It took a political revolution for Prime Minister Junichiro Koizumi to win parliamentary approval for the privatization of Japan's vast, state-owned postal services empire. It will require no less of a revolution to make sure that the offering, which will be one of the country's largest privatizations ever, promotes genuine and lasting change in Japan's financial services industry.
Koizumi's sweeping victory in September's election marked the culmination of the maverick's 34-year political career. By privatizing Japan Post, he aims to break the stranglehold that politicians and bureaucrats have long exercised over the allocation of financial resources in Japan and to inject fresh competition into the country's financial services industry. His plan also will create a potentially mouthwatering target for domestic and international investors: Japan Post's savings bank and insurance arms boast combined assets of more than ¥380 trillion ($3.2 trillion), or more than half as much as the country's entire commercial banking system. The Post reported a profit of ¥1.4 trillion for its most recent fiscal year, ended March 31, 2005.
"When it comes to financial services, Japan Post is truly a giant," note Stefan Rheinwald and Kristine Li, analysts at Hong Kongbased investment bank CLSA, in a recent report. The analysts say that privatization will "give a windfall to Japan's financial sector. Deposits are already flowing out of postal savings and into banks, investment trusts and even the stock market. Japan Post will no longer be able to fund the government on the cheap, resulting in higher interest rates."
The privatization will be "a good thing for the financial services industry in Japan" and will encourage a further migration of savings to the private sector, says Thierry Porte, president and CEO of Shinsei Bank in Tokyo, the former Long-Term Credit Bank of Japan that is controlled by a consortium led by U.S. private equity group Ripplewood Holdings. The Post's savings bank offers little attraction to foreign investors, Porte contends, but international financial services companies will want to gain access to its massive distribution network.
The success of privatization is far from guaranteed, though. Japan Post is a mammoth organization with some 260,000 employees and more than 24,000 outlets, and many key details of the sale remain to be decided. The complexity and political sensitivity involved in separating its four operating divisions and preparing them for sale will take a decade, according to the government's current plan, which expects the privatization to be complete in 2017. That protracted timetable could give opponents -- and they are numerous -- a chance to regroup and stall or even stop the sale.
Hiroyuki Arai, a member of the upper house of Parliament who quit Koizumi's ruling Liberal Democratic Party to protest the planned privatization, has pledged to continue fighting it. "Privatization means the post office will become a profit-seeking institution, putting shareholder interests first," he says. "This is incompatible with its driving principle of being nonprofit and consumer-oriented."
The proposed sale also faces some potentially daunting market risks, notably from rising interest rates. At the end of March 31, 2005, Japan Post's savings bank and insurance subsidiaries held a whopping ¥144 trillion worth of Japanese government bonds fully one quarter of the total amount outstanding. Bond prices have fallen over the past two years as the yield on the benchmark ten-year issue has risen from about 0.5 percent to a little over 1.5 percent, and the trend is expected to continue as Japan's economic recovery gathers pace.
A 1 percentage-point rise in bond yields would generate a loss of about ¥8 trillion on the postal bond portfolio, estimates Yasuyo Yamazaki, a former Goldman Sachs (Japan) president and opponent of privatization who advises the opposition Democratic Party of Japan on financial issues. Such losses would more than wipe out the Post's ¥6 trillion in capital. "I am looking forward to seeing the miracle solution to the problem," says Yamazaki.
The Postal Savings Bank, which holds 23 percent of all bank deposits in Japan, also faces a much more competitive environment. The country's commercial banks, many of which were on the brink of insolvency earlier this decade, have undergone a series of mergers and have written off tens of billions of dollars worth of bad loans. The industry -- particularly the megabanks, Bank of Tokyo-Mitsubishi UFJ, Mizuho Financial Group and Sumitomo Mitsui Banking Corp. -- is now back in rude financial health and looking to grow again, especially in the retail sector, where the Postal Savings Bank has dominated.
The bank is already losing market share, a reflection of increased competition and investor concerns about the impending loss of special government guarantees on postal deposits, which will occur with privatization. The postal bank's deposits have declined from a peak of ¥260 trillion in 2000 to ¥207 trillion in March 2005, with much of the money flowing to commercial banks, mutual funds or investment trusts. By comparison, the three megabanks hold a combined ¥264 trillion in deposits.
The challenges are considerable, but Koizumi is determined to press ahead with the sale, and his landslide election victory gives him strong backing to proceed. The upper house, whose rejection of privatization prompted Koizumi to call for the election and purge opponents from the LDP, approved privatization bills by a huge majority in October. "This was a miracle in the political world," Koizumi declared after the vote.
The man chosen by the prime minister to spearhead the project promises real changes that will make the new operating companies commercially competitive. Yoshifumi Nishikawa, 67, is a heavyweight who is credited with having engineered a turnaround at Sumitomo Mitsui Bank before stepping down as president in December 2005 to become head of the Postal Services Privatization Committee. In a news conference at the time, he made it clear that he intends to shake up the post office. "We're heading into an era of tough competition in financial services," he said. "I want the employees of Japan Post to understand that it's the firms that succeed in taking risks that will be profitable."
The prime minister has stacked Nishikawa's privatization committee with powerful business leaders, including Masaharu Ikuta, president of Japan Post; Hiroshi Okuda, chairman of the Japan Federation of Economic Organizations, or Keidanren, and Toyota Motor Corp.; Kakutaro Kitashiro, chairman of the Association of Corporate Executives; and Keimei Kaizuka, chairman of Japan's Financial System Council, which advises the Ministry of Finance on financial sector reform.
On a political level the prime minister has put his staunchest loyalists in charge of the postal project. Heizo Takenaka, a former economics professor who championed banking reforms in Koizumi's previous government, will oversee privatization as head of the powerful Interior Ministry. Takenaka will be supported by Finance Vice Minister Yoji Takahashi, who studied for his Ph.D. at Princeton University under Ben Bernanke, the new U.S. Federal Reserve Board chairman.
The privatization promises to reinforce the increasingly commercial nature of Japan's banking sector, a welcome change after decades in which intercompany relationships and political needs dictated much lending. "The postal privatization, together with the reform of government banks, will accelerate the shift of the flow of funds" already under way, Shijuro Ogata, a former director of the Bank of Japan, says in an interview. "The share of the public sector in financial activities will become smaller over time."
Yuri Okina, chief economist at the Sumitomo Mitsui Bank-affiliated Japan Research Institute in Tokyo, says the privatization's effect will depend on Nishikawa's attitude. "If he is aggressive, the impact could be considerable" in terms of greater competition in retail banking, Okina tells Institutional Investor.
JAPAN POST WASN'T ALWAYS SUCH A FINANCIAL services leviathan. Its ascendance was a by-product of the country's financial woes during the 1990s, and the story of that rise explains Koizumi's determination to reform the system.
During Japan's recovery from World War II, banks supplied most of the capital needed by industry while financial markets remained relatively underdeveloped. The success of Japan Inc. left companies flush with cash in the 1980s, prompting the banks to turn to more-speculative forms of lending, such as real estate development, to maintain growth.
The surge in speculative lending helped feed the "bubble economy" of the late 1980s. When the bubble burst, banks were left with a mountain of nonperforming loans, and several collapsed. Anxious depositors shifted money out of commercial banks and into the postal savings system, where most deposits enjoyed tax breaks and government guarantees. The amount of postal savings deposits nearly doubled between 1990 and 2000.
Needing assets to match its massive deposit base, the postal savings bank turned to the relative safety of government bonds and plowed ¥150 trillion into the Fiscal Investment and Loan Program, a pool of finance used by the government to fund public works projects. The bank in effect became a cash cow used by politicians and bureaucrats to spend trillions of yen on new roads, bullet trains and even sports stadiums. That cozy arrangement also gave local postmasters tremendous political power. Members of Parliament courted them for support, and candidates who failed to receive endorsements typically found themselves in the political wilderness.
Koizumi, a prominent member of a young reform wing of the Liberal Democrats since the mid-'90s, came to power in 2001 after local party chapters rebelled against the control wielded by the LDP's powerful backroom factions. An economist from Yokosuka, a city at the mouth of Tokyo Bay, he vowed to break the dominance of rural interests and transform the party into a modern, urban-centered political force. But his plans to privatize the postal system -- and break up the political clout its patronage bought -- were stymied by the party's antireform wing.
The prime minister's big election victory in September changed the political landscape dramatically. Koizumi expelled privatization opponents from the LDP and recruited a cadre of supporters, dubbed "assassins," to run in their place. He won a two-thirds majority in the lower house, enabling him to ram through the necessary legislation.
The first stage of the privatization will involve the transformation of the postal system into a holding company, Japan Postal Services Holding Co., with four subsidiaries: Postal Savings Bank, Postal Insurance Co., Post Office Co. (to operate mail services) and Postal Service Co. (to operate the massive network of branches, which sell everything from stamps and banking products to travel services). The holding company will be privatized in stages, beginning in 2007, but the government will retain at least a one-third share.
The savings bank and insurance subsidiaries, in turn, are slated to be 100 percent privatized between 2007 and 2017. Although details of the share offerings are yet to be decided, the plan is based on a level-playing-field philosophy, and domestic and foreign investors will be able to buy into all parts of the postal empire.
In a concession meant to mollify privatization opponents, the holding company will retain the right to buy back shares in the savings bank and insurance subsidiaries, an option that could perpetuate a degree of state control over the businesses. Government officials insist, however, that the buyback provision is simply in keeping with the cross-shareholding tradition among Japanese financial institutions and that any buybacks will be a "commercial and not political" decision.
The Postal Savings Bank holds two thirds of the postal system's assets -- a cool ¥266 trillion. That makes it the world's largest bank by assets, ahead of Tokyo-Mitsubishi UFJ ($1.7 trillion) and Citigroup ($1.6 trillion). It's not yet clear how many of those assets will stay with the savings bank, though.
Under the privatization plan, the government will create a new state-owned entity -- the Incorporated Administrative Agency Management Organization -- to provide guarantees for many potentially troublesome assets and liabilities of the savings bank. Those include the bank's big portfolio of government bonds as well as its roughly ¥140 trillion of government-guaranteed, ten-year time deposits, known as teigaku chogin. The arrangement will enable the savings bank to start life with a clean balance sheet and some ¥50 trillion of demand deposits.
Makato Hosomi, director general of the Office for Privatization of Japan Post, says the new entity will simply act as a "pass-through," transferring deposits and assets to the Postal Savings Bank and standing by to guarantee any losses on them. "Everybody accepts that guarantee," he tells II.
Yamazaki, the former Goldman Sachs executive, is skeptical of the guarantee arrangement. He estimates that a return to historically more-normal interest rates of about 5 percent would generate losses on the bond portfolio that would wipe out the company's ¥3.6 trillion of capital. If the bond portfolio produces major losses, Japanese taxpayers will ultimately have to foot the bill, he notes.
What the government should do, says Yamazaki, is run down the Post's portfolio by offering to sell bonds on special terms -- perhaps including currency-swap options to entice foreign investors, who own only 4 percent of outstanding Japanese government bonds.
The Postal Savings Bank has few assets aside from its bond holdings and its massive exposure to the Fiscal Investment and Loan Program. The bank has just ¥3.2 trillion in loans outstanding; it also holds ¥8 trillion in corporate bonds, ¥3.5 trillion in general securities and ¥878 billion in real estate.
The privatized bank could become an aggressive competitor to Japan's commercial banks in the sale of investment products such as mutual funds or investment trusts, which are fast gaining popularity in Japan, analysts say. Yamazaki, for one, believes that postal customers could switch some ¥20 trillion of savings deposits into trusts. Currently, only 3 percent of Japanese household assets are held in such trusts.
With its 24,149 offices, the postal network dwarfs those of its commercial rivals. Tokyo-Mitsubishi UFJ, Japan's largest bank, has only 1,000 branches. The Postal Savings Bank's network gives it a potentially important advantage over its competitors.
That network also presents an opportunity for other financial services companies. Although the Postal Service Co., which will own and operate the branch network, will be required to act as the primary agent for the Postal Savings Bank and Postal Insurance Co. through 2017, it will be able to offer deposits and investment and insurance products from rival companies.
"There are no limitations," says the privatization office's Hosomi. He says foreign firms are eager to use the Post's distribution channel to gain access to the Japanese market.
Opponents have seized on the potential threat to jobs and branches and vowed to wage a kind of guerrilla warfare against privatization. They regard the Post as a bastion of Japan's egalitarian society, offering universal, affordable products and services to the country's 120 million people. Kobo Inamura, who was forced to resign as executive vice director of Japan Post for opposing the sale, has promised to continue fighting what he says is a "confiscation rather than privatization" of public assets.
Koizumi dismisses such criticisms, and his strong mandate should ensure that privatization stays on track even after he steps down as prime minister in September. Whether his privatization plan will actually invigorate Japan's financial system remains to be seen.
Koizumi reins in other state lenders
Not content with selling off Japan's vast postal empire, Prime Minister Junichiro Koizumi is preparing to privatize two other state financial institutions and drastically curtail the activities of six other state-owned lenders. The moves, which will affect lenders with a combined total of some ¥90 trillion ($770 billion) in loans outstanding, are designed to reduce the pervasive influence of government-owned bodies on Japan's financial system and promote competition among commercial lenders.
The Development Bank of Japan, which was set up to finance Japan's post-World War II reconstruction, and Shoko Chukin Bank, a small-business lender, are scheduled to be sold over the next five to seven years, depending on market circumstances.
The other six entities include the Japan Bank for International Cooperation, or JBIC, an amalgam of the former Japan Exim Bank and the Overseas Economic Cooperation Fund; Japan Finance Corp. for Small and Medium Enterprise; National Life Finance Corp.; Agricultural Forestry and Fisheries Finance Corp.; Okinawa Development and Finance Corp.; and Japan Finance Corp. for Municipal Enterprises.
The Koizumi plan will dissolve JBIC -- the world's largest development agency, with ¥20.8 trillion in loans outstanding, 50 percent more than the World Bank -- and combine the other five agencies into a single governmental institution. JBIC's yen loans business will be transferred to a new body run by the Japan International Cooperation Agency, while its international financial operations will be shifted to the new government entity, sources say.
The government's Council on Economic and Fiscal Policy said at the end of last year that the loan portfolio of the eight institutions should be reduced to half its present size by 2009. In the future, it said, public lenders should focus only on three key areas: small firms that are unable to raise money elsewhere; projects of national interest, such as overseas energy investments; and official development assistance.
A council task force is evaluating the assets and liabilities of each of the eight institutions and will set numerical targets for shrinking their balance sheets. Legislation to carry out the changes is due to be introduced in Parliament in coming months.
The retrenchment by public lenders should offer plenty of scope for the private sector to expand. "Japan's megabanks and shinkin [local] banks are very eager to access the small-business sector in particular," says Yuri Okina, chief economist at the Japan Research Institute, an affiliate of Sumitomo Mitsui Banking Corp., who notes that small firms account for 75 percent of Japan's manufacturing output.
The reforms also will create opportunities for commercial banks to expand lending to big business. Currently, even the biggest of Japan's exporters can obtain loans from state institutions "in the name of export aid or infrastructure building," says Okina. Those state-subsidized loans effectively deny business to private banks, she says.
But not everyone is convinced of the need for reform. "It is strange to force all the different functions of these institutions into one," says Yasuyo Yamazaki, who advises the opposition Democratic Party of Japan. The Koizumi reforms threaten to create a vast new "bureaucracy or public monopoly," he warns. -- A.R.
