The Japanese Experience in International Comparison October

This paper examines episodes of banking sector distress for a large sample of developed and developing countries, highlighting the experience of Japan. By a host of criteria, Japan appeared to be in a stronger position than most countries at the onset of banking problems— low inflation, appreciating currency, balanced government budget, and large external surpluses. However, Japan followed a clear international boom-and-bust pattern in terms of real output growth, credit growth and stock price movements. We estimate a multivariate probit model that links the likelihood of banking problems to a set of macroeconomic variables and institutional characteristics. The model predicts a high probability of banking sector distress in Japan in the early 1990s. In particular, the likelihood rose in line with the sharp drop in asset prices, deepening recession and “moral hazard” (recent of financial liberalization combined with explicit deposit insurance). The Japanese case is also noteworthy by the long duration of the banking crisis, the length of the coincident recession and general malaise over the economy, the slow regulatory response, and the long delay in the commitment of public funds to re-capitalize the banking sector. The authors thank the UC Pacific Rim Research Program, the International Centre for the Study of East Asian Development and the UCSC Committee on Research and Division of Social Sciences for financial support. We thank participants at the SCIIE International Economics Conference at UC Santa Cruz, the NBER-TCER Japan Project Meeting in Tokyo and the Japan Economic Seminar at Harvard University, and especially Michael Dooley, Eric Rosengren and Andrew Rose, for helpful comments.