BOJ Report Assesses Stability of Financial System in Japan
BOJ published its semiannual Financial System Report. This issue of the report discusses current developments in financial markets and the financial intermediation activities of Japanese financial institutions amid the ongoing impact of the COVID-19 outbreak. It also analyzes and assesses the impact on the financial stability of Japan as well as the risks posed by the outbreak. The issues and challenges that warrant close vigilance going forward have been identified. In addition, BOJ published a review that summarizes background of the implementation of the "simultaneous stress test based on a common scenario."
The report highlights that the financial system of Japan has been stable. Looking ahead, even in the case where the economic recovery remains moderate, the financial system is likely to remain highly robust. However, developments in the spread of COVID-19 and their impact on the domestic and overseas economies are subject to considerable uncertainty. Under the severe stress event of the persistently stagnated pace of economic recovery and significant adjustments in financial markets, a deterioration in financial institutions' financial soundness and the resultant impairment of the smooth functioning of financial intermediation could pose a risk of further downward pressure on the real economy. In this regard, the following three risks warrant particular attention.
- The first risk is an increase in credit costs due to the potentially prolonged economic downturn at home and abroad. In Japan, close attention should be paid to the impact on lending to areas where vulnerabilities accumulated before the COVID-19 outbreak. The overall credit quality of the overseas loan portfolios of Japanese banks has remained high. Careful risk management is essential given that the current downturn in overseas economies is more severe than that during the global financial crisis.
- The second risk is a deterioration in gains or losses on securities investments due to substantial adjustments in financial markets. Under the prolonged low interest rate environment in Japan, Japanese financial institutions have been actively taking on market risk, particularly for domestic and overseas credit products and investment funds, to search for yield.
- The third risk is destabilization of foreign currency funding due to the tightening of foreign currency funding markets mainly for the U.S. dollar. As foreign currency funding markets are still vulnerable to shocks, Japanese banks need to make continuous efforts to strengthen their foreign currency funding bases and liquidity management.
Future developments in the spread of COVID-19 and their impact on the domestic and overseas economies remain highly uncertain. Against this backdrop, the major challenge for financial institutions is to smoothly fulfill their financial intermediation function by balancing their financial soundness and risk taking. Careful assessment of the sustainability of the borrowers' businesses, in addition to the provision of swift liquidity support, will become increasingly important. In this respect, providing effective support tailored to the needs of borrowers by assisting with their core business and financing as well as facilitating their business succession, transfer, and restructuring will become more essential. From a medium to long-term perspective, BOJ will actively support initiatives of financial institutions by preparing institutional frameworks for the financial system and by taking measures to facilitate digital transformation.
Keywords: Asia Pacific, Japan, Banking, Securities, Stress Testing, COVID-19, Credit Risk, Financial Stability, BOJ
Featured Experts

Metin Epözdemir
Metin Epözdemir helps European and African banks with design and implementation of credit risk, stress testing, capital management, and credit loss accounting solutions.

Emil Lopez
Credit risk modeling advisor; IFRS 9 researcher; data quality and risk reporting manager

James Partridge
Credit analytics expert helping clients understand, develop, and implement credit models for origination, monitoring, and regulatory reporting.
Previous Article
HM Treasury Publishes Update on UK-US Regulatory Group MeetingRelated Articles
EBA Clarifies Use of COVID-19-Impacted Data for IRB Credit Risk Models
The European Banking Authority (EBA) published four draft principles to support supervisory efforts in assessing the representativeness of COVID-19-impacted data for banks using the internal ratings based (IRB) credit risk models.
EP Reaches Agreement on Corporate Sustainability Reporting Directive
The European Council and the European Parliament (EP) reached a provisional political agreement on the Corporate Sustainability Reporting Directive (CSRD).
PRA Consults on Model Risk Management Principles for Banks
The Prudential Regulation Authority (PRA) launched a consultation (CP6/22) that sets out proposal for a new Supervisory Statement on expectations for management of model risk by banks.
EC Regulation Amends Standards for Calculating Credit Risk Adjustments
The European Commission (EC) published the Delegated Regulation 2022/954, which amends regulatory technical standards on specification of the calculation of specific and general credit risk adjustments.
BIS Hub Updates Work Program for 2022, Announces New Projects
The Bank for International Settlements (BIS) Innovation Hub updated its work program, announcing a set of projects across various centers.
EIOPA Issues Cyber Underwriting Proposal, Statement on Open Insurance
The European Insurance and Occupational Pensions Authority (EIOPA) published two consultation papers—one on the supervisory statement on exclusions related to systemic events and the other on the supervisory statement on the management of non-affirmative cyber exposures.
US Senate Members Seek Details on SEC Proposed Climate Disclosure Rule
Certain members of the U.S. Senate Committee on Banking, Housing, and Urban Affairs issued a letter to the Securities and Exchange Commission (SEC)
EIOPA Consults on Review of Securitization Framework in Solvency II
The European Insurance and Occupational Pensions Authority (EIOPA) published a consultation paper on the advice on the review of the securitization prudential framework in Solvency II.
UK Authorities Issue Regulatory and Reporting Updates for Banks
The Prudential Regulation Authority (PRA) issued a statement on PRA buffer adjustment while the Bank of England (BoE) published a notice on the statistical reporting requirements for banks.
BCBS Issues Climate Risk Principles while HKMA Expresses Its Support
The Basel Committee on Banking Supervision (BCBS) issued principles for the effective management and supervision of climate-related financial risks.