July 31, 2017

IMF published staff report, selected issues report, and financial system stability assessment (FSSA) report as part of the financial surveillance on Japan. The FSSA report summarizes the Financial Sector Assessment Program (FSAP) findings. Japan is deemed by the IMF to have a systemically important financial sector and the stability assessment under this FSAP is part of bilateral surveillance under Article IV of the IMF’s Articles of Agreement.

The staff report reveals that directors encouraged the authorities to strengthen financial sector oversight, along the lines of the FSAP recommendations. These efforts need to include moving toward full risk-based prudential supervision, strengthening corporate governance across the banking and insurance sectors, tailoring capital requirements to the banks’ risk profiles, and implementing a more robust framework for regulation of the insurance sector. Directors welcomed efforts to improve the macro-prudential framework and emphasized the need to clarify the mandate of the Council for Cooperation on Financial Stability and to proactively expand the macro-prudential toolkit. They also stressed the need to strengthen the crisis management and resolution framework to limit expectations of public support and an implementation of an economic-value-based solvency regulation as soon as practicable. It is recommended that internationally active financial institutions should be required to hold sufficient liquidity buffers in significant foreign currencies. Consistent with FSAP recommendations, financial sector policies should facilitate the move toward more risk-based lending—by upgrading banks’ credit risk-assessment capacity, lowering the coverage of public credit guarantees, and improving reporting standards of small and medium enterprises.

The FSSA report examines the financial stability in the country, summarizes the status of the recommendations of earlier FSAP (Appendix II), and summarizes the compliance with Basel Core Principles (Appendix III). The report highlights that stress tests suggest that the banking sector remains broadly sound, although market risks are increasing and there are some vulnerabilities among regional banks. With regard to the crisis management and resolution framework, expansion of the resolution toolkit, enhancements and clarifications in the legal framework—including its extension to central counterparties (CCPs)—and improvements in operational aspects would help authorities’ readiness. The report reveals that Japan has one of the largest and most sophisticated financial systems in the world, with more than half of total financial assets being held by commercial banks and 14% by insurance companies. Banks play a major role in financial intermediation and the banking sector mainly consists of city banks, trust banks, regional banks, Shinkin banks (credit unions), credit associations, and credit cooperatives. Three of the city banks are global systemically important banks or G-SIBs and account for 18% of total financial assets. Japan’s highly concentrated insurance sector is the world’s second largest after the U.S., with life insurance accounting for about 90% of the sector. Three domestic central counterparties (CCPs) operate in Japan, including one of the top 10 CCPs worldwide. Since the last FSAP, overall balance-sheet indicators have remained broadly strong for the banking sector, with an average capitalization at 13%, declining nonperforming loan ratios, and favorable local-currency liquidity indicators due to large excess reserves at the Bank of Japan.

The selected issues report examines the reasons for the not-so-high private investment in Japan, weighs the risks and benefits associated with unbacked fiscal expansion, and assesses the tax policy challenges of an aging/declining population, with a focus on lifetime employment and gender inequality in the country.

 

Related Links

Staff Report (PDF)

FSSA Report (PDF)

Selected Issues Report (PDF)

Keywords: Asia Pacific, Japan, Banking, Insurance, FSSA, FSAP, Article IV, IMF

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