the nationalization of the Long-Term Credit Bank of Japan (LTCB) and the Nippon Credit Bank. From around the middle of 1998, markets rapidly lost confidence in LTCB, and in October of the same year, LTCB notified authorities as prescribed by the Financial Reconstruction Law that it may need to suspend the repayment of deposits, and the bank was nationalized. You are no doubt aware of the subsequent sale of LTCB stock to New LTCB Partners CV in March Nippon Credit Bank was also nationalized in December 1998, and the bank will be sold to an investor group (the Softbank Group) consisting of Softbank, Orix, and Tokio Marine & Fire Insurance. 2 For both of these banks, internal inquiry task forces have been set up, former management is being prosecuted, and criminal trials are under way. Action taken under the Financial Reconstruction Law has not been limited to nationalizations. Bankruptcies under the law are being processed for a member bank of the Second Association of Regional Banks (Kokumin Bank, failed on April 11, 1999), Kofuku Bank (failed on May 22, 1999), Tokyo Sowa Bank (failed on June 12, 1999), Namihaya Bank (failed on August 7, 1999), Niigata Chuo Bank (failed on October 2, 1999) and the financial institutions of credit cooperatives. The Law for the Early Strengthening of Financial Functions was the second important tool available for restoring the soundness of the financial system. Based on this law, the Financial Reconstruction Commission first injected capital totaling \7,500 billion in 15 major banks in March Since autumn 1999, the commission has also approved the injection of public funds into a combined total of seven regional banks and member banks of the Second Association of Regional Banks requesting recapitalization. In June 2000, the Law for the Early Strengthening of Financial Functions was revised, making it easier to recapitalize the financial institutions of credit cooperatives. The Financial Reconstruction Commission, the FSA, and the Deposit Insurance Corporation, based on the regulatory authority shared between them, are consulting closely with each other to follow up on financial institutions that have been recapitalized under the Law for the Early Strengthening of Financial Functions. The measures already described were just a start in the efforts made to stabilize and restore Japan's financial system and to regain domestic and foreign confidence. Also needed were efforts to further strengthen the inspection and surveillance system through the preparation of inspection manuals. To achieve this end, the Working Group on Financial Inspection Manuals was formed in August 1998, consisting of lawyers, public accountants, and representatives of the financial industry. In December 1998, the working group published an interim report for public comment. After reviewing the public comment received, the working group published a final report in April This final report put forward the principle that financial inspections are to reinforce the

4 management of financial institutions according to self-responsibility and focused on two points: (1) inspections should take place under self-management rather than led by regulatory authorities as in the past and that (2) inspections should focus on risk management rather than on the traditional assessment of assets. The final report also took into consideration overseas inspection trends and the discussions of the Basel Committee on Bank Supervision. This final report was distributed to inspectors in July 1999 as the "Financial Inspection Manual for Depository Institutions." Next, I will discuss our response to the transfer of authority for the inspection and supervision of credit associations. In the past, prefectural governments were responsible for the inspection and supervision of prefecture-based credit associations. It was decided, however, to transfer this authority to the central government, and on April 1, 2000, the central government assumed the oversight of 279 credit associations. Since 12 credit associations operating in more than one prefecture were already under central government supervision, a total of 291 credit associations will now be inspected and supervised by the central government. To facilitate the transfer of inspection and supervision work, the FSA held pretransfer meetings with prefectural governments on the transfer process. Then, once the transfer occurred, the Local Finance Bureau of the Ministry of Finance promptly met with the heads of credit associations to understand financial standings, and the FSA itself held meetings to explain the process of concentrated inspections to occur after July 1, The FSA is vigorously undertaking the inspection of credit associations according to schedule, and the on-site inspection of all 291 credit associations should be completed by March Insurance Second, I will discuss the insurance industry. From fiscal 1997, a self-assessment system was adopted for insurance companies. Under this system, insurance companies are to depreciate assets or set aside reserves based on their own self-assessments of asset quality. In April 1999, measures for prompt corrective action took effect, which provides for the timely enforcement of required measures in accordance with insurance companies' solvency margins. Guided by this systemic framework, we began the successive inspection of insurance companies in May 1999 to understand their financial positions. In this process, Daiichi Mutual Fire & Marine Insurance Co. and Daihyaku Life Insurance Co. notified authorities in May 2000 of their intent to go out of business. Accordingly, we ordered the two companies to take such measures as suspend part of their business operations and place their remaining operations and assets under the management of an insurance administrator. The distribution to inspectors of the "Financial Inspection Manual for Depository Institutions" in July 1999 was followed by the preparation of an inspection manual for insurance companies. This inspection manual was guided by the principle that financial inspections are to reinforce the management of insurance companies according to the principle of self-responsibility and emphasized that inspections take place under self-management and focus on risk management.

5 In addition, bearing global standards in mind, the manual took into consideration the discussion of related international institutions and the inspection manuals for insurance companies in foreign nations. The inspection manual for insurance companies builds on the manual for depository institutions and includes additional items particular to insurance companies. This manual was published for public comment in April 2000 and, after reviewing the public comment received, the completed manual was published in June Securities Third, I will comment on the securities industry. As part of the process of financial system reform, a revised Securities Exchange Law took effect in December As a result, registration replaced licensing as the requirement for entering the securities business, and the restriction on securities companies to specialize in the securities business was lifted, freeing them to pursue business opportunities as they see fit. In October 1999, brokerage fees were fully deregulated, marking the completion of all securities industry reforms. The implementation of these reforms now makes it possible for securities companies to provide products and services meeting investor needs and for investors to select services according to price level. As a regulatory authority, we are carefully monitoring the effect of liberalization and deregulation on the management of securities companies. We are committed to ensuring the soundness of securities companies and the protection of investors. To achieve these ends, we intend to respond as necessary as we monitor securities companies' capital adequacy ratios and their segregated management of customer assets. Moreover, in moving from an administration of before-the-fact adjustment to after-the-fact supervision, inspections of securities companies bringing to light illegal activities that impair the fairness of securities transactions will be dealt with strictly in accordance with applicable laws and orders. Financial Groups and Conglomerates Fourth, we have endeavored to understand the overall situation for financial groups and conglomerates. The management environment for financial institutions has experienced dramatic changes. Prominent among them are greater group management and control resulting from a legal change allowing financial holding companies and the reduction of barriers between the banking, securities, and insurance sectors through financial system reform. These changes have encouraged financial institutions to form conglomerates or to strengthen linkages within existing financial groups. In view of its supervisory authority encompassing banks, securities, and insurance companies, there is an increased need for the FSA to carry out integrated surveillance and inspections of financial

6 groups as a whole. For this reason, we have sought to effectively understand financial positions at the group level by undertaking integrated inspections of financial groups' separate operations, be they in banking, securities, trust banking, or investment advisory services, and have closely cooperated with foreign supervisory authorities with regard to the foreign operations of such groups. Based on such inspection results, we have issued administrative orders to the Credit Suisse Group and the Deutsche Bank Group. Disposal of Bad Debt Fifth, I will describe our responses to the bad debt problem. Ever since its founding, the Financial Supervisory Agency has worked actively to address bad debt problem of Japan's banks with the view of stabilizing the financial system. Between fiscal 1992 and 1999, member banks of the Federation of Bankers Associations of Japan disposed of about \61 trillion in bad debts. Approximately 80 percent of this amount, or about \52 trillion, has been removed from balance sheets, either through direct depreciation or through the reversal of loan loss reserves. Thanks to these relentless efforts, the combined total of nonperforming loans and loans held by bankrupt borrowers in depository institutions' risk assets fell by \4 trillion between fiscal 1998 and Moreover, a review of the self-assessments of depository institutions indicates that the amount of Category III and IV assets has decreased by \400 billion. Commercial Loans of Nonbank Finance Companies Sixth, I will discuss our responses to the problems associated with the commercial loans of nonbank finance companies. You will no doubt recall that, since last summer, various problems associated with the commercial loans of nonbank finance companies have come to light in different parts of Japan, causing much public concern. These problems included overlending, exorbitant interest, disputes over loan collection, and inadequate explanation of revolving guarantees. Under these circumstances, the Financial Supervisory Agency endeavored to understand the situation and pressed for strict and appropriate conformance to relevant laws and orders, such as by sending letters to all relevant lenders advising them to engage in appropriate business management. Furthermore, with regard to Nichiei, the largest commercial lender among nonbank finance companies, we determined that the collection activities of a former employee directed toward a guarantor was in violation of the collection regulations of the Law Regulating Nonbank Finance Companies and, based on this law, we ordered Nichiei to suspend its business operations. Y2K

7 Seventh, I will describe our responses to Y2K. Y2K was a serious issue for the FSA since a financial institution overlooking a Y2K-related problem would risk having enormous consequences not only for the financial institution but for the entire market through the settlement mechanism. For this reason, government and industry worked actively together to prepare for Y2K. The Financial Supervisory Agency was no exception. It cooperated closely with financial institutions to prepare for Y2K. The agency created a specialist inspection team to carry out on-site inspections focusing on Y2K preparedness, it strengthened the monitoring of financial institutions' Y2K readiness programs, and it established a Y2K unit to respond promptly to problems as they arise. As a result, no significant problems attended the changing of the year to Money Laundering We also engaged vigorously in the problem of money laundering. The Financial Supervisory Agency pursued a variety of money laundering measures in the two years of its existence, such as establishing a Financial Information Unit immediately after its founding. Likewise, the FSA created a Financial Intelligence Unit when the Organized Crime Law, enacted in August 1999, took effect in February We have sought to promote the reporting of doubtful transactions by such measures as holding meetings with financial institutions on the notification system. As a consequence, notifications that averaged around 10 per year until 1998 increased to 1,059 in 1999, and in the few months since February 2000 such notifications have already far surpassed the 1999 figure. Strengthening Cooperation with Foreign Counterparts Finally, to conclude my review of past activities, I will mention efforts to strengthen cooperation with foreign supervisory authorities. The activities of financial institutions are growing more international. Not only are they establishing overseas branches, locally incorporated companies, and other foreign bases of operations, but they are joining in capital and business alliances. On the level of services, the number of cross-border transactions is on the rise. These developments highlight the need for strengthened cooperation between national supervisory authorities. In order to respond prudently to the increasing global nature of financial transactions and the activities of financial institutions, we have actively participated in international forums of regulatory and supervisory agencies, either organized by financial sector or spanning such sectors, from the time of the Financial Supervisory Agency. Major forums of the former include the Basel Committee on Bank Supervision, the International Organization of Securities Commissions

8 (IOSCO), and the International Association of Insurance Supervisors (IAIS). Those of the latter include the Joint Forum on Financial Conglomerates and the Financial Stability Forum. These forums, from the viewpoint of stabilizing the global financial system, determine principles and guidelines for international supervisory rules and practices. We are actively contributing to these efforts to be able to take our part in providing international leadership. I have presented a cursory overview of the past work of the Financial Supervisory Agency. What can we say about the current situation for Japan's financial system? While noting the understanding and cooperation of the people seated before me and many others, the agency's efforts appear to have had some effect, and the financial system can be said to have regained considerable stability when compared with a few years ago. THE ADMINISTRATIVE DIRECTION FOR THE FINANCIAL SERVICES AGENCY In the years ahead, there will be a need to build an even stronger financial system, a need that is underscored by the temporary measure protecting bank deposits in full expiring on March 31, With the progress of financial and information technology, financial products and services are diversifying, and we are witnessing such new developments as nonfinancial companies entering the banking business and the spread of electronic financial transactions. To respond to the trend toward establishing banks unlike those of the past, the FSA has drawn up guidelines for how it will apply licensing and surveillance requirements under existing laws and orders. Following a period of public comment, these guidelines were published just last month. Also last month, the Financial System Council began examining the question of giving supervisory authorities the power to exclude problem shareholders whose actions impede banks' efforts to maintain financial soundness. Occasioned by its founding, the FSA began a review of its mission in light of newly acquired functions and responsibilities so that it can continue to maintain domestic and foreign confidence in Japan's financial administration. Based on this review, the FSA developed policy principles for the management of financial administration, which it released on an informal basis domestically and internationally. Today I would like to report on these efforts. I will begin by sharing our mission statement or basic thinking for financial administration. It goes without saying that the financial system, through the functions of fund intermediation, risk intermediation, and the settlement mechanism, serves as the foundation for economic activity. A stable and vital financial system is therefore indispensable for the sound and reliable development of national welfare and economic activity. Financial markets are the core of the financial system. They must be developed in a manner that will enable market participants to benefit from their proper functioning fully and with confidence. We have consequently established building a stable and vital financial system and assuring the efficiency and fairness of financial markets as the central objectives for guiding the FSA's work. In pursuing these objectives, we will be able to contribute to increasing the benefits of citizens and the development of the national

9 economy. Our work of financial administration will continue to be anchored on market disciplines and the principle of self-responsibility. In view of the increasingly sophisticated and global nature of the financial business, the FSA will strive to maintain a high level of expertise and to ensure that its administrative work is consistent with international rules and practices. In doing so, the FSA will seek to protect and to increase the convenience of depositors, policyholders, investors, and other users of the financial system. The FSA will endeavor to further clarify rules and to seek their prompt and strict application. The FSA will also strive to make policy planning and administrative procedures more transparent. It is committed to be accountable for explanation in all stages of carrying out financial administration. As I have already noted, the FSA has integrated responsibility for financial system planning and for inspection, supervision, and surveillance. It also has broad regulatory authority over the financial sectors of banking, insurance, and securities. For this reason, the FSA intends to make full use of these capacities to respond prudently to changes in the financial environment and to achieve flexible and consistent implementation of policy. Based on our mission statement, we have developed six policy principles for undertaking the work of financial administration. The first policy is building a stable and vital financial system. After experiencing serious financial instability, efforts to restore and stabilize Japan's financial system has on the whole been met with success. However, with a temporary measure protecting bank deposits in full soon to expire, it will be essential to further stabilize and strengthen the financial system. Since the financial system constitutes the foundation of economic activity, the FSA will seek to promote competition and to build a vital financial system that will help energize the national economy. Further, to ensure that healthy small and medium-sized companies and new industries opening the door to the future will have ready access to the financing they need, the FSA will promote the smooth flow of credit, thus contributing to the development of the national economy. The second policy is developing an advanced financial infrastructure. The progress of financial and information technology and the globalization of financial and economic activities are being accompanied by a rapid increase in cross-sectoral financial products and services. Moreover, vast quantities of funds are flowing across borders in a search for financial markets offering the most convenience. These are trends that are expected to accelerate in the future. In light of these developments, the FSA will aim to develop a financial infrastructure that will be even more convenient for users, that will maintain an important and stable position internationally, and that will pave way into the new millennium.

10 The third policy is the development and proper application of financial rules to protect users. As a broad range of financial products and services becomes widely available, there is a need to develop an environment for protecting users of financial products and services so they can make use of these products and services with confidence under the principle of self-responsibility. To achieve this end, the FSA will develop rules to protect users, apply such rules appropriately, and expand its consumer education efforts so as to increase public understanding of financial products and financial transactions. The fourth policy is instituting fair and transparent financial administration based on clear rules and ensuring full adherence to market disciplines and the principle of self-responsibility. The FSA will continue its efforts to implement fair and transparent financial administration based on clear rules anchored on market disciplines and the principle of self-responsibility. Accordingly, in the areas of inspection, supervision, and surveillance, the FSA will endeavor to increase the efficiency and effectiveness of financial administration, further clarify financial rules, improve administrative procedures, and strengthen public relations. The FSA will promote enhanced disclosure by financial institutions to increase the transparency of their management, to further their self-regulation through market disciplines, and to establish the principle of self-responsibility among depositors. The next policy is enhancing the expertise and foresight of financial administration and strengthening the FSA's administrative structure. To be able to respond promptly and prudently to the rapidly changing financial environment, as seen in the growing sophistication and complexity of the financial business and the progress of information technology, it will be necessary to enhance the expertise and foresight of financial administration. With this in mind, the FSA will seek to improve staff training, envisaging the possibility of establishing an institute of financial studies, will endeavor to develop and hire staff with specialized knowledge and broad perspectives, and will strive to strengthen its organizational structure for financial administration. The final policy is strengthening cooperation with foreign supervisory authorities and actively contributing to the development of international rules and practices. The FSA will strengthen its cooperation with foreign supervisory authorities and promote the exchange of information to respond prudently to the globalization of financial transactions and the activities of financial institutions. Moreover, the FSA intends to take its part in providing international leadership, to contribute actively to the development of international rules and practices, and to expand its dissemination of information to the international community. These are the basic policies that will guide the future work of financial administration under the new FSA.

11 Sogo Problem On this occasion, I also want to touch briefly on the so-called Sogo problem. As you are no doubt aware, after requesting that its debt be forgiven by the Deposit Insurance Corporation, Sogo Co. elected to reorganize under a legal framework by asking the Tokyo District Court for protection from creditors in accordance with the Civil Reorganization Law. In our capacity as a supervisory agency, the FSA is following events closely to monitor their effect on financial institutions. It is difficult to say anything for certain at the present moment since the specifics of the reorganization plan have not yet been decided. Based on what we currently know, however, in view of financial institutions' loan loss reserves for claims against Sogo Co. and the level of their net business income, Sogo Co. seeking court protection under the Civil Reorganization Law should not have a significant effect on the management of financial institutions with dealings with the bankrupt company. Whatever the case, as a supervisory agency, we intend to carefully monitor the progress of reorganization procedures to accurately understand the management situation of affected financial institutions and to continue to assure the stability of the financial system. CONCLUSION As I mentioned at the start of my talk, the FSA has been given integrated authority over financial administration, including financial system planning. I am therefore well aware of the importance that must be placed on accountability and transparency. For this reason, the FSA intends to actively disseminate information on its efforts to make policy planning and administrative procedures more transparent and to be accountable for explanation in all stages of implementing financial administration. The FSA is still in its infancy. After the Financial Reconstruction Commission is abolished in January 2001, the agency will assume work related to financial crisis management and the disposal of financial bankruptcies. I myself and agency staff are redoubling our commitment to fulfilling the responsibilities placed on the FSA and to meeting the expectations of foreign nations toward the agency. Thank you for your kind attention. Source: 12/14/2001