Bank Regulatory Structure: Japan (Chapter Report, 12/27/96,
GAO/GGD-97-5).

Pursuant to a congressional request, GAO reviewed the Japanese bank
regulatory structure and its key participants, focusing on how: (1) the
Japanese bank regulation and supervision is organized; (2) Japan's
banking oversight structure functions, particularly with respect to bank
licensing, regulation, and supervision; (3) Japanese banks are monitored
by their supervisors; and (4) participants handle other financial system
responsibilities.

GAO found that: (1) in Japan, two entities, the Ministry of Finance
(MOF) and the Bank of Japan (BOJ), are responsible for ensuring the
safety and soundness of the nation's banking system; (2) MOF, as a
governmental agency, has the sole responsibility for licensing banking
institutions and for developing and enforcing banking regulations; (3)
in addition to its power to order business suspensions and to rescind a
bank's license, MOF can seek the imposition of fines, and, in some
cases, imprisonment as enforcement measures; (4) to fulfill its
responsibility stipulated in the Bank of Japan Law, BOJ has contractual
arrangements with 700 financial institutions, including all commercial
banks, that allow it to examine these financial institutions and provide
advice; (5) over the period 1990 to 1994, MOF and BOJ have examined
approximately 500 banks annually, and, although MOF and BOJ do not
regularly share information obtained during their separate on-site
monitoring visits to the same banks, they do work together on a
case-by-case basis to resolve crisis situations; (6) in connection with
its responsibility to maintain the financial system's stability, BOJ is
the lender of last resort and, as the central bank, BOJ can provide
funds to banks in trouble or to the system as a whole if there is no
alternative financial provider of liquidity to prevent a systemic
crisis, and such liquidity is needed; (7) under the Bank of Japan Law,
BOJ sets monetary policy and the interest rate at which it loans or
discounts bills for its client banks; and (8) MOF and BOJ share
responsibilities for such functions as failure resolution and
representing Japan's interests in international forums.

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  GGD-97-5
     TITLE:  Bank Regulatory Structure: Japan
      DATE:  12/27/96
   SUBJECT:  Bank examination
             Bank failures
             Bank management
             Banking regulation
             Financial institutions
             Foreign governments
             Licenses
             Banking law
             Monetary policies
IDENTIFIER:  Japan
             
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Cover
================================================================ COVER


Report to the Honorable
Charles E.  Schumer
House of Representatives

December 1996

BANK REGULATORY STRUCTURE - JAPAN

GAO/GGD-97-5

Japanese Bank Regulatory Structure

(233475)


Abbreviations
=============================================================== ABBREV

  BOJ - Bank of Japan
  CPA - Certified Public Accountant
  DIC - Deposit Insurance Corporation
  FSRC - Financial System Research Council
  JICPA - Japanese Institute of Certified Public Accountants
  MOF - Ministry of Finance
  SESC - Securities and Exchange Surveillance Committee

Letter
=============================================================== LETTER


B-270597

December 27, 1996

The Honorable Charles E.  Schumer
House of Representatives

Dear Mr.  Schumer: 

Proposals by various parties to consolidate United States bank
regulatory agencies have raised questions about how other countries
structure and carry out their bank oversight responsibilities and
central bank activities.  You asked us to provide you with
information about the structure and operations of regulatory and
supervisory activities in several countries.  This report presents
information on Japan.  It describes the Japanese bank regulatory
structure and its key participants, how that structure functions, how
banks are supervised in Japan, and how participants handle other
financial system responsibilities. 

We are sending copies of this report to Members of the House and
Senate banking committees, other congressional committees and
subcommittees, and other interested parties.  We will also make
copies available to others on request. 

This report was prepared under the direction of Kane A.  Wong,
Assistant Director, Financial Institutions and Markets Issues.  If
you have any questions, please call me on (202) 512-8678.  Other
major contributors are listed in appendix II. 

Sincerely yours,

James L.  Bothwell, Director
Financial Institutions
 and Markets Issues


EXECUTIVE SUMMARY
============================================================ Chapter 0


   PURPOSE
---------------------------------------------------------- Chapter 0:1

Proposals by various parties to consolidate U.S.  bank regulatory
agencies have raised questions about how other countries structure
and carry out their bank oversight responsibilities and central bank
activities.  Congressman Charles E.  Schumer asked GAO to provide
information about the structure and operations of such activities in
several countries.\1 This report provides information on bank
oversight in Japan. 

GAO's objectives were to describe how (1) Japanese bank regulation
and supervision is organized; (2) Japan's banking oversight structure
functions, particularly with respect to bank licensing, regulation,
and supervision; (3) Japanese banks are monitored by their
supervisors; and (4) participants handle other financial system
responsibilities.  As with its reports on the structure of bank
regulation and oversight in other countries, GAO did not attempt to
assess the adequacy of bank supervision in Japan.  Most of the
information GAO gathered in this report, including translations and
explanations of pertinent laws and recent changes to those laws, was
obtained from Japanese officials and banking industry
representatives. 

It is important to note that GAO's work took place during a period in
which the Japanese system for supervising banks was being revised
with the intent of strengthening oversight.  Such revisions continue
and reflect an attempt to respond to problems that became evident
when the economic boom of the 1980s was followed by a period of
economic stagnation that brought significant declines in real estate
and stock market prices.  These falling prices helped generate a
sizeable inventory of nonperforming loans across the Japanese
financial services industry, estimated by the Ministry of Finance
(MOF) to be 34.8 trillion yen ($326 billion)\2 as of March 1996.  The
nonperforming loan problem contributed to the failure of several
financial institutions, including regional banks, credit cooperatives
and seven housing loan companies.  The estimated cost of resolving or
disposing of failing institutions over the last 4 years was about 2
trillion yen ($19 billion) to 2.5 trillion yen ($24 billion),
including over $7 billion in assistance provided by the Japanese
Deposit Insurance Fund. 

Several additional steps have recently been taken to help address
these problems, including an appropriation of 680 billion yen ($6.4
billion) to aid in resolving an estimated 6.3 trillion yen ($59
billion) in nonrecoverable loans for the seven failed housing loan
companies.  A substantial increase in the deposit insurance premiums
assessed on Japanese banks was also authorized to provide funds for
resolving additional failures expected over the next 5 years and to
help rebuild the deposit insurance fund.  In addition, several laws,
enacted in June 1996, were intended to improve the Japanese oversight
of financial institutions.  Other reforms were under consideration at
the time GAO concluded its work. 

It is also important to note that, while U.S.  supervisors rely
heavily on written orders or directives, in Japan, direction and
guidance is more often provided through frequent--almost
daily--contacts between bank officials and officials of MOF and the
Bank of Japan (BOJ), the two bodies responsible for safety and
soundness of the banking system.  This report focuses more attention
on describing the legal structure within which Japanese banking
oversight has been conducted and less attention on the methods used
to carry out that oversight. 


--------------------
\1 For information on GAO's issued reports on the British, German,
French, and Canadian regulatory systems, see Bank Regulatory
Structure:  The United Kingdom (GAO/GGD-95-38, Dec.  29, 1994); Bank
Regulatory Structure:  The Federal Republic of Germany
(GAO/GGD-94-134BR, May 9, 1994; Bank Regulatory Structure:  France
(GAO/GGD-95-152, Aug.  31, 1995) and; Bank Regulatory Structure: 
Canada (GAO/GGD-95-223, Sept.  28, 1995).  We also issued a capping
report drawing lessons for the U.S.  regulatory system from the
foreign countries, Bank Oversight Structure:  U.S.  and Foreign
Experience May Offer Lessons for Modernizing U.S. 
Structure,(GAO/GGD-97-23, Nov.  20, 1996). 

\2 Exchange rate of 106.6 yen per U.S.  dollar, as of Apr.  25, 1996. 


   BACKGROUND
---------------------------------------------------------- Chapter 0:2

The Japanese banking system is a highly segmented structure that
includes various types of private institutions as well as several
government institutions and Japan's central bank.  This structure is
a legacy of reforms originally instituted to promote economic
recovery during the post-World War II period.  Since the 1970s, some
actions have been taken to eliminate certain distinctions among the
different types of banks and broaden the markets they serve. 
Consequently, although important limitations and prohibitions still
apply, banks now can engage in a variety of previously restricted
financial activities.  The 1,130 financial institutions operating in
Japan as of March 31, 1995, held 1,148 trillion yen ($10.8 trillion)
in combined assets. 

More than half, or 53 percent, of these industry assets were held by
Japan's "ordinary banks," which mainly focus on short-term financing. 
At the time of GAO's review, 11 of Japan's 140 domestically-owned
ordinary banks were large city banks,\3 and 129 were regional banks. 
Based on total assets, as of December 1995, the six largest banks in
the world were Japanese city banks.  Also categorized as ordinary
banks were 90 foreign-owned bank branches operating in Japan, of
which 16 were owned by U.S.  concerns.  The remaining 47 percent of
industry assets were held by specialized financial institutions. 
Included in this group were 3 long-term credit banks, which are
permitted to issue bank debentures with up to 5-year maturities; 7
trust banks;\4 794 financial institutions serving small businesses;
48 agricultural, forestry, and fisheries cooperatives;\5 and 48 other
institutions.\6

Since 1928, two institutions have monitored the safety and soundness
of the Japan's banking industry--MOF and BOJ, Japan's central bank. 
Although MOF's legal authority to supervise banks was first granted
in 1872, BOJ began examining banks in 1928 on the basis of its
contractual agreements with client banks, as recommended by the
Financial System Research Council--an advisory council to the
Minister of Finance.  In 1942, the Bank of Japan Law gave BOJ the
mission of maintaining and fostering a safe and sound financial
system, thus giving BOJ what it believes is a stronger statutory
basis to conduct on-site examinations of its client banks.\7

In 1949, the Ministry of Finance Establishment Law gave MOF its
current broad responsibility for the government's fiscal and related
monetary functions, including budget formulation,\8 tax assessment
and collection, as well as for the supervision and inspection of
banks and securities firms.  Also in 1949, amendments to the Bank of
Japan Law gave BOJ responsibilities for formulating and implementing
monetary policy. 

With respect to banks, MOF's regulatory and supervisory
responsibilities are set out in the Banking Law of 1981, which was
prompted by economic and financial changes in Japan following the
early 1970s oil crisis.  Allowable activities for Japanese financial
institutions were further expanded in 1992 with the passage of the
Financial System Reform Law.  The 1992 law, which eliminated many
differences among financial institutions, allowed banks to engage in
securities and trust activities through their subsidiaries.  The law
also provided MOF with the authority to establish standards to
safeguard the soundness of banks and controls over transactions
between banks and their subsidiaries. 

The Deposit Insurance Corporation of Japan (DIC) was established as a
special corporation in 1971 to protect depositors and maintain the
stability of the financial system.  The DIC serves these purposes by
insuring individual depositors for up to 10 million yen ($93,800) and
by providing financial assistance to facilitate the merger or
acquisition of failing financial institutions.  The DIC is supervised
by MOF. 


--------------------
\3 As of Apr.  1, 1996, Mitsubishi Bank and the Bank of Tokyo merged,
reducing the number of Japanese city banks to 10. 

\4 In addition to these seven traditional trust banks, there were
seven trust bank subsidiaries and nine foreign-owned trust banks as
of Mar.  1995. 

\5 These cooperative-based credit federations represented a total of
4,080 local agricultural and fishery cooperatives at the local, town,
and village level of government. 

\6 Other institutions included the Shoko Chukin Bank (a special
corporation for providing financial assistance to unions of small-
and medium-sized enterprises) and 47 labor banks. 

\7 In Japan, the term supervisor is used only to describe government
agencies, according to MOF.  Since BOJ is not a government agency, it
is not described as a supervisor in Japan, even though BOJ does
perform some of the supervisory functions described below. 

\8 The formulation, execution, and coordination of the national
budget allows MOF to play a pivotal role within the national
government.  This role currently includes approving BOJ's budget. 


   RESULTS IN BRIEF
---------------------------------------------------------- Chapter 0:3

In Japan, two entities are responsible for ensuring the safety and
soundness of the nation's banking system--MOF and BOJ.  MOF, as a
governmental agency, has the sole responsibility for licensing
banking institutions and for developing and enforcing banking
regulations.  In addition to its power to order business suspensions
and to rescind a bank's license, MOF can seek the imposition of
fines, and, in some cases, imprisonment as enforcement measures. 
Although MOF officials said there have been no cases in which it has
had to impose fines or seek imprisonment, it has used its power to
order business suspensions. 

MOF supervises through on-site and off-site monitoring to assess (1)
compliance with laws and regulations and (2) soundness of financial
institutions.  MOF also uses its frequent--almost daily--contact with
bank officials to gather information as well as to discuss
supervisory concerns and to provide guidance.  BOJ is not a
governmental entity and has no regulatory authority.  However, in
order to fulfill its responsibility stipulated in the Bank of Japan
Law, BOJ has contractual arrangements with 700 financial
institutions, including all commercial banks, that allow it to
examine these institutions and provide advice.  BOJ conducts
examinations to assess the safety and soundness of these financial
institutions and, ultimately, the safety of the financial system.  It
also maintains oversight through frequent contacts with its client
institutions.  Over the period 1990 to 1994, MOF and BOJ have
examined approximately 500 banks annually.  MOF and BOJ do not
regularly share information obtained during their separate on-site
monitoring visits to the same banks, but they do work together on a
case-by-case basis to resolve crisis situations. 

In June 1996, several bills were enacted to help improve bank
inspection and supervision in response to a series of failures of
credit cooperatives, regional banks, and housing loan companies.  The
bills contained provisions designed to prevent the recurrence of
problems with bad loans, to improve disposal of failing or failed
financial institutions, and to provide additional funding for the
Deposit Insurance Fund in anticipation of more potential failures
over the next 5 years.  In addition, other reforms affecting the
banking system are under discussion. 

Apart from their respective safety and soundness functions, MOF and
BOJ have other financial system responsibilities.  In connection with
its responsibility to maintain the financial system's stability, BOJ
is the lender of last resort.  As the central bank, BOJ can provide
funds to banks in trouble or to the system as a whole if there is no
alternative financial provider of liquidity to prevent a systemic
crisis, and such liquidity is needed.  Under the Bank of Japan Law,
BOJ sets monetary policy and the interest rate, known as the official
discount rate, at which it loans or discounts bills for its client
banks.  In other areas, MOF and BOJ share responsibilities for such
functions as failure resolution and representing Japan's interests in
international forums. 

   Figure 1:  Responsibility for
   Bank Regulatory and Related
   Functions in Japan

   (See figure in printed
   edition.)

\a Japan's deposit insurance system is administered by the Deposit
Insurance Corporation. 

Source:  Japanese laws, bank regulation, and other materials obtained
from Japanese sources. 


   PRINCIPAL FINDINGS
---------------------------------------------------------- Chapter 0:4


      MOF AND BOJ AUTHORITIES
      DIFFER CONCERNING THE SAFETY
      AND SOUNDNESS OF FINANCIAL
      INSTITUTIONS
-------------------------------------------------------- Chapter 0:4.1

Although both MOF and BOJ have responsibilities for the safety and
soundness of the financial system, the basis for their respective
authority is different.  The Japanese parliamentary system and
Japanese law gives MOF wide-ranging and diverse responsibilities to
supervise and inspect financial institutions.  In contrast, BOJ's
oversight authority is obtained through its contractual agreements
with client financial institutions.  This contractual relationship
allows BOJ to conduct examinations of and provide advice to its
client financial institutions, which is necessary for it to fulfill
its responsibilities for the soundness of the financial system
stipulated in the 1942 BOJ law. 

Although MOF and BOJ are responsible for the safety and soundness of
the financial system and the guidance of banks, they function largely
independently of each other.  Moreover, only MOF has the legal
authority to take enforcement actions against financial institutions,
which could lead to fines, imprisonment, and licensing revocation
resulting in closure of the institution.  Although, according to MOF
officials, there have been no cases in which MOF has had to impose
fines or seek imprisonment, it has ordered suspension of business. 
For the most part, MOF has taken supervisory action through
administrative notifications, such as issuing circulars, although the
guidance provided through such notifications is not legally
enforceable.  Officials said that the use of administrative guidance
has long served as a major instrument in Japan's approach to bank
supervision.  According to banking officials, banks are expected to
act on MOF's guidance and do so.  The number of cases in which MOF
gave major banks what it calls "concrete" guidance, for the purpose
of improving bank performance, totaled 127 in 1994.  In addition to
these cases, MOF also provides guidance through frequent contacts
with banks. 

BOJ has no legal authority to take enforcement actions against
financial institutions.  However, it does provide advice to these
institutions through frequent contacts.  According to officials from
several banks GAO visited, this advice is typically treated as
binding by Japanese financial institutions. 


      MOF HAS RESPONSIBILITY OVER
      LICENSING AND REGULATION
-------------------------------------------------------- Chapter 0:4.2

Under the 1981 Banking Law, MOF is responsible for regulating and
supervising Japan's banking system.  MOF licenses, regulates, and
supervises banks that accept deposits or installment savings and lend
money, discount bills, or conduct exchange transactions. 

Under the 1981 Banking Law, MOF's role is to protect depositors and
maintain an orderly credit system.  According to the law, applicants
must obtain a license from MOF before engaging in banking.  MOF is
responsible for determining whether applicants meet licensing
criteria, such as whether they have adequate financial means to carry
out banking business.  MOF also has the authority to suspend business
operations or revoke licenses for violations of any law, articles of
incorporation, or MOF measures designed to protect the public
interest.  In addition, MOF may impose conditions on a banking
license when it considers it in the public interest. 


      MOF AND BOJ RELY ON ON-SITE
      AND OFF-SITE MONITORING TO
      CARRY OUT SAFETY AND
      SOUNDNESS RESPONSIBILITIES
-------------------------------------------------------- Chapter 0:4.3

MOF and BOJ obtain information needed to fulfill their safety and
soundness responsibilities primarily through on-site and off-site
monitoring.  As part of their off-site monitoring, MOF and BOJ
officials request various bank reports and conduct their own
independent analyses.  Japanese authorities also rely heavily on
their day-to-day contacts with banks, which allow them to keep
abreast of the financial condition and operations of the institutions
they oversee.  In addition, banks are required to submit reports to
MOF twice a year on their business and financial condition.  These
reports are also submitted to BOJ.  Banks submit more frequent
periodic reports to BOJ covering such matters as deposits with BOJ,
commercial paper, extensions of credit, and securities activities. 

MOF has the authority to investigate banks at any time for the
purpose of ensuring sound and appropriate bank management.  MOF
conducts two types of on-site inspections--comprehensive inspections
and inspections focusing on specific aspects of a bank's operation,
such as credit-risk or market-risk management.  MOF's comprehensive
inspections, which are unannounced, concentrate on banks' risk
management, profitability, asset quality, and compliance with
regulations. 

For the purpose of meeting its responsibility for the overall safety
and soundness of Japan's financial system, BOJ conducts on-site
examinations that focus on the business operations of institutions,
with special attention paid to assessing overall risk management. 
BOJ's examination authority is based on contractual agreements BOJ
reaches with institutions at the time they open their accounts with
the central bank.  All major Japanese banks, including ordinary
banks, long-term credit institutions, and most shinkin banks,\9 have
current accounts with BOJ.  BOJ typically provides banks with 2
months advance notice before an on-site examination.  BOJ also
requests bank reports before such examinations.  BOJ's examinations
review management, credit, market, foreign exchange, liquidity,
operations, electronic data processing, and systemic risks. 

To date, MOF and BOJ have not typically used independent external
auditors to provide information on the banks they monitor.  Although
banks are subject to Commercial Code\10 provisions requiring them to
obtain independent audits and do so, MOF and BOJ officials told GAO
that they depend on their own on-site and off-site monitoring
processes to obtain necessary information. 


--------------------
\9 Shinkin banks are cooperatives serving the financial needs of
small companies and local residents. 

\10 The Japanese Commercial Code, administered by the Ministry of
Justice, was promulgated in 1890 to designate rules for conducting
business. 


      INCREASES IN NONPERFORMING
      LOANS AND FINANCIAL
      INSTITUTION FAILURES CAUSED
      JAPAN TO REVIEW ROLE OF
      BANKING AUTHORITIES
-------------------------------------------------------- Chapter 0:4.4

During 1995 and early 1996, Japanese banks and the banking system
were confronted with several events that prompted the authorities to
enhance the regulatory and supervisory system's ability to deal with
industry problems.  These events included mounting levels of
nonperforming loans, an inadequately funded deposit insurance fund;
financial institution failures, including seven housing loan
companies; and improper trading by an employee of a city bank with
offices in New York. 

Economic changes, including Japan's stagnant economy and declining
real estate prices, have led in the past several years to sharp
increases in publicly reported nonperforming loans held by Japanese
banks and other deposit-taking institutions, estimated by MOF to
total at least 34.8 trillion yen ($326 billion) as of March 1996. 
Concerns have increased about the adequacy of the deposit insurance
fund as losses from nonperforming loans have caused several financial
institutions to fail.  In the last 2 years, outlays of financial
assistance provided to assist in the resolution of failing
institutions have come close to depleting the deposit insurance fund,
according to Japanese government officials. 

The Japanese government recently designed a plan aimed at rebuilding
public confidence and protecting depositors.  In June 1996, the Diet
passed several bills intended to provide new and more effective
enforcement and resolution powers and to better protect depositors. 
Key features of the bills were (1) a system of prompt corrective
action based on capital adequacy ratios, (2) a system under which
supervisory authorities would be able to initiate proceedings for a
financial institution's reorganization or bankruptcy, and (3)
creation of a special premium for deposit insurance and governmental
guarantees for borrowings by DIC for the disposal of failed credit
cooperatives. 

In September 1995, a Japanese city bank with offices in New York
reported to the U.S.  Federal Reserve that a securities trader in its
New York office had initiated improper trades over an 11-year period
that had gone undetected in inspections.  Reported losses resulting
from the unauthorized trading activities amounted to over $1 billion. 
The following month, U.S.  banking authorities issued cease and
desist orders against the bank requiring a virtual cessation of
trading activities in the United States.  In November 1995, MOF also
took action intended to correct what were viewed as inadequate
management of overseas practices at the city bank.  MOF stated that
it has committed itself to strengthening its supervision and
inspection of overseas branches and offices of Japanese banks.  BOJ
also announced measures to improve and enhance examinations. 


      MOF AND BOJ HAVE OTHER
      FINANCIAL SYSTEM
      RESPONSIBILITIES
-------------------------------------------------------- Chapter 0:4.5

MOF and BOJ have other financial system responsibilities, some of
which they share.  BOJ has responsibility for setting monetary
policy, thus influencing the nation's money supply and interest
rates.  It also acts as the lender of last resort--a function unique
to the central bank.  Additionally, BOJ has a key role in
administering the payments clearance system in Japan. 

BOJ and MOF share responsibilities for the deposit insurance system. 
MOF supervises DIC and plays an active role in approving key
appointments and financial assistance decisions.  If requested by
DIC, BOJ staff handle administrative functions of DIC on an as-needed
basis with the approval of MOF.  The Minister of Finance appoints the
Governor, and MOF approves the executive directors and committee
member appointments to DIC.  In addition, MOF must initially approve
all applications for financial assistance to financial institutions. 

MOF and BOJ both represent Japan in a number of international forums,
including the Group of Seven,\11 the Group of Ten,\12 the Basle
Committee,\13 and the International Monetary Fund.  In addition, both
participate in the Organization for Economic Cooperation and
Development. 

MOF and BOJ also work together in crisis management situations
involving financial institutions.  As the lender of last resort, BOJ
can provide liquidity to troubled financial institutions or the
financial system to prevent a systemic crisis.  According to BOJ
officials, in rare cases, BOJ has provided liquidity without eligible
collateral.\14 They added that the following four conditions should
be met before BOJ provides liquidity: 

  -- There must be a strong likelihood that systemic risk will
     materialize;

  -- Central bank financial support must be indispensable to maintain
     the stability of the financial system;

  -- All parties responsible for the institution's problems must be
     penalized so as to avoid the emergence of moral hazard; and

  -- The financial soundness of the central bank must be maintained. 


--------------------
\11 The Group of Seven is a group of seven major industrial countries
whose finance ministers and central bank governors meet occasionally. 
The seven countries include the United States, the United Kingdom,
Germany, Japan, Canada, France, and Italy. 

\12 The Group of Ten is a group of 11 major countries whose
representatives meet to discuss issues of mutual concern.  The
participating countries include Germany, Belgium, Canada, the United
States, France, the United Kingdom, Italy, Japan, the Netherlands,
Sweden, and Switzerland. 

\13 The primary purpose of the Basle Committee, which operates under
the auspices of the Bank for International Settlements, is to address
bank supervision-related issues.  It is made up of the banking
supervisors and central banks of the Group of Ten countries. 

\14 The Bank of Japan Law allows the bank to make loans against
collateral in the form of bills or notes, government bonds and
obligations, and other negotiable securities, gold and silver
bullion, or merchandise.  These are considered "eligible" collateral. 


   RECOMMENDATIONS
---------------------------------------------------------- Chapter 0:5

This report contains no recommendations. 


   AGENCY COMMENTS
---------------------------------------------------------- Chapter 0:6

Senior officials from MOF, BOJ, DIC, the Federation of Bankers
Associations of Japan, the Japanese Institute of Certified Public
Accountants, and the three city banks GAO visited provided comments
on a draft of this report.  These comments were incorporated in the
report where appropriate. 


INTRODUCTION
============================================================ Chapter 1

Japan's highly segmented banking industry is made up of separate
groups of institutions engaged in short-term or long-term finance;
trust activities; foreign exchange, and trade financing; small
business finance; and regional and agricultural finance.  The
segmentation of the banking industry reflects the extensive
restructuring the Japanese economy underwent in the aftermath of
World War II.  At that time, as a key part of Japan's efforts to
promote rapid industrial recovery, the government instituted legal
reforms that created pronounced specialization in banking that
persists to some degree to the present day.  Although the Japanese
banking industry remains segmented and specialized, deregulation and
liberalization since the 1970s have eliminated many functional
distinctions among the different types of banks and the separate,
specialized markets they formerly served.  Bank regulation and
supervision are the responsibility of the central government,
although some financial institutions are under the jurisdiction of
local governments. 


   OVERVIEW OF JAPANESE FINANCIAL
   INSTITUTIONS
---------------------------------------------------------- Chapter 1:1

The current Japanese banking system had its inception during the late
19th century with the emergence of a commercial banking system that
was dominated by a small number of banks associated with major
industrial conglomerates.  After World War II, the Japanese
government's efforts to rebuild the economy led to the dismantling of
these prewar conglomerates and to restrictions on universal banking
powers\1 that were formerly allowed to banks.  As part of the
nation's postwar economic and industrial recovery reforms, the
Japanese government restricted banks from engaging in activities
outside of banking, such as securities activities, and it limited
their ownership of shares in other Japanese companies, particularly
industrial companies.  The result was a segmented banking structure,
which even today retains some of its highly specialized character. 

Japanese banks currently may accept deposits or installment savings,
lend money, conduct exchange transactions, and certain ancillary
activities.  Allowable ancillary activities include purchasing,
lending, and selling securities; underwriting government bonds; and
the safekeeping of securities and precious metals.  In addition,
through associated companies, banks can provide venture capital,
consulting services, leasing, housing finance, and loans.  Industry
deregulation initiated in the early 1980s that culminated with the
1992 Financial System Reform Law also now allows banks to compete in
securities underwriting activities through subsidiaries, albeit with
certain restrictions on those activities.  In addition, there is to
be a clear separation of banking and securities activities.  Banks,
however, are currently prohibited from participating in insurance
activities and from setting up holding companies.\2

The structure of the Japanese banking system is made up of five types
of specialized financial institutions:  commercial banks, which are
referred to as ordinary banks; long-term financial institutions;
financial institutions for small business; financial institutions for
agriculture, forestry, and fisheries; and public financial
institutions, which include a postal savings system that is a major
source of funds for the Japanese government.  (See app.  I.)


--------------------
\1 Universal banking powers allow commercial banks to make loans,
underwrite corporate debt, and take equity positions in corporate
securities. 

\2 Holding companies consist of a parent company and subsidiaries. 
In the United States, the dominant form of banking structure is the
holding company. 


      ORDINARY BANKS
-------------------------------------------------------- Chapter 1:1.1

Ordinary banks in Japan include city banks, regional banks, and
branches of foreign-owned banks.  They offer a variety of products
and services including deposit-taking, fund transfers, and short- to
long-term loans, both domestically and abroad.  Ordinary banks may
also engage in certain government securities activities, including
some securities underwriting, and the sale of corporate commercial
paper (short-term unsecured funds) to institutional investors and
financial institutions.  Collectively, city banks are the largest
private banks in Japan, whether measured by industry assets, loans,
or deposits.  They are also among the largest banks in the world.  In
December 1995, the six largest banks in the world, ranked by assets,
were Japanese city banks. 


      LONG-TERM FINANCIAL
      INSTITUTIONS
-------------------------------------------------------- Chapter 1:1.2

Long-term financial institutions in Japan include long-term credit
banks\3 and trust banks.\4

Historically, the Japanese government has established long-term
financial institutions to provide long-term funds for agriculture and
other industries.  Until recently, they have been the only
institutions permitted to raise long-term funds.  Long-term credit
banks may issue bank debentures with up to 5-year maturities, and
trust banks may handle 5-year trust accounts.  Since deregulation of
the banking industry, however, ordinary banks are also making
longer-term loans, and the historic differences between ordinary and
long-term financial institutions have become less pronounced. 


--------------------
\3 Japan has three long-term credit banks whose main business is
long-term lending. 

\4 Trust banks are long-term, specialized financial institutions that
supply major corporations with funds that they mainly obtain from
trusts. 


      FINANCIAL INSTITUTIONS FOR
      SMALL BUSINESS
-------------------------------------------------------- Chapter 1:1.3

The group of cooperative-based institutions known as financial
institutions for small businesses serves the financial needs of their
members, which include small- and medium-sized businesses and labor
unions.  Also included in this group are three central bodies serving
the financial needs of their member cooperatives through such
services as deposits and member loans, and a special corporation
providing financial assistance for cooperative institutions. 


      FINANCIAL INSTITUTIONS FOR
      AGRICULTURE, FORESTRY, AND
      FISHERIES
-------------------------------------------------------- Chapter 1:1.4

Institutions known as financial institutions for agriculture,
forestry, and fisheries are made up of entities operating at three
levels that serve local cooperatives.  On the first level are
cooperatives operating at the individual village, town, and city
levels of government.  These cooperatives in turn are members of a
second level of prefectural-level credit federations serving clients
within their prefectures.\5 At the third level is the Norinchukin
Bank, which in several respects works as the central bank for
agriculture, forestry, and fisheries. 


--------------------
\5 Prefectures are Japan's political subdivisions.  Each prefecture
includes cities, townships, and villages. 


      PUBLIC FINANCIAL
      INSTITUTIONS
-------------------------------------------------------- Chapter 1:1.5

Japan has 11 wholly owned government financial institutions, of which
2 are banks and 9 are public corporations.  These lending
institutions, which are designed to supplement private-sector
financing, are prohibited from competing with private banks.  The
institutions' funds come from loans from the government's Trust Fund
Bureau, which in turn is largely financed by the government's Postal
Savings System. 

Although the Postal Savings System is not categorized as a bank, the
magnitude of its financial resources gives it important financial
significance in Japan.  As of June 1995, the system held in excess of
200 trillion yen ($1.88 trillion) in deposits,\6 making it the
largest financial institution in the world.  The extensive system
operates out of 24,000 Japanese post offices throughout the country. 

As of early 1995, the 1,130 financial institutions conducting banking
operations in Japan had approximately 1,148 trillion yen ($10.8
trillion) in industry assets, as shown in table 1.1.  Ordinary banks
alone accounted for over half, or 53 percent, of this total.  Ten
long-term financial institutions held the next largest share of
banking assets, or 28 percent of the total.  The most sizable share
of banking assets controlled by cooperative-based institutions was
held by financial institutions servicing primarily local communities,
which had about 12 percent of total industry assets.  As of February
1996, there were 90 foreign-owned bank branches in Japan, of which 16
were owned by U.S.  firms, according to Japanese government
officials.  Appendix I provides greater detail on financial
institutions in Japan. 



                               Table 1.1
                
                Assets Held by Various Types of Japanese
                Financial Institutions (as of March 31,
                                 1995)

                           (Yen in trillions
                       U.S. dollars in trillions)

                                    Percentage  Percentage  Percentage
                                            of          of          of
Type of financial                     industry    industry    industry
institution                 Number    deposits       loans      assets
----------------------  ----------  ----------  ----------  ----------
Ordinary banks
----------------------------------------------------------------------
City banks\a                    11        1.1%       38.2%       28.5%
Regional banks                 129        25.8        26.2        23.0
Foreign-owned bank              90       0.4\b         1.1       2.0\a
 branches
======================================================================
Subtotal                       230       57.3%       65.5%       53.5%

Long-term financial institutions
----------------------------------------------------------------------
Long-term credit banks           3         7.5         7.4         6.4
Traditional trust                7        12.1         8.7        21.9
 banks\c
======================================================================
Subtotal                        10       19.6%       16.1%       28.3%

Other financial institutions
----------------------------------------------------------------------
Financial institutions         794        13.0        12.4        11.9
 for small business
Financial institutions          48         8.8         3.6         3.8
 for Agriculture,
 Forestry, and
 Fishery\d
======================================================================
Subtotal                       842       21.8%       16.0%       15.7%
Other Institutions\e            48         1.3         2.4         2.6
======================================================================
Total                        1,130      100.0%      100.0%    100.0\%f
======================================================================
Total yen                                908.0       701.6     1,148.0
 (Total U.S. dollars)                   ($8.5)      ($6.6)     ($10.8)
----------------------------------------------------------------------
\a As of Apr.  1, 1996, the Mitsubishi Bank and the Bank of Tokyo
merged, thereby reducing the number of city banks to 10. 

\b Data provided by Ministry of Finance on Feb.  22, 1996. 

\c There are 7 traditional trust banks in Japan and 16 others owned
either by securities companies, financial institutions, or by
foreign-owned banks. 

\d These institutions at the prefectural level provide deposit and
lending services to about 4,000 local cooperatives. 

\e Includes the Shoko Chukin Bank (a special corporation for
providing financial assistance to unions of small- and medium-sized
enterprises) and 47 labor banks (banks promoting the welfare
activities of organizations, such as labor unions, consumer
cooperatives, and other labor bodies).  Does not include special
housing finance companies, known as jusen, nor does it include public
financial institutions, such as the Postal Savings System. 

\f Amount does not add to 100 due to rounding. 

Sources:  Ministry of Finance, U.S.  Department of the Treasury, and
GAO analysis. 


--------------------
\6 The U.S.  dollar equivalent used in this report is based on the
exchange rate of 106.61 yen per U.S.  dollar published in the Apr. 
25, 1996, Wall Street Journal. 


   HISTORY OF BANK REGULATION AND
   SUPERVISION IN JAPAN
---------------------------------------------------------- Chapter 1:2

Historically, Japanese laws for bank regulation and supervision have
been simple and limited in scope.  The current Japanese bank
regulatory and supervisory\7 structure is based on the 1981 Banking
Law, which revised earlier banking laws.  The 1981 Banking Law
designated the Ministry of Finance (MOF) as solely responsible for
authorizing and regulating the banking industry in Japan, and it
maintained MOF's legal supervisory authority over banks.  While the
Bank of Japan (BOJ) lacks the regulatory authority of MOF, it carries
out its safety and soundness responsibilities based on the authority
granted by the 1942 Bank of Japan Law that BOJ maintain a safe and
sound financial system. 

Changes in the bank regulatory structure have resulted from
essentially two stages of evolution in the Japanese banking industry,
according to historical literature.  The first stage spans the 1860s
up to the early 1970s and includes the origin of the banking system
as well as regulatory changes following World War II.  The second
stage, which dates from the mid-1970s to the present, was triggered
by the first oil crisis in 1973. 


--------------------
\7 In our earlier reports on bank oversight in the Federal Republic
of Germany, the United Kingdom, France, and Canada, we referred to
supervision as (1) the conduct of examinations and off-site
monitoring of financial institutions and (2) the taking of
enforcement actions.  According to MOF in Japan, the term supervisor
is used only to describe government agencies.  Since BOJ is not
considered a government agency, it is not described as a supervisor
in Japan, even though BOJ does perform some of the supervisory
functions described above. 


      ORIGIN OF THE BANKING
      SYSTEM:  1860S TO EARLY
      1940S
-------------------------------------------------------- Chapter 1:2.1

The origins of the Japanese banking system can be traced to the Meiji
restoration period in 1869, when money-transfer companies with many
of the functions of modern banks were established in major cities. 
Soon after, Japan's first bank legislation (the National Bank Act)
was enacted in 1872.  This act created national banks, which were
private banks issuing bank notes. 

The central bank of Japan, BOJ, was founded in 1882, although it was
later reorganized under the Bank of Japan Law of 1942.  The original
1882 law gave BOJ the sole right to issue bank notes, taking away
this responsibility from national banks, most of which disappeared
soon after.  The Banking Act of 1890 converted the remaining national
banks and other private banks into ordinary banks. 

In the same year, the Savings Bank Act of 1890 established savings
banks, whose number then climbed steeply over the next decade to a
peak of about 720 banks at the turn of the century.  The 1915
amendment to the Savings Bank Act prohibited ordinary banks from
engaging in similar savings activities until World War II, when the
expansion of savings became a national policy goal.  At that point,
ordinary banks were allowed to conduct the same business activities
as savings banks and, as a result, savings banks began to disappear. 


      THE 1927 BANKING LAW
-------------------------------------------------------- Chapter 1:2.2

In response to a nationwide financial panic in 1927, which heightened
concerns about the stability of the Japanese banking industry, the
government enacted the Banking Law of 1927.  This law, which defined
the structure and organization of Japan's banking system for the
following 54 years, established a banking system focused on
short-term lending. 


      THE 1942 BANK OF JAPAN LAW
-------------------------------------------------------- Chapter 1:2.3

Fundamental changes to BOJ's governance structure enacted in the 1942
Bank of Japan Law also made BOJ a means for conducting monetary
policy.  Prior to 1942, BOJ was a stock corporation that was directly
accountable to its stockholders.  However in light of wartime
conditions, the 1942 law gave the government influence over the
bank's operations.  The government became the majority stockholder of
the bank, while voting rights were denied to all stockholders. 

The 1942 law, according to BOJ officials, provided BOJ a legal basis
to foster and maintain a sound financial system.  In particular, BOJ
believes that the law provided a stronger statutory basis for
conducting its safety and soundness examinations of client banks,
which began in 1928.  In addition to on-site examinations, BOJ relies
on frequent contacts to ensure that financial institutions follow
sound practices.  BOJ carries out such examinations under the terms
of contractual agreements made with all banks that have current
accounts with BOJ.  The roles and responsibilities of BOJ are
currently under review by an ad hoc advisory committee to the Prime
Minister with the aim of possibly making changes to recognize the
changing economic and financial environment. 


      FINANCIAL SPECIALIZATION FOR
      INDUSTRIALIZATION: 
      MID-1940S TO MID-1970S
-------------------------------------------------------- Chapter 1:2.4

Industrialization policies adopted in the mid-1940s to support the
reconstruction of the postwar economy led Japan to develop a
financial system characterized by a high degree of specialization. 
Pursuit of such broad goals as financial order and stable
institutional earnings led the country to enact restrictions aimed at
compartmentalizing banking activities.  The national goal of
protecting and strengthening Japanese securities companies, for
example, led to the adoption of restrictions similar to those
provided for in the Glass-Steagall Act, which separates the U.S. 
banking and securities industries.\8

During the period from post-World War II to the 1970s, the "main bank
system" (defined as a unique business relationship between banks and
companies) played a key financial role in Japan's economic expansion. 
Under the main bank system, banks and companies were closely tied to
each other through practices such as cross shareholdings and
exchanging senior management personnel (usually from main banks to
companies).  As a result, companies enjoyed stable funding regardless
of their health, while main banks maintained solid market share by
supplying loans to companies.  However, in subsequent years, factors
such as an increase in the funding needs of companies due to economic
expansion, the diversification of company funding sources due to
financial liberalization, and the development of risk management
based on portfolio diversification have diluted the relationship
between banks and companies under the main bank system. 


--------------------
\8 After the stock market crash of 1929, the U.S.  Congress enacted
the Banking Act of 1933, known as the Glass-Steagall Act, which
forced the separation of the banking and securities businesses. 


      DEREGULATION AND
      LIBERALIZATION:  MID-1970S
      TO EARLY 1980S
-------------------------------------------------------- Chapter 1:2.5

Japan was shaken from a period of stable economic growth by the first
global oil crisis in 1973.  The crisis, which initially disrupted the
banking industry along with Japan's other economic sectors,
eventually prompted the evolution of a more flexible, open, and
international system.  In turn, these changes have helped Japan
emerge as a major global financial presence in the years since. 

The shock to Japan's economic growth brought about by skyrocketing
oil prices led, within a relatively brief period, to a doubling of
Japan's public sector debt.  To fund the public debt, the government
issued an increasingly large volume of government bonds.  In 1979, 6
years after the 1973 oil crisis, the government issued bonds worth a
record total of 15.3 trillion yen ($70.5 billion).\9 However, as the
deficit increased, financial institutions became less willing to help
the government absorb the debt at above-market prices.  Businesses
also became less dependent on bank credit and services, such as bank
loans.  As a result of these developments, banks began to seek out
new markets outside the traditional financial marketplace.  To expand
their market share and increase their competitiveness, banks and
securities companies became advocates of financial liberalization,
and banks began to diversify their loans and funding. 

The resulting liberalization, which began in the late 1970s, has
continued over the course of succeeding decades and has primarily
affected three areas:  interest rates, scope of business, and foreign
exchange controls.  The relaxation of restrictions on interest rates
began in 1979, with the introduction of negotiable
certificates-of-deposit, followed soon after by the emergence of
money market certificates of deposit paying interest rates linked to
money market accounts.  By October 1994, interest rates had been
liberalized on all time deposits except for checking accounts.  Over
the same period, the relaxation of lending regulations had enabled
banks to increasingly set their short-term prime rates relative to
the official discount rate. 

The enactment of the 1980 Foreign Exchange Law eased the regulation
of banks' foreign exchange activities, except during times of crisis. 
The 1986 opening of the Tokyo offshore market further liberalized
Japanese banks' foreign exchange activities. 


--------------------
\9 Exchange rate of 217 yen per U.S.  dollar as of 1979. 


      THE 1981 BANKING LAW
-------------------------------------------------------- Chapter 1:2.6

The primary law governing bank licensing, regulation, and supervision
in Japan today is the 1981 Banking Law.  The complete revision of the
past law--the 1927 Banking Law-- was prompted by the economic and
financial changes that took place in Japan after the first oil
crisis.  The 1981 law was designed to maintain financial order and
promote economic development by ensuring sound and appropriate bank
management, depositor protection, and facilitation of financial
transactions.  The law designated MOF as the governmental body
responsible for authorizing and regulating banks. 

The Banking Law of 1981, which totally revised Japanese banking law,
provided banks with greater guidance in the conduct of banking
business.  The law reorganized the basic supervisory framework for
Japanese banks without making major changes to MOF authority or
responsibilities.  In particular, the law provided more guidance on
the conduct of banking business than was provided in the 1927 banking
law, which up until that time had delineated the basic requirements
for Japanese banks.  Specific areas covered by the 1981 law include

  -- general requirements, such as banking licenses and capital
     requirements;

  -- permissible banking business;

  -- required reports;

  -- MOF supervision;

  -- MOF enforcement and penalty provisions;

  -- merger and transfer or acquisition of business;

  -- termination of business; and

  -- licenses for foreign bank branches. 


      THE 1992 FINANCIAL SYSTEM
      REFORM LAW
-------------------------------------------------------- Chapter 1:2.7

The 1992 Financial System Reform Law was meant to be a comprehensive
reform of Japan's financial and securities transaction systems
corresponding to domestic and international developments.  The law,
which was enacted to expand the scope of permissible business
activities, eliminated many differences among financial institutions,
allowing them to compete in one another's sectors through
subsidiaries, albeit with restrictions and firewalls.  In particular,
it allowed Japanese banks to conduct securities business through
subsidiaries in which they have at least a 50-percent share.  The law
also provided MOF with the authority to establish standards to
safeguard the soundness of banks and controls over transactions
between banks and their subsidiaries. 


      PROPOSED CHANGES TO BANK
      SUPERVISION:  1995 TO
      PRESENT
-------------------------------------------------------- Chapter 1:2.8

During 1995 and early 1996, Japanese banks and the banking system
were confronted with several events that encouraged authorities to
enhance the ability of the regulatory and supervisory process to deal
with industry problems.  These events included (1) a high number of
nonperforming loans, (2) near depletion of the deposit insurance
fund, and (3) large losses suffered by a major Japanese bank--the
Daiwa Bank--due to improper trading by an employee. 

The nonperforming loan problem originated in the economic boom of the
late 1980s, when Japanese banks substantially increased their
real-estate-related lending.  After years of rapid appreciation,
banks experienced rapid depreciation of asset prices.  The value of
nonperforming loans held by Japanese financial institutions as of
March 1996, according to MOF, was 34.8 trillion yen ($326 billion), a
condition considered unacceptable by the Japanese government. 
Nonperforming loans, which have caused several credit cooperatives
and regional banks to fail, have also called into question the
financial soundness of other financial institutions.  As a result,
Japanese officials recently undertook an analysis of the
nonperforming loan problem, which has led to changes in the
supervisory process. 

The Japanese government's attention has also been directed toward
devising supervisory responses to the problems of one particular type
of institution, housing loan companies--called jusen--which have
experienced heavy losses.  Japan's eight jusen, which were
established in the 1970s by Japanese banks and other financial
institutions such as insurance companies and securities firms, have
been especially hard hit in recent years with the steep decline of
the Japanese real estate market.  Although their original intended
function was to supplement home mortgage lending, jusen became
heavily involved in commercial real estate and housing development
lending, which contributed to their losses when the Japanese real
estate market declined sharply in early 1992. 

As of March 1996, nonrecoverable problem loans of jusen were
estimated at 6.3 trillion yen ($59 billion).  In Japan, there was
widespread concern that the failure of one or more jusen could spark
public panic and lead to a chain reaction of withdrawals from other
financial institutions, since many financial institutions had
provided financing to jusen companies.  To avert such a crisis, the
Japanese government designed a plan aimed at rebuilding public
confidence and protecting depositors, including establishing a jusen
account in the Deposit Insurance Corporation (DIC) with a
governmental contribution of 680 billion yen ($6.4 billion). 

In the summer of 1995, Daiwa reported that a securities trader in its
New York office had initiated improper trades over an 11-year period
that had gone undetected.  Reported losses totaled more than $1
billion.  In October 1995, BOJ conducted a special on-site
examination of Daiwa Bank's--a major city bank--New York Branch to
ascertain the facts at its New York Branch, as well as to evaluate
Daiwa's overall risk management system.  Also in October, banking
regulators in the United States issued cease and desist orders
against Daiwa requiring a virtual cessation of trading activities in
the United States.  In November 1995, MOF identified and took action
intended to correct inappropriate management practices at Daiwa Bank. 
MOF also ordered Daiwa Bank to reduce its international operations,
including the amount of loans outstanding, the amount of securities
holdings, and market-related activities.  MOF and BOJ also committed
themselves to strengthening their oversight of overseas branches and
offices of Japanese banks. 

In the last 2 years alone, DIC has provided financial assistance
totaling 643.3 billion yen ($6 billion) to assist in the resolution
of troubled credit cooperatives and regional banks, which has come
close to depleting the deposit insurance fund.  At the time of our
visit in September 1995, a DIC senior official told us that the
insurance fund could be depleted if current resolution plans were
implemented to handle the remaining failing financial institutions. 
In June 1996, the Diet--the Japanese Parliament--passed three
financial bills to facilitate the resolution of failed or failing
institutions and to increase deposit insurance premiums. 


   OVERVIEW OF PARTICIPANTS IN
   BANK LICENSING, REGULATION, AND
   SUPERVISION
---------------------------------------------------------- Chapter 1:3

Bank licensing and regulation is the responsibility of MOF.  However,
both MOF and BOJ have responsibilities for ensuring the safety and
soundness of the banking system.  The two agencies' responsibilities
do not typically extend to credit cooperatives, which are generally
supervised at the local government level. 


      MOF RESPONSIBILITIES
-------------------------------------------------------- Chapter 1:3.1

MOF, the government's central agency with jurisdiction over the
banking industry, is responsible for bank licensing, regulatory
compliance, guidance, and supervision.  Originally created in 1869,
its legal authority to supervise banks was first granted in 1890, and
again defined in the 1949 Ministry of Finance Establishment Law,
which was enacted during a major government reorganization after
World War II.  The statute used by MOF to carry out its current
responsibilities is the 1981 Banking Law. 

Bank supervision is just one of MOF's broad responsibilities.  Among
other things, MOF is also responsible for overall administration of
the government's fiscal and related monetary functions, including
budget formulation and execution, and tax assessment and collection. 
The formulation, execution, and coordination of the national budget
allows MOF to play a pivotal role within the national government. 
This currently includes approving BOJ's budget. 


         ORGANIZATION OF MOF
------------------------------------------------------ Chapter 1:3.1.1

MOF is headed by the Minister of Finance, a cabinet member appointed
by the Prime Minister.  The ministry is 1 of 12 ministries reporting
to the Prime Minister.  MOF's organizational structure consists of
one secretariat and seven bureaus.\10 The Banking Bureau is the main
bureau responsible for regulatory guidance and supervision of banks,
but it shares these responsibilities with MOF's Secretariat and the
International Finance Bureau.  Generally speaking, domestic banking
issues are under the auspices of the Banking Bureau, and
international banking issues are under the International Finance
Bureau. 

The Banking Bureau consists of five divisions and one department. 
Three divisions--the Commercial Banks Division, the Special Banks
Division, and the Small Banks Division--share responsibilities for
providing supervision and regulatory guidance to banks.  As of
September 1995, according to MOF, the Banking Bureau had a staff of
130. 

The Banking Bureau also works with MOF Securities Bureau in
supervising bank securities activities.  The Securities Bureau
provides guidance and supervision to a broad range of participants in
the securities market, including financial institutions engaged in
securities business.  As of September 1995, according to MOF, the
Securities Bureau had a staff of 90. 

The International Finance Bureau oversees the foreign activities of
Japanese financial institutions.  It also handles international
finance-related affairs, including those involving the international
currency system, the yen's internationalization, balance of payments,
and foreign exchange control; and it coordinates activities with its
foreign counterparts.  As of September 1995, according to MOF, the
International Finance Bureau had a staff of 114. 

Prior to 1992, bank inspections were conducted separately by the
individual bureaus.  Since then, the MOF Secretariat's Financial
Inspection Department has been responsible for conducting all
inspections.  As of September 1995, according to MOF, the Financial
Inspection Department had a staff of 112, of which 80 to 90 were
assigned to inspection teams.  An additional 307 inspectors work in
local branch offices, primarily inspecting shinkin banks.\11 However,
when needed, they conduct joint inspections of regional banks with
inspectors of the Financial Inspection Department.  In fiscal year\12
1996, there is to be an increase of 20 inspectors in the Financial
Inspection Department and an increase of 46 inspectors in local
branch offices, according to MOF officials. 

To strengthen oversight of the securities market, MOF established the
Securities and Exchange Surveillance Commission (SESC) as a separate
agency in July 1992.  SESC is authorized to inspect securities
companies, conduct surveillance of market transactions, investigate
suspected criminal offenses, and propose policy changes to MOF.  If
illegal activities are discovered, SESC may recommend disciplinary
actions to MOF. 

SESC has the authority to obtain a court warrant, and it can bring
charges against a suspect through the Public Prosecutor's Office if
it believes a crime has been committed.  SESC has a chairman and two
commissioners that MOF appoints with consent of the Diet--the
Japanese Parliament.  They have equal power and serve 3-year terms. 
SESC has an Executive Bureau consisting of 2 divisions and 11
regional offices, with a staff of 206 employees as of February 1996. 


--------------------
\10 The seven bureaus are:  Budget, Tax, Customs and Tariff,
Financial, Securities, Banking, and International Finance. 

\11 Shinkin banks are cooperatives serving the financial needs of
small companies and local residents. 

\12 The Banking Law of 1981 required banks to adopt an annual
business year which runs from April 1 to March 31. 


      BOJ RESPONSIBILITIES
-------------------------------------------------------- Chapter 1:3.2

BOJ first started examining banks in 1928, following financial crises
caused by the recession after World War I and the Kanto Earthquake of
1923.  All institutions having current accounts with BOJ are subject
to its examinations in accordance with contractual agreements with
BOJ.  They include city banks, regional banks, trust banks, long-term
credit banks, most shinkin banks, overseas branches and affiliates,
branches of foreign-owned banks, and some securities companies. 

BOJ has two principal missions:  (1) stabilizing the value of money
and (2) fostering a safe and sound credit and finance system.  To
keep the currency stable, BOJ: 

  -- influences the money supply and money markets;

  -- implements monetary policy and controls credit by setting the
     official discount rate,\13 directly selling and buying
     securities and bills in the financial markets, and imposing the
     reserve deposit requirement; and

  -- intervenes--as the agent of the Finance Minister--in the foreign
     exchange market to stabilize the yen's value against foreign
     currencies. 

To foster a safe and sound financial system, BOJ: 

  -- facilitates payments and settlements by issuing bank notes and
     providing funds transfer services among bank accounts;

  -- monitors financial institutions and markets through regular
     contacts, on-site examinations, and the provision of advice; and

  -- acts as lender of last resort. 

Legally, BOJ is a special corporation in a unique category.  While
BOJ's budget is currently approved by MOF, BOJ is considered to be
neither a government entity, nor a private institution within the
structure of the Japanese financial system.  Although it coordinates
some activities with MOF, BOJ functions as an independent
organization separate from MOF, according to MOF officials.  In March
1996, BOJ, whose assets totaled 57.7 trillion yen ($541 billion), had
responsibilities for 700 financial institutions, as shown in table
1.2. 



                               Table 1.2
                
                 Financial Institutions Examined by The
                  Bank of Japan (as of March 31, 1996)

                       (Japanese yen in billions
                       U.S. dollars in billions)

                                                     Assets
                                          ----------------------------
Type of financial
institution                       Number            Yen   U.S. dollars
-------------------------  -------------  -------------  -------------
Banks
----------------------------------------------------------------------
City banks, long-term                 43        477,975         $4,484
 credit banks, and trust
 banks
Regional banks                       129        267,775          2,512
Shinkin banks                        358        106,679          1,000
======================================================================
Total banks                          530        852,429         $7,997
Other financial                      170            N/A            N/A
 institutions\a
======================================================================
Total                                700      1,704,858        $15,993
----------------------------------------------------------------------
N/A:  Data was not provided by BOJ. 

\a Includes branches of foreign-owned banks and foreign securities
companies. 

Source:  BOJ. 


--------------------
\13 The interest rate charged by BOJ when extending loans to banks. 


         ORGANIZATION OF BOJ
------------------------------------------------------ Chapter 1:3.2.1

BOJ is headed by its Governor.  The Governor is appointed by the
Cabinet for a term of 5-years and may be reappointed.  Historically,
BOJ governors have alternated between individuals with MOF or BOJ
backgrounds. 

The Governor is the link between the bank's executive board and BOJ's
Policy Board.  The Policy Board, which is BOJ's highest
decisionmaking body, is the sole decisionmaking body for monetary
policy, including decisions on the official discount rate.  The
Policy Board was established in 1949 by amendments to the 1942 Bank
of Japan Law.  The amendments were in response to a desire to
modernize the Japanese monetary and economic system and to enhance
BOJ's independence. 

Board members include BOJ's Governor and representatives from MOF,
the Economic Planning Agency, and four individuals with experience in
and knowledge of banking, commerce, manufacturing, or agriculture. 
Government representatives from MOF and the Economic Planning Agency
are nonvoting members.  The four "knowledgeable and experienced"
members, who are appointed by the cabinet with approval from the
Diet, serve renewable 4-year terms without restrictions. 

BOJ has 13 departments,\14 a Secretariat of the Policy Board, the
Governor's office, and an Institute for Monetary and Economic
Studies.  In addition to its 33 branches and 12 local offices in
Japan, BOJ has overseas offices in New York; Washington, D.C.;
London; Paris; Frankfurt; and Hong Kong.  Bank monitoring is handled
by the Bank Supervision, Financial and Payment System, and Credit and
Market Management departments, according to BOJ. 

Within BOJ, the Bank Supervision Department\15 is primarily
responsible for monitoring financial institutions.  Headed by a
director, it is divided into two divisions:  the Bank Supervision
Division and the Data Analysis Division.  The former division manages
on-site examinations of banks and securities companies through four
examination groups.  The latter division compiles and analyzes
various statistics regarding financial institutions.  As of October
1995, according to BOJ, the Bank Supervision Department had an
examination staff of between 100 and 120. 

BOJ's Financial and Payment System Department's role is to maintain
and foster a safe and sound credit system.  It sets out the basic
macro-prudential policies including working out the disposition of
failed banks.  BOJ's Credit and Market Management Department oversees
the activities of domestic and overseas financial institutions.  It
also monitors money and capital markets, administers BOJ's money
operations, and conducts off-site monitoring of financial
institutions' activities in such broad areas as day-to-day cash
positions and long-term management strategy. 


--------------------
\14 Individual BOJ departments are:  policy planning, financial and
payment system, credit and market management, bank supervision,
international, operations, issue, budget and management, personnel,
administration, information system services, research and statistics,
and public relations. 

\15 In Japanese, this department is known as "kosa." We were told
that the English interpretation may be either examinations or
supervision.  BOJ interprets kosa in its broad sense and thus
believes the English translation is supervision.  However, MOF
interprets kosa strictly, as only examinations, and believes the
department should be known, in English, as the Examinations
Department, because on-site monitoring on a statutory basis is called
"kensa" (Inspection) and on-site monitoring not based on law is
called "kosa."


      PREFECTURAL OR LOCAL
      GOVERNMENTS
-------------------------------------------------------- Chapter 1:3.3

Each of the 47 prefectural governments authorizes and supervises
credit cooperatives in its own prefecture.  However, credit
cooperatives must obtain MOF's authorization if their activities go
beyond the prefecture's geographical boundaries.  Although MOF and
BOJ do not have responsibility for supervising credit cooperatives,
such institutions are required to be insured by the deposit insurance
system. 

If a request is received from the prefectural governor, MOF may
inspect a credit cooperative.  The recent failure of several credit
cooperatives has prompted the government to consider adopting
measures to ensure close cooperation between national and local
supervisory authorities.  Measures under consideration are intended
to provide local authorities with timely guidance, clarify conditions
warranting MOF inspections, establish regular meetings, and provide
for joint inspections by MOF staff and local authorities. 

As of April 1995, according to MOF, Japan's prefectural governments
had a supervisory and inspection staff of 338, of which 264 were
inspectors.  According to Japanese banking industry representatives,
prefectural inspections are conducted by an insufficient number of
inspectors, who must also carry out various other noninspection
duties. 


   OBJECTIVES, SCOPE, AND
   METHODOLOGY
---------------------------------------------------------- Chapter 1:4

At the request of Congressman Charles E.  Schumer, we examined
various aspects of the bank regulatory and supervisory structure of a
number of countries.  Specifically, our objectives were to describe
how (1) Japanese bank regulation and supervision is organized; (2)
Japan's banking oversight structure functions, particularly with
respect to bank licensing, regulation, and supervision; (3) banks are
monitored by their supervisors; and (4) participants handle other
financial system responsibilities.\16 This report focuses more
attention on describing the legal structure within which Japanese
banking oversight has been conducted and less attention on the
methods used to carry out that oversight. 

To address these objectives, we interviewed senior officials from MOF
and BOJ, both in Japan and in the United States.  They provided us
with documents and information, including annual reports, tables of
statistics, translations and analysis of selected banking
legislation, organizational summaries and charts, reports on the
Japanese banking structure, lists of reports banks must submit, and
other documents to illustrate the current regulatory and supervisory
environment. 

In addition to those interviews, we met with senior representatives
of Japan's DIC; the Federation of Bankers Associations of Japan
(Zenginkyo); the Japanese Institute of Certified Public Accountants
(JICPA); senior executives at six Japanese banks representing a
cross-section of Japan's specialized financial structure; senior
executives from a public accounting firm; experts on the Japanese
banking structure; and U.S.  agencies with regulatory
responsibilities over foreign banks:  Department of the Treasury, the
Federal Reserve, and the Office of the Comptroller of the Currency. 

Finally, we relied on translations of the 1981 Banking Law, the law
that relates most directly to bank regulation and supervision in
Japan, and the 1942 Bank of Japan Law, which gave Japan's central
bank its oversight authority.  We also relied on translated summaries
of three bills passed in June 1996 by the Diet, which significantly
changed Japan's regulatory process and the disposition of failed and
failing institutions.\17 This report does not include an evaluation
of the efficiency or effectiveness of the Japanese bank regulatory
structure. 

We conducted our review, which included one visit to Japan, from June
1995 through July 1996 in accordance with generally accepted
government auditing standards. 

We gave senior officials and executives of MOF, BOJ, DIC, JICPA, the
Federation of Bankers Associations of Japan, and the three city banks
we visited a draft of this report for their comments.  They provided
comments that were incorporated in the report where appropriate. 


--------------------
\16 We completed similar studies on the bank regulatory and
supervisory structures in the Federal Republic of Germany, the United
Kingdom, France, and Canada.  For information on these reports, see
Bank Regulatory Structure:  The United Kingdom (GAO/GGD-95-38, Dec. 
29, 1994); Bank Regulatory Structure:  The Federal Republic of
Germany (GAO/GGD-94-134BR, May 9, 1994); Bank Regulatory Structure: 
France (GAO/GGD-95-152, Aug.  31, 1995); and Bank Regulatory
Structure:  Canada (GAO/GGD-95-223, Sept.  28, 1995).  We also issued
a capping report drawing lessons for the U.S.  regulatory system from
the foreign countries, Bank Oversight Structure:  U.S.  and Foreign
Experience May Offer Lessons for Modernizing U.S.  Structure,
(GAO/GGD-97-23). 

\17 The three acts are (1) Act Ensuring Sound Management of Financial
Institutions, (2) Act to Improve Reorganization and Bankruptcy
Procedures for Financial Institutions, and (3) Amendment to the
Deposit Insurance Act. 


LICENSING, REGULATION, AND
SUPERVISION OF BANKS
============================================================ Chapter 2

MOF, as supervisor and regulator, licenses banks, regulates most
aspects of Japan's banking operations, and monitors any developments
in bank operations that may adversely affect the banking system, in
accordance with the 1981 Banking Law.  In its role as Japan's central
bank, BOJ is to ensure the safety and soundness of the financial
system through its oversight of financial institutions.  Changes to
oversight are being proposed due to the mounting levels of
nonperforming loans.  These changes are intended to make the
supervisory system more transparent and increase the accountability
of individual banks. 


   MOF LICENSES BANKS
---------------------------------------------------------- Chapter 2:1

The 1981 Banking Law requires each bank to obtain a license from MOF. 
The law defines "banking" as a business that accepts deposits and
makes loans or conducts exchange transactions.  However, a license is
also required of institutions that accept deposits or installment
savings regardless of whether they lend money or discount bills at
the same time. 

In reaching licensing decisions, according to the 1981 law, MOF is to
consider the applicant's: 

  -- financial capability to conduct banking soundly, and
     efficiently, and the potential income and expenses of its
     planned business operations;

  -- competence and experience to conduct banking appropriately,
     fairly and efficiently; and its credibility; and

  -- reasons for entering the banking business and anticipated
     effects on the existing financial system (e.g., supply and
     demand of funds, the operations of existing banks and other
     financial institutions, and the local economy). 

After applying the above criteria, MOF may impose conditions on a
license to the extent it believes the public interest could be
affected.  Banks must obtain permission from MOF to establish a head
office, branch, or subbranch and to relocate, change the status of,
or close any such offices.  However, Japanese banks are free of
geographical restrictions on where their branches can be located. 

Foreign-owned banks wishing to establish a branch or agency in Japan
are required to obtain a license from MOF.  Separate licenses are
required for each branch.  Concurrently, according to BOJ officials,
BOJ determines whether to allow the bank to open an account with BOJ. 
For the fiscal year ending March 31, 1995, MOF reviewed four license
applications for foreign-owned bank branches and approved all four. 
These banks also established accounts with BOJ. 

In addition to complying with Japanese laws, branches of
foreign-owned banks in Japan must conduct their banking business in
accordance with the banking laws of their home country.  They are to
be supervised on a consolidated basis by the home country's
authorities who have primary responsibility for the operation of the
parent bank, according to MOF.  Both BOJ and MOF examine or inspect
branches of foreign-owned banks in Japan. 


      LICENSED BANKS MUST MEET
      CAPITALIZATION REQUIREMENTS
-------------------------------------------------------- Chapter 2:1.1

A licensed bank is also required to be incorporated and properly
capitalized.  The 1981 Banking Law established a minimum
capitalization level for banks established in Japan of at least 1
billion yen ($9.4 million).  This threshold has since been raised to
2 billion yen ($18.8 million).  According to MOF officials, banks are
subject to two target capital ratio standards.  Domestic banks with
no overseas establishments are subject to a minimum 4-percent capital
adequacy ratio.  Banks maintaining overseas branches or subsidiaries
are subject to an international minimum risk-based capital standard
of 8 percent agreed to by the Basle Committee.\1 MOF does not apply
these standards to Japanese branches of foreign-owned banks in Japan
because they are to be supervised on a consolidated basis by their
home countries. 


--------------------
\1 The Basle Committee, whose primary purpose under the auspices of
the Bank for International Settlements is addressing bank
supervision-related issues, is made up of the banking supervisors and
central banks of the Group of Ten countries and Luxembourg:  Germany,
Belgium, Canada, the United States, France, the United Kingdom,
Italy, Japan, the Netherlands, Sweden, and Switzerland.  For further
information on the Basle Committee, see International Banking: 
Strengthening the Framework for Supervising International Banks
(GAO/GGD-94-68, Mar.  21, 1994).  For additional information on
risk-based capital adequacy standards, see International Banking: 
Implementation of Risk-Based Capital Adequacy Standards
(GAO/NSIAD-91-80, Jan.  25, 1991). 


   REGULATORY RESPONSIBILITY
   BELONGS TO MOF
---------------------------------------------------------- Chapter 2:2

MOF has broad responsibilities for formulating and carrying out
policies relating to banks.  Banking, securities, and other laws
establish MOF as the primary, if not sole, authority with
responsibility for financial regulation in Japan.  Under these laws,
the agency has responsibility for regulating most aspects of Japan's
banking operations, including sources and uses of funds, terms on
which banks can borrow and lend, activities in which they may engage,
branching and merger activities, and investment decisions regarding
other companies' stockholdings. 

In Japan, legislative proposals are generally drafted by individual
government ministries and are submitted through the cabinet to the
Diet.  Japanese laws typically give government ministries
considerable latitude in their interpretation and implementation. 
Laws are supplemented by two types of governmental ordinances: 
cabinet and ministerial.  Unlike laws, ordinances do not need to be
passed by the Diet, so they are used for adjustments required in
response to social changes.  For example, a bank's minimum
capitalization requirement is set by cabinet ordinance and its
business hours are set by ministerial ordinance.  Bank activities are
also subject to circulars and administrative notices issued by MOF. 
Circulars are used to explain laws and ordinances and to give
guidance on their practical application.  For example, MOF circulars
established standards for judging institutional soundness, such as
liquidity ratios.  Similar circulars established uniform standards
for bank accounting and reports. 

MOF typically sets policy by consensus--a process that involves the
input of many parties, such as other governmental agencies, industry
groups, academic groups, and BOJ.  In Japan, offices, ministries, and
government agencies may establish councils, or government advisory
bodies, for the purpose of studying and discussing important issues
or to provide administrative reviews.  These councils are often
responsible for initial discussions of major regulatory issues which
eventually result in ministerial ordinances or legislation.  The
Financial System Research Council (FSRC), a senior-level consultive
body to the Minister of Finance, is one such advisory body.  The
current FSRC, which is mandated by law, was originally created in
1956 to study the monetary system and make recommendations to the
Minister.  It now has 17 members\2 who are chosen from a broad range
of experiences and expertise, including the financial, industrial,
and academic community to provide a broad-based forum on policy
issues and to conduct studies of the Japanese financial system.  The
Banking Bureau serves as FSRC's Secretariat, and it provides FSRC
with both information and resources, according to MOF officials. 

Over the years, FSRC has served as a forum for discussing and
analyzing proposed changes in Japan's banking legislation.  Its
findings provided a basis for the 1981 Banking Law.  In 1992, changes
it recommended for Japan's compartmentalized financial system
similarly became the basis for the Financial System Reform Law.  More
recently, in a report issued to the Minister of Finance in December
1995, FSRC proposed ways to restore Japan's nearly depleted deposit
insurance fund, promptly dispose of nonperforming loans, ensure sound
management of financial institutions, and dispose of failing
financial institutions. 


--------------------
\2 According to Japanese officials, by law FSRC may have up to 20
members. 


      BANKS INFLUENCE CHANGES IN
      POLICY THROUGH VARIOUS MEANS
-------------------------------------------------------- Chapter 2:2.1

In addition to working with FSRC, banks also influence changes in
policy through their bankers' associations.  Japanese banks
nationwide are organized into regional associations whose primary
function is to operate a clearinghouse to clear checks and bills for
participating institutions.  For example, the Tokyo Bankers
Association operates the Zengin data telecommunication system, which
is a domestic funds transfer system operated on a national scale. 
The associations also play an important role in communicating the
industry's views to governmental agencies. 

Another group with a key role in communicating the banking industry's
views to the government is the Federation of Bankers Associations of
Japan, or Zenginkyo.  The Zenginkyo is a consortium of regional
bankers associations that acts as a representative for banks
throughout Japan.  Because the Zenginkyo represents a broad
constituency, it attempts to reflect the views of its broad
membership, not the particular interests of individual subgroups. 
This broad constituency has led such subgroups as city banks to turn
to other types of affiliations to further their specific interests. 


   BOJ AS THE BANKERS' BANK
---------------------------------------------------------- Chapter 2:3

In its role as Japan's bankers' bank, BOJ maintains current accounts
for its client institutions.  Funds held in current accounts are used
to clear accounts, make remittances among districts, and settle other
transactions among financial institutions. 

BOJ also discounts bills, a form of credit provision.  In addition,
it buys from or sells to current account holders various bills and
bonds, including long-term government bonds, and government
short-term bills. 


   ENSURING SAFETY AND SOUNDNESS
   OF BANKS
---------------------------------------------------------- Chapter 2:4

In ensuring the safety and soundness of the financial system, both
MOF and BOJ monitor banks through on-site monitoring, reviewing
financial reports, and frequent contacts.  When corrective action is
necessary, MOF and BOJ typically rely on guidance or advice, a form
of moral suasion, as their main means of enforcement.  MOF provides
supervisory direction and guidance by issuing administrative
guidelines and notifications, which function as important components
of Japan's banking regulatory system. 


      ON-SITE MONITORING
-------------------------------------------------------- Chapter 2:4.1

MOF designates its on-site monitoring of banks as inspections based
on its statutory authority, while BOJ calls its on-site monitoring
examinations and conducts them under its contractual agreements with
client banks.  Despite the different terminology, actual on-site
monitoring activities are somewhat similar, although their monitoring
objectives are different. 

In conducting its supervisory responsibilities, MOF is required to

  -- ensure that each bank subject to MOF's supervision operates
     within limits set by both Japanese banking legislation and the
     bank's own internal policies, and

  -- monitor any developments in bank operations that may have an
     adverse effect on the integrity of the bank involved or the
     banking system as a whole. 

BOJ also requires banks to undergo periodic on-site examinations and
to submit necessary information upon request, which allow BOJ to
obtain an understanding of the bank's operations to fulfill its
responsibility to maintain and foster the safety and soundness of the
financial system.  BOJ carries out its bank oversight primarily
through its Bank Supervision Department. 

Both MOF and BOJ may inspect or examine banks at any time and with
any frequency, although each typically examines the average bank once
every 2 to 3 years.  Officials from the agencies told us that they
coordinate their on-site monitoring with each other so that banks are
generally examined annually by either MOF or BOJ.  For the fiscal
year ending March 31, 1995, according to MOF, a total of 485 Japanese
banks were inspected or examined by either MOF or BOJ, as shown in
table 2.1. 



                                    Table 2.1
                     
                     Number of Banks Inspected or Examined By
                     Both MOF and BOJ, (fiscal years 1992 to
                                      1995)

                       1992            1993            1994            1995
                  --------------  --------------  --------------  --------------
           Total
Type      number
of            of
banks    banks\a     MOF     BOJ     MOF     BOJ     MOF     BOJ     MOF     BOJ
------  --------  ------  ------  ------  ------  ------  ------  ------  ------
City        21\b       4       9       4       4       9       5       9       7
 banks,
 trust
 banks
 ,
 long-
 term
 credi
 t
 banks
Region       129      41      51      45      47      46      47    54 4       1
 al
 banks
Shinki       421     190     150     198     155     213     157     212     162
 n
 banks
--------------------------------------------------------------------------------
\a As of Mar.  31, 1995. 

\b As of Apr.  1, 1996, the Mitsubishi Bank and the Bank of Tokyo
merged thereby reducing to 20 the number of city banks, long-term
credit banks, and trust banks. 

Source:  MOF and BOJ. 


   MOF AND BOJ RELY ON GUIDANCE
   AND ADVICE
---------------------------------------------------------- Chapter 2:5

Actions that MOF and BOJ take against banks subject to their
jurisdiction are typically through guidance or advice.  MOF relies on
administrative guidance to influence actions taken by banks it
supervises.  BOJ lacks such authority because it is not a regulatory
authority.  Instead, BOJ provides advice, which according to
government and bank officials banks generally follow. 


      MOF'S LEGAL ENFORCEMENT
      AUTHORITY
-------------------------------------------------------- Chapter 2:5.1

Under the 1981 Banking Law, MOF can suspend a bank's business
activities or revoke its license if the bank violates a law, its
article of incorporation, MOF's enforcement actions, or if its
activities undermine the public interest.  The Banking Law also
provides penalties for law violations, including fines and
imprisonment.  For example, individuals can be liable for
imprisonment or fines of up to 3 million yen ($28,140) if they
conduct banking activities without obtaining a license from MOF. 
Individuals are also liable for fines of up to 500,000 yen ($4,690)
if they do not meet reporting requirements, or if they refuse,
obstruct, or circumvent an examination.  However according to MOF
officials, there have been no cases in which MOF has used fines or
imprisonment. 

According to bank officials, MOF has the authority to correct the
operations of a troubled financial institution.  MOF can also remove
bank managers from their positions and order the restructuring of a
bank's management or suspension of its business if violations of laws
and regulations are found.  Although MOF has such legal enforcement
authority, until recently it has not been used.  Instead, banking
industry representatives said, MOF prefers to rely on administrative
guidance as its primary means of enforcement.  MOF also provides
supervisory direction and guidance through the frequent contacts it
has with banks. 


      MOF'S ADMINISTRATIVE
      GUIDANCE
-------------------------------------------------------- Chapter 2:5.2

MOF's administrative guidance basically involves the agency
interpreting existing laws and regulations and providing these
interpretations to banks.  This guidance can take the form of oral
guidance or written circulars or notices.  MOF sees this flexibility
as one advantage of administrative guidance.  MOF officials also
described such forms of guidance as preferable to initiating legal
proceedings in the Japanese court system, which can be a lengthy
process. 

Although administrative guidance is not legally enforceable,
government officials and bankers said that banks are expected to act
on it and they typically do.  According to MOF, banks are allowed to
interpret administrative guidelines within reason.  When conflicts
arise, differences are resolved through discussions with bank
officials and MOF.  Circulars or notices may also be used to clarify
or explain terms and concepts. 

The Japanese government recently adopted new legislation to ensure
that governmental administrative actions are more transparent.  In
October 1994, the Administrative Procedures Law was passed to
establish standards for fairness and openness in the administrative
process.  The law, among other things, requires a clear explanation
of administrative decisions, and it requires that guidelines for
regulated institutions, which include banks, be standardized.  It
also confirms that compliance with administrative guidance is
strictly voluntary.  Under new provisions of this law, MOF is to
issue administrative guidance in writing, if required by the affected
party.  According to MOF, the number of cases in which it gave, what
it termed concrete guidance on business-improvement measures to major
banks totaled 178 in 1992, 129 in 1993, and 127 in 1994. 


      BOJ'S SAFETY AND SOUNDNESS
      ADVICE
-------------------------------------------------------- Chapter 2:5.3

In order to fulfill its mission of maintaining price stability and
fostering a safe and sound financial system, BOJ said it extends
safety and soundness advice to solve the prudential problems of each
examined bank, if necessary.  In this regard, BOJ's advice is
different from law-based action taken by governmental agencies, such
as MOF.  BOJ's authority comes from its contractual agreements with
client banks.  Advice to banks may cover such areas as operational
safety and soundness and risk concentration. 


   INCREASES IN NONPERFORMING
   LOANS AND FINANCIAL INSTITUTION
   FAILURES CAUSED JAPAN TO REVIEW
   ROLE OF BANKING AUTHORITIES
---------------------------------------------------------- Chapter 2:6

The high number of nonperforming loans and the near depletion of the
deposit insurance fund in 1995 led Japanese officials to conclude
that changes were needed in the supervisory process.  A committee of
FSRC, in September 1995, after almost 3 months of deliberation,
proposed a number of supervisory changes. 

Interim and final reports by FSRC\3 observed that supervisory
authorities should have responded to the loan problem by constructing
a financial system in which market mechanisms and the principle of
self-responsibility of both banks and depositors would come fully
into play.  Specifically, the reports proposed strengthening
supervisory oversight and suggested that supervisory authorities: 

  -- take action in a timely manner,

  -- inspect financial institutions more frequently,

  -- increase the number and quality of inspection and monitoring
     staff,

  -- introduce tools to promote the prompt correction of financial
     institutions' mismanagement,

  -- promote more disclosure of nonperforming loans, and

  -- implement a prompt disposal procedure for failing or failed
     financial institutions. 

In addition, in late December 1995, MOF announced plans intended to
reform Japan's bank supervisory system.\4 MOF was to (1) issue new
guidance for banks regarding internal controls and risk management,
(2) increase its staff of bank inspectors from 420 to 490, (3) make
use of external audits and encourage external audits in overseas
branches, and (4) promote a closer exchange of information with other
supervisory authorities abroad.  Under the new supervisory system,
banks will be encouraged to

  -- improve their own internal control and risk management systems
     in accordance with new MOF guidelines,

  -- make greater use of certified public accountants (CPA) to
     conduct external audits,

  -- provide timely notification of wrongdoing, and

  -- ensure their business operations comply with requirements
     through check and balance functions. 

Collectively, these measures are intended to make the supervisory
system more transparent and increase the accountability of individual
banks. 

Some supervisory reform measures are already under way, including the
passage of three reform bills in June 1996.  In addition to
increasing the frequency and scope of inspections of overseas
branches and subsidiaries in Asia, MOF has issued an inspection
checklist on overseas offices.  BOJ has initiated special
examinations of the New York branches of some major Japanese banks. 
In addition, BOJ is expanding the scope of its examinations of
overseas branches to (1) enhance examinations, (2) upgrade
examination skills, and (3) increase cooperation with other central
banks. 


--------------------
\3 Interim Report by the Financial System Stabilization Committee of
the FSRC, Sept.  27, 1995 and The Summary of the Final Report of the
Financial System Stabilization Committee of the FSRC, Dec.  22, 1995. 

\4 Measures to Improve Banking Inspection and Supervision by the
Ministry of Finance, Dec.  26, 1995. 


SAFETY AND SOUNDNESS INFORMATION
IS OBTAINED THROUGH ON-SITE AND
OFF-SITE MONITORING
============================================================ Chapter 3

MOF and BOJ obtain information needed to fulfill their safety and
soundness responsibilities primarily through on-site and off-site
monitoring.  MOF and BOJ also rely on required and ad hoc reports
from banks, frequent meetings with banks, and their own research and
analysis.  The two agencies cooperate with each other, as necessary,
in order to achieve their distinct missions.  Neither agency has
typically used audit information developed by external, statutory,\1
or internal auditors. 


--------------------
\1 The Japanese Commercial Code was promulgated in 1890 to designate
rules for conducting business.  It requires banks with
paid-in-capital of at least 500 million yen ($4.7 million) or total
liabilities of 20 billion yen ($18 million) or more to have their
financial statements audited by independent auditors and to appoint
at least two auditors, known as statutory auditors. 


   ON-SITE MONITORING CONDUCTED
   INDEPENDENTLY
---------------------------------------------------------- Chapter 3:1

Although the scope of MOF's and BOJ's on-site bank monitoring, which
MOF calls inspections and BOJ calls examinations, is similar, the two
agencies' actual on-site monitoring is carried out largely
independently of one another.  Recently, due to financial
liberalization, both MOF and BOJ have placed greater emphasis on
their on-site monitoring of risk management.  Although there is no
legal requirement governing the frequency of bank examinations, MOF
and BOJ coordinate their monitoring efforts to ensure that most banks
are monitored annually.  This coordination allows MOF and BOJ to
alternate their on-site monitoring of the approximately 700 banks\2
subject to their inspections or examinations. 


--------------------
\2 This number includes 93 foreign-owned bank branches.  MOF also
inspects other financial institutions, such as insurance companies,
in addition to banks.  In all, MOF has inspection authority for more
than 3,000 financial institutions. 


   MOF INSPECTIONS
---------------------------------------------------------- Chapter 3:2

MOF conducts an on-site inspection of the banks it supervises about
once every 2 to 3 years.  The average duration of inspections and the
size of inspection teams varies due to several factors, including the
size of the bank and its operational record.  Inspections of city
banks take about 6 weeks and involve about 10 inspectors.  For
regional banks, inspections last 4 to 5 weeks and typically require
five inspectors.  Inspections of shinkin banks, which are conducted
by one of MOF's regional bureaus, take about 2 weeks and involve four
to five inspectors.  Inspection teams are led by a chief inspector,
and team members are responsible for different components of the
inspection. 

MOF conducts two types of on-site inspections--comprehensive
inspections and inspections focusing on specific aspects of a bank's
operation, such as credit-risk or market-risk management. 
Comprehensive inspections, which are the most common type of
inspection, are unannounced.  Nonetheless, banking officials said the
timing of past visits tends to indicate when they are likely to
receive their next inspection.  Comprehensive inspections assess all
major elements of a bank's activities, including regulatory
compliance, assets and liabilities, profits and losses, general
business operations, and such physical items as cash on hand. 

As part of the inspection process, MOF inspectors check a bank's
overall risk management policies and procedures.  They also check the
bank's compliance with regulations related to financial soundness,
such as those dealing with its minimum capital ratio requirements and
large loan exposures to a single party.  MOF inspectors also review
the bank's compliance with other regulations, for instance, those
specific to the risk management of a particular business activity or
product. 

Prior to conducting a comprehensive inspection, MOF inspectors review
bank documents to help focus their on-site efforts.  Following this
review, they initiate the inspection, beginning with physical items,
at one branch or simultaneously at several branches.  Comprehensive
inspections, which usually involve verification of records, typically
involve inspectors inspecting cash, securities, notes, legal
documents, deposits, and loans.  At any time during the inspection,
MOF inspectors can request additional information. 

Inspectors classify assets according to their likelihood of
repayment.  Such classifications, combined with an analysis of the
bank's capital, indicate how deposited money is used and the extent
of credit risk present, according to MOF.  Assets are classified into
four categories:  (1) unmarked--when the loan is considered sound,
(2) substandard--when the loan carries above average risk, (3)
doubtful--when full payment is considered doubtful and some loss is
expected, and
(4) loss--when the loan is considered unrecoverable. 

During on-site inspections, inspectors select loans to ensure a
coverage ratio of at least 50 percent of a bank's entire loan
portfolio, according to MOF.  Standards call for the selection of
loans with large exposures over a certain amount, loans overdue
beyond a certain period, and loans to companies having financial
problems at the time of inspection.  MOF inspectors also conduct
financial analyses and interview bank management and key personnel to
better understand bank policies and other matters. 

Since 1987, MOF has used a rating system similar to the U.S.  CAMEL
rating system, which bases ratings on five factors:  capital, assets,
management, earnings, and liquidity.  In June 1996, MOF issued
guidelines for banks' risk management of market-related risks, which
are based on guidelines established by the Basle Committee. 


   BOJ EXAMINATIONS
---------------------------------------------------------- Chapter 3:3

BOJ examiners conduct on-site examinations of banks subject to the
agency's examinations about every 2 to 3 years, although the
frequency of examinations can vary depending on bank size, business
conditions, and MOF's inspection schedule.  BOJ examiners provide
approximately 2 months advance notice of an on-site examination and
typically request documents and other information in advance of their
visit.  Requested information commonly includes, for example, loan
and deposit balances for each branch, data on client bankruptcies,
and internal investment policies.  BOJ examiners request additional
information from banks with international operations on such matters
as the condition of foreign real estate loans and earnings from their
international banking activities. 

Since BOJ obtains bank information in advance of visits, its on-site
examinations generally require less time than do MOF inspections,
according to bank officials.  Examinations of city banks typically
take 3 to 4 weeks for one or two senior examiners, which BOJ calls
chief supervisors, and ten examiners.  In comparison, regional bank
examinations take 2 to 3 weeks for one or two chief supervisors and
four or five examiners.  For shinkin banks, comparable examinations
take 1 to 2 weeks for a chief supervisor and three examiners. 

As part of the examination process, BOJ examiners place their main
emphasis on checking a bank's overall risk management, including
policies and procedures.  Examiners use a check list for risk
management developed in 1987 and later completely revised in 1996 to
reflect the changing financial environment.  They also check the
bank's compliance with MOF regulations related to financial
soundness, such as those dealing with its minimum capital ratio
requirements and large loan exposures to a single party.  As for
other regulations, such as those on business area or product, BOJ
reviews them from a risk management viewpoint rather than from a
compliance perspective. 

BOJ's examination process has two key components:  (1) a
preexamination analysis and (2) fieldwork.  The initial
preexamination analysis is used to identify a bank's primary
activities and to focus on potential problem areas.  As part of this
analysis, examiners look at bank operations from a risk management
perspective, including lending, funding, internal controls, and
international activities.  During the fieldwork component, which
consists of the actual on-site examination, examiners meet with the
bank's senior executives to review policies and discuss problems. 
They assess asset quality by (1) evaluating individual loans, (2)
holding discussions with loan officers, and (3) reviewing the credit
files of borrowers and other related documents.  BOJ officials told
us that examiners typically evaluate about one-half of a bank's total
loans. 

BOJ selects bank loans for review by categorizing them into one of
three categories:  (1) insider loans, (2) marked loans, and (3) large
loans.\3 During the examination, loans are classified as to their
quality using procedures similar to those used for MOF's
classification. 

As part of their fieldwork at a typical bank's head office and
selected branches, BOJ examiners review the bank's daily operations
for reliability.  They review cash on hand, accounting books, and
other financial documents.  In addition, they assess the bank's
management of risk related to credit, interest rates, and foreign
exchange.  At the completion of this process, BOJ chief supervisors
give an overall evaluation to the bank management regarding the
bank's condition, as well as provide recommendations to improve risk
management. 

In addition to regular full-scope examinations, BOJ periodically
conducts special examinations of particular aspects of bank
operations.  A recent example is the special examination of Daiwa
Bank, which primarily involved investigating the case and
ascertaining risk-management deficiencies in the bank's New York
branch trading operations.  Another recent BOJ special examination
focused on the use of operational controls and the management of
market risk by the New York branches of leading Japanese banks. 

BOJ also conducts on-site examinations of securities firms that have
current accounts with it.  During these examinations, examiners check
such indicators of overall financial conditions as the firm's
risk-management policies and procedures, asset quality, and earnings. 
Such examinations, which take 2 or 3 weeks, are usually conducted
every 2 to 3 years by 1 or 2 chief examiners and 4 to 6 examiners. 
Securities subsidiaries of banks are often examined at the same time
the parent bank is examined. 


--------------------
\3 BOJ categorizes direct loans to directors and loans guaranteed by
directors as insider loans.  Loans with problem purposes and terms
and loans to borrowers in bankruptcy are categorized as marked loans. 
Consolidated loans higher than designated amounts are categorized as
large loans. 


   RESULTS ARE PROVIDED ORALLY AND
   IN WRITING BY MOF AND BOJ
---------------------------------------------------------- Chapter 3:4

When MOF and BOJ complete their inspection or examination, they meet
with senior bank officials to discuss their findings and
recommendations for improvement.  Both agencies regard these
individual discussions with bank management at the completion of
their work as an essential method for communicating inspection or
examination concerns. 

Typically, MOF's chief inspector meets with the bank's management to
discuss findings at the conclusion of an inspection.  This meeting is
an opportunity both for the chief inspector to express his opinions
informally and for the bank's management to provide comments. 
Following this, an official inspection report is prepared and
reviewed by senior MOF officials.  MOF then issues an official
conclusion in the form of a letter or an administrative order, which
is given to the bank along with a copy of the inspection report.  The
conclusion, when appropriate, identifies areas needing improvement
and provides guidance for the bank.  MOF sometimes requests an
improvement plan and periodic reports if the situation warrants such
follow-up actions. 

At BOJ, periodic, interim, and closing meetings are attended by both
examiners and senior bank management.  According to BOJ officials,
interim meetings are held to minimize later misunderstandings.  At
the closing meeting, BOJ examiners discuss examination results to
highlight identified problems and to provide recommendations and
supervisory guidance.  A written report is subsequently shared with
the bank's senior management. 


   OFF-SITE MONITORING BY MOF AND
   BOJ
---------------------------------------------------------- Chapter 3:5

MOF and BOJ independently conduct their own off-site monitoring,
which typically involves analyses of information about banks under
their jurisdictions.  Information is obtained through periodic
reports submitted by banks and frequent contacts with bank personnel
and management. 


      MINIMUM REPORTING
      REQUIREMENTS
-------------------------------------------------------- Chapter 3:5.1

Reports submitted by Japanese banks play a key part in MOF's and
BOJ's bank monitoring.  Under the 1981 Banking Law, each bank in
Japan is required to submit an interim banking report and an annual
banking report to MOF describing its business activities and
financial position.  Interim and annual reports are also submitted to
BOJ.  Both MOF and BOJ may also require additional information as
needed. 

Annual reports provide the most extensive information.  They are to
include certain detailed schedules on securities, loans, fixed
assets, commitments and underlying capital, total amount of domestic
and foreign drafts remitted and received, and total amount of foreign
currency bought and sold.  Interim reports, which are submitted on a
semiannual basis, provide less extensive information on a bank's
activities and financial position. 

In addition, banks must report certain information to MOF on a more
frequent basis that ranges from daily to quarterly.  Information on a
bank's trading activities, for example, is typically provided to MOF
monthly and quarterly, according to MOF officials.  BOJ also requires
each institution to file periodic financial reports.  For the most
part, MOF and BOJ do not require banks to file reports
electronically.  However, BOJ does gather computer-generated data
from banks on a monthly basis.  Currently, none of the information
gathered from routine reports or daily monitoring is accumulated in
an early warning system to identify banks that may be in trouble. 
However, MOF officials said MOF is developing a computerized system
that is to accumulate information from banks, which would serve as an
early warning system. 


      MEETINGS PROVIDE CRITICAL
      INFORMATION
-------------------------------------------------------- Chapter 3:5.2

MOF and BOJ officials told us they rely a great deal on frequent
contacts with bank personnel and management during which useful
information is exchanged.  During informal meetings, which are held
as needed, MOF and BOJ officials are able to provide guidance or
advice while staying abreast of developments at individual banks. 
Meeting topics can include, but are not limited to, bank liquidity,
overall business activities, new product development, and corrective
actions. 


   MOF AND BOJ SHARE MONITORING
   INFORMATION WHEN NECESSARY
---------------------------------------------------------- Chapter 3:6

Although MOF and BOJ at times share information informally on a
case-by-case basis, there is no legal or formal requirement for MOF
or BOJ to share supervisory information with each other.  In fact,
MOF's staff is bound by law to maintain confidentiality with respect
to information gained in the course of their duties or by virtue of
their position in the government.  On the other hand, BOJ's staff are
not bound by law to maintain confidentiality with respect to
information gained in the course of their duties.  While MOF's staff
are restricted from sharing information regularly with BOJ's staff,
MOF may disclose information in those cases in which circumstances
warrant such actions. 

As a result, on-site monitoring results ordinarily are not shared,
unless problems arise requiring joint action by MOF and BOJ.  BOJ
officials explained that its examination results are considered
proprietary, and that MOF respects this proviso. 

For serious problems requiring supervisory coordination, MOF
typically assumes responsibility for coordination and exchanges of
information, according to MOF and BOJ officials.  In addition, MOF
and BOJ officials told us they also communicate through daily
telephone calls and informal meetings. 


   LIMITED USE OF INDEPENDENT
   AUDITORS
---------------------------------------------------------- Chapter 3:7

Independent bank audits by CPAs have not historically played a major
role in the supervision of Japanese banks, according to MOF and BOJ
officials.  MOF and BOJ have not typically used internal audits by
statutory auditors.  However, use of independent external audits by
MOF appears likely to increase with the introduction of new
legislation to improve oversight of the banking system. 


      BANKS ARE AUDITED UNDER
      CORPORATE LAW BUT MOF AND
      BOJ DO NOT RELY ON THESE
      INDEPENDENT AUDITS
-------------------------------------------------------- Chapter 3:7.1

Japanese banks with capital stock totaling at least 500 million yen
($4.7 million), or with total liabilities of 20 billion yen ($188
million) or more, are required by Japan's Commercial Code to undergo
annual audits by an independent certified public accountant.  Such
audits must be undertaken prior to the bank's annual shareholders'
meeting, which is typically held within 3 months of the end of the
company's financial year. 

Prior to World War II, independent or external audits were not
required.  However, corporations offering securities to the public
became subject to mandatory annual audits by CPAs with passage of the
Securities and Exchange Law in 1948.  The new requirement grew out of
the postwar demand for business reforms and corporate disclosures and
in response to the introduction of foreign capital for postwar
economic development.  Subsequent amendments to the Commercial Code
in 1974 and 1981 extended the auditing requirement to other types of
corporations. 

Independent auditors are required to certify in their reports that

  -- the balance sheet and profit and loss statement fairly present
     the bank's financial position and the results of its operations;

  -- proposed uses of retained earnings and accounting matters in the
     business report are presented in conformance with applicable
     laws and articles of incorporation; and

  -- accounting supplementary schedules present correct data and are
     in accordance with provisions of the Commercial Code. 

In addition to significantly enhancing the CPA's role in the Japanese
corporate system, the revised Commercial Code also required every
bank to appoint statutory auditors.  Statutory auditors are
responsible for (1) auditing the bank's accounting records and (2)
monitoring the activities of its directors.  Japanese Institute of
Certified Public Accountants (JICPA) officials told us that statutory
auditors rely on the results of the audits performed by CPAs on a
bank's accounting records.  These audits and monitoring activities
must be completed prior to the annual general meeting of the
shareholders. 

Under the revised code, statutory auditors are considered "members"
of the bank, but they cannot be employees or directors of the bank or
its subsidiaries.  According to accounting officials, statutory
auditors, who receive salaries from the banks they audit, are often
retired bank employees or former bank managers.  The revised code
does not require statutory auditors to have specific qualifications,
and few are CPAs.  Several independent auditors said the independence
of statutory auditors is often compromised by their prior
relationship with the bank being audited and their lack of auditing
expertise. 

MOF and BOJ officials told us they do not rely on reports prepared by
independent or statutory auditors.  They said they depend instead on
their own contacts with banks and their own monitoring activities. 
Our discussions with the Japanese Institute of Certified Public
Accountants confirmed that CPAs have little contact with MOF or BOJ. 

As mentioned in chapter 2, legislative measures have been enacted
that are designed to strengthen the supervisory oversight of banks. 
One provision requires increased use of external audits to ensure
sound management of certain segments of the banking industry. 


BOJ AND MOF HAVE OTHER FINANCIAL
SYSTEM RESPONSIBILITIES; DIC
ADMINISTERS DEPOSIT PROTECTION
============================================================ Chapter 4

BOJ and MOF have other financial system responsibilities in addition
to their regulatory and/or safety and soundness responsibilities. 
BOJ is responsible for maintaining liquidity, serving as the lender
of last resort, and providing funds transfer service.  Both BOJ and
MOF share responsibility for managing financial crises and for
participating in international forums.  A special corporation--the
Deposit Insurance Corporation-- administers the insurance system that
protects deposits in Japanese banks. 


   LIQUIDITY PROVIDER
---------------------------------------------------------- Chapter 4:1

BOJ's statutory responsibilities for monetary policy are based on the
1942 Bank of Japan Law.  As the nation's central bank, BOJ influences
the nation's money supply and interest rates to maintain adequate
market liquidity, to help provide a basis for sustained economic
growth.  It also sets commercial bank reserve requirements and
participates directly in financial markets by buying and selling
securities and bills at market prices to influence the money supply
and money markets and to ensure the smooth functioning of the
financial system. 


   LENDER OF LAST RESORT
---------------------------------------------------------- Chapter 4:2

As lender of last resort, BOJ can provide liquidity when an
institution has severe difficulties in obtaining sufficient funds
from the market, and such liquidity is needed.  However, BOJ is
expected to exercise discretion in deciding whether to extend loans
to failing financial institutions.  In an October 1994 statement, the
Governor of BOJ stated that the central bank should only serve as
lender of last resort for those cases in which an institution's
liquidity shortage could threaten the stability of the entire
financial system.  According to BOJ officials, in certain rare cases
and with special approval, BOJ has provided liquidity without
eligible collateral.\1

According to BOJ officials, BOJ's function as lender of last resort
basically involves its providing liquidity to troubled financial
institutions or to the financial system, to prevent a systemic
crisis.  They explained that the following four conditions should be
met before it can carry out this function: 

  -- There is a strong likelihood that systemic risk will
     materialize;

  -- Central bank financial support must be indispensable for the
     successful disposal of a failed financial institution;

  -- All parties responsible for the institution's problems must be
     penalized so as to avoid the emergence of moral hazard; and

  -- The financial soundness of the central bank must be maintained. 


--------------------
\1 The Bank of Japan Law allows the BOJ to make loans against
collateral in the form of bills or notes, government bonds and
obligations, and other negotiable securities, gold and silver
bullion, or merchandise.  These are considered "eligible" collateral. 


   PAYMENTS CLEARANCE
---------------------------------------------------------- Chapter 4:3

BOJ also plays a key role in clearing payments.  The main payment
system in Japan is the bill and check clearing and domestic funds
transfer system, which is operated by private institutions.  Local
bankers associations operate the check clearinghouses and the Zengin
data telecommunication system, which form the core of the domestic
funds transfer system.  BOJ cooperates with these institutions and
plays a key role in the payments and settlements process by issuing
bank notes and transferring funds among account holders.  Banks can
draw checks on BOJ or issue transfer instructions to it. 

In late 1988, BOJ launched a network for on-line settlements of
payments called the Bank of Japan financial network system.  The
network, which links BOJ with hundreds of private financial
institutions, provides an electronic infrastructure for operations,
including funds transfer and government securities transfers.  As of
March 1996, BOJ data show 420 institutions had used the network for
funds transfer, 266 had used it for yen settlements of foreign
exchange transactions, and 432 had used it to transfer Japanese
government securities. 


   PARTICIPATION IN INTERNATIONAL
   ORGANIZATIONS
---------------------------------------------------------- Chapter 4:4

BOJ and MOF participate in the activities of numerous international
organizations, including those of the Group of Seven,\2 whose
meetings they regularly attend.  In addition, both attend Group of
Ten\3 meetings, such as the group's governor's meetings, which
primarily focus on macroeconomic and monetary policy issues.  BOJ
also participates in such international organizations as the Bank for
International Settlements and the International Monetary Fund.  As a
shareholder member, BOJ sits on all Bank for International
Settlements institutional committees, according to a BOJ official. 
As Japan's central bank, BOJ also cooperates and coordinates closely
with other central banks on such issues as intervention in foreign
exchange markets with the aim of achieving currency stability. 

MOF and BOJ also participate in activities of the Basle Committee on
Banking Supervision, as well as those of the International Monetary
Fund and the Organization for Economic Cooperation and Development. 
In addition, MOF's securities supervisors attend meetings of the
International Organization of Securities Commissions. 


--------------------
\2 The Group of Seven is a group of major industrial countries whose
finance ministers and central bank governors meet occasionally.  The
seven countries are the United States, the United Kingdom, Germany,
Japan, Canada, France, and Italy. 

\3 The Group of Ten is a group of major industrial countries whose
representatives meet to discuss issues of mutual concern. 
Participating countries include Germany, Belgium, Canada, the United
States, France, the United Kingdom, Italy, Japan, the Netherlands,
Sweden, and Switzerland. 


   CRISIS MANAGEMENT AND
   RESOLUTION OF TROUBLED
   INSTITUTIONS
---------------------------------------------------------- Chapter 4:5

MOF and BOJ work closely together to assist troubled institutions to
establish policies and provide a plan for resolving crises.  They
told us that once the two agree on an overall resolution plan, BOJ
typically manages cash transactions and provides liquidity when
necessary. 

According to the Bank of Japan Law, BOJ may, with approval from MOF,
conduct such activities other than its normal business as are
necessary for the maintenance and fostering of the credit system. 
According to MOF officials, this should also include BOJ making loans
to troubled institutions without eligible collateral.  Close
cooperation and coordination between the two agencies has resulted in
MOF supporting all of BOJ's past decisions, according to MOF
officials. 

Although prefectural governments supervise credit cooperatives, MOF
and BOJ can step in to resolve crises affecting troubled credit
cooperatives.  According to a MOF official, MOF and BOJ recently
formulated a resolution plan to prevent a financial crisis involving
the Cosmo and Kizu credit cooperatives.  BOJ also provided needed
liquidity to the two institutions. 


   DEPOSIT INSURANCE IS
   ADMINISTERED BY DIC
---------------------------------------------------------- Chapter 4:6

The Deposit Insurance Corporation of Japan (DIC) was established as a
special corporation in 1971 to protect depositors and maintain the
stability of the financial system.  DIC serves these purposes by
insuring individual depositors for up to 10 million yen ($93,800) and
by providing financial assistance to facilitate the merger or
acquisition of failing financial institutions.  DIC is supervised by
MOF. 

Institutions required to be insured include banks (city banks,
regional banks, trust banks, long-term credit banks, foreign exchange
banks), shinkin banks, credit cooperatives, and labor banks. 
Agricultural cooperatives, fishery cooperatives, and fishery
production cooperatives, due to their special characteristics, are
not required to be insured by DIC.  Depositors at these institutions
are instead protected under a separate system administered by the
Savings Insurance Corporation,\4 established in September 1973. 

The principal functions of DIC include the collection of insurance
premiums, payment of insurance claims and advance payments, execution
of financial assistance, purchase of assets from failing or failed
financial institutions, and management of funds.  DIC is headed by a
management committee consisting of up to eight members and the
corporation's governor and three executive directors.  By law, the
governor is appointed by the Finance Minister.  The governor appoints
the executive directors and committee members, after obtaining
approval from MOF. 

DIC's administration is handled by its secretariat and the Special
Operations Department.  The latter was established by the June 1996
amendment to DIC law.  In September 1995, DIC secretariat had a staff
of 15 employees, but recent legislation substantially increased its
staff.  As needed, some administrative functions can be delegated to
BOJ or to private financial institutions with MOF's approval.  In
emergencies, for example, these institutions may be asked to provide
staff and other assistance for the processing of claims. 

DIC insures member institutions\5 through premiums levied on their
insured deposits.  The premium rate, which is determined by the
management committee, requires MOF approval.  Before April 1996,
member premiums were set at 0.012 percent of insured deposits.  In
order to build up the deposit insurance fund in preparation for
potential future insolvencies, the premium was raised four-fold to
0.048 percent.  Furthermore, based on revision in the Deposit
Insurance Act, a special premium of 0.036 percent, which is to be
paid into the Special Account\6 of DIC, will be assessed for 5 years. 
Member institutions are required to make half of the annual insurance
payments within 3 months and the rest within 9 months of the
beginning of the business year. 

In 1995, the insurance premiums and other revenues that accumulated
in the deposit insurance fund represented a small proportion of
insured deposits in Japanese banks.  As of March 31, 1995, according
to DIC, the fund totaled 876 billion yen ($8.23 billion).  The value
of insured deposits on that date totaled 555.7 trillion yen ($5.2
trillion), which represented 78.2 percent of total deposits in
Japanese financial institutions.  At March 1995 funding levels, the
deposit insurance fund reserves constituted less than 0.16 percent of
insured deposits. 

Financial assistance to a failing institution, which must be approved
by MOF, may be provided through grants, loans, deposits, purchase of
assets, guarantee of liabilities, or acceptance of liabilities.  As
of March 1996, the total cost of disposal during the past 4 years
amounted to between 2 trillion yen ($19 billion) to $2.5 trillion yen
($24 billion).  The deposit insurance fund totaled about 387 billion
yen ($3.63 billion) as of March 31, 1996.  However, the premium
increases required by the June 1996 legislation are expected to raise
approximately 2.3 trillion yen ($22 billion) over the next 5 years,
according to Japanese officials. 


--------------------
\4 Government-related financial institutions and Japanese branches of
foreign banks are not covered by either DIC or the Savings Insurance
Corporation. 

\5 As of Mar.  31, 1995, according to DIC, 1,009 financial
institutions, including 167 banks, were insured by DIC. 

\6 As a temporary measure for the next 5 years, a Special Account was
established within DIC.  With this account, the corporation is
authorized to accord financial assistance up to the full amount of
loss incurred by a failed institution; the amount of financial
assistance has thus far been limited to the equivalent of pay-off
cost. 


PRINCIPAL JAPANESE FINANCIAL
INSTITUTIONS
=========================================================== Appendix I

The highly segmented Japanese banking structure consists of private
sector institutions, government institutions, and a central bank. 
Banks specialize in different areas, such as short-term finance,
long-term finance, finance for small- to medium-sized companies,
trust activities, and foreign exchange.  The nation's financial
sector also includes other types of depository and nondepository
institutions, such as insurance companies, as shown in table I.1. 

   Figure I.1:  Principal Japanese
   Financial Institutions, (as of
   April 1996)

   (See figure in printed
   edition.)

\a These cooperatives at the prefectural level provide deposit and
lending services to about 2,500 local agricultural cooperatives. 

\b These cooperatives at the prefectural level provide deposit and
lending services to about 1,500 local fishery cooperatives. 

Source:  MOF and Zenginkyo. 


   ORDINARY BANKS
--------------------------------------------------------- Appendix I:1

Ordinary banks, which are established in accordance with the 1981
Banking Law, are licensed by MOF.  There are three types of ordinary
domestic banks--city banks, regional banks, and regional banks II. 
Branches of foreign-owned banks are also classified as ordinary
banks.  Ordinary banks focus on short-term finance with an emphasis
on deposits, lending, and funds transfer.  They also handle medium-
and long-term financial transactions with corporations and
individual, as well as domestic and international finance. 

In addition to conducting primary banking business, ordinary banks
may engage in certain securities activities with restrictions, such
as commercial paper underwriting, foreign exchange and trade
financing, and international securities activities.  Additional
activities ordinary banks may engage in through their affiliates
include leasing, consumer finance, and investment advisory services. 
While banks are permitted to maintain equity investments in
affiliates, they are prohibited from jointly managing such
businesses. 


   CITY BANKS
--------------------------------------------------------- Appendix I:2

Japan's 10 city banks\1 maintain their main offices in major cities,
and their branches are located throughout the country.  Although
these banks emphasize wholesale business, their branches have also
made them competitive at the retail level.  They are active in the
securities business and international operations.  All city banks are
licensed as foreign exchange banks and may conduct transactions in
foreign exchange markets. 

One-half of Japanese city banks' deposits are from large corporate
accounts.  Loans to large corporations, which make up one-third of
city bank assets, usually are short-term loans.  The remaining loans
are to small- and medium-sized enterprises and individuals. 


--------------------
\1 The 10 city banks are Asahi Bank, Bank of Tokyo, Dai-Ichi Kangyo
Bank, Daiwa Bank, Fuji Bank, Hokkaido Takushoku Bank, Mitsubishi
Bank, Sakura Bank, Sanwa Bank, Sumitomo Bank, Tokai Bank.  and the
merged Mitsubishi Bank and the Bank of Tokyo. 


   REGIONAL BANKS
--------------------------------------------------------- Appendix I:3

Regional banks in Japan are categorized as regional banks and
regional banks II.  As of March 1995, there were 64 regional banks
and 65 regional banks II.  Both types of banks conduct most of their
operations within their own prefectures. 

Regional banks are located in the main cities of prefectures, where
they maintain strong local ties to the community.  They lend
primarily to small- and medium-sized businesses, and more than half
of their deposits come from individual account holders.  Regional
banks II also serve smaller companies and individual account holders
in their regions, but they generally have a smaller asset base than
that of regional banks. 


      FOREIGN-OWNED BANK BRANCHES
------------------------------------------------------- Appendix I:3.1

There were 93 foreign-owned bank branches operating in Japan as of
March 31, 1996, of which 16 were owned by U.S.  concerns.  These
branches, which account for about 2 percent of industry assets,
emphasize off-balance-sheet trading, particularly in the derivatives
market.  Foreign-owned bank branches conducting banking business in
Japan legally qualify as banks subject to Japan's Banking Law.  They
may establish bank subsidiaries, bank branches, and representative
offices in Japan.  Representative offices, which cannot conduct
regular banking business, primarily serve as liaisons with their home
offices.  Foreign-owned bank branches and subsidiaries are licensed
by MOF, and they function like those of city and regional banks. 


   LONG-TERM FINANCIAL
   INSTITUTIONS
--------------------------------------------------------- Appendix I:4

Historically, the Japanese government established long-term financial
institutions to provide long-term funding for agriculture and other
industries.  Until recently, they were the only financial
institutions permitted to raise long-term funds.  However, under
banking industry deregulation, ordinary banks have captured a share
of the long-term lending market, and the historic differences between
ordinary and long-term financial institutions have become less
pronounced. 


      LONG-TERM CREDIT BANKS
------------------------------------------------------- Appendix I:4.1

Long-term credit banks were established by the 1952 Long-Term Credit
Bank Law to facilitate rapid industrial recovery in Japan.  Japan's
three long-term credit banks share exclusive rights to issue bank
debentures with up to 5-year maturities.  Since October 1993,
however, ordinary banks have been able to issue medium-term time
deposits with up to 4-year maturities.  Long-term credit banks
concentrate on providing long-term loans to industrial clients for
plant and equipment, and long-term working capital. 


      TRUST BANKS
------------------------------------------------------- Appendix I:4.2

Trust banks, which are long-term specialized banks licensed to
conduct both banking and trust activities, are granted additional
operational latitude under the 1943 Concurrent Trust Business Law. 
They receive a majority of their funds from trusts, and they supply
funds to major corporations.  Trust banks receive and manage funds on
behalf of their clients.  Their funding sources include pooled
individual and corporate deposits in money trusts, pension trusts,
loan trusts, and securities investment trusts. 


   FINANCIAL INSTITUTIONS FOR
   SMALL BUSINESS
--------------------------------------------------------- Appendix I:5

Financial institutions for small business are basically cooperatives
that serve the financial needs of small- and medium-sized businesses,
labor unions, consumer cooperatives, and other labor bodies.  Also
included in this group are three central bodies that take deposits,
provide loans, and meet other financial needs of their cooperative
members.  One such institution, the Zenshinren Bank, serves shinkin
banks.  The Shinkin Federation Bank similarly serves credit
cooperatives, and a third institution, the Rokinren Bank, serves
labor banks. 


      SHINKIN BANKS
------------------------------------------------------- Appendix I:5.1

Shinkin banks are nonprofit cooperatives with strong local community
ties that operate in accordance with the 1951 Shinkin Bank Law and
its 1981 revision.  Their target customers are small- and
medium-sized enterprises and the general public.  They accept
deposits and installment savings from members and nonmembers, advance
loans to members, discount bills for members, transfer funds, and
conduct foreign exchange operations.  They may also conduct some
ancillary operations, such as the placement of securities and trust
services involving land and charities.  Each shinkin bank is a member
of the Zenshinren Bank, the national federation of shinkin banks. 
The Zenshinren Bank, which exists primarily to serve as a central
bank for shinkin banks, engages in deposit-taking, lending, and funds
transfer for its members, but it conducts ancillary business
including securities-related activities and also acts as an agent for
public financial institutions. 


      CREDIT COOPERATIVES
------------------------------------------------------- Appendix I:5.2

Credit cooperatives provide their small- and medium-sized member
enterprises and their employees with such services as deposit
accounts, installment savings, and loans.  Such cooperatives, which
are subject to ceilings on the credit they provide to any single
member, may also lend to local government bodies.  Their
authorization is granted by the local governor if their activities
remain within prefectural boundaries.  If their activities extend
beyond these boundaries, they must obtain MOF permission to operate. 
Supervisory responsibility for credit cooperatives resides at the
local government level rather than directly with MOF or BOJ.  The
central bank for credit cooperatives is the Shinkin Federation Bank,
whose primary business is deposit accounts for members, national and
local government bodies, and nonprofit organizations.  In addition,
the federation lends to its members and nonmembers. 


   FINANCIAL INSTITUTIONS FOR
   AGRICULTURE, FORESTRY, AND
   FISHERIES
--------------------------------------------------------- Appendix I:6

Serving local agriculture, forestry, and fisheries enterprises are
private, cooperative-based, financial institutions that operate on
three levels.  At the lowest level are cooperatives operating at the
village, town, and city levels of government.  At the middle level,
these cooperatives in turn are members of 47 prefectural-level
associations called credit federations that serve clients within
their own prefectures.  At the top level is the Norinchukin Bank,
which serves in several respects as the central bank for agriculture,
forestry, and fisheries enterprises.  Supervisory responsibility for
the lowest level institutions is handled by local governments, while
the Norinchukin and the prefectural level associations are supervised
by the Ministry of Agriculture, Forestry, and Fishery and the
Ministry of Finance. 


   PUBLIC FINANCIAL INSTITUTIONS
--------------------------------------------------------- Appendix I:7

Loans by public institutions are primarily designed to supplement
private-sector financing.  Public institutions, which are prohibited
from competing with private banks, borrow funds for permitted loans
from the government's Trust Fund Bureau.  Public corporations serve
the financial needs of specific sectors of the Japanese economy.  For
example, public corporations may finance special sectors of the
Japanese economy, such as housing, agriculture, fisheries, small
business, and environmental sanitation. 

Japan's two government banks are the Japan Development Bank and the
Export-Import Bank of Japan.  The purpose of the Japan Development
Bank is to supplement and encourage the credit operations of private
financial institutions.  The Export-Import Bank of Japan serves to
supplement and encourage financing of exports, imports, and overseas
investments provided by other financial institutions. 


      POSTAL SAVINGS SYSTEM
------------------------------------------------------- Appendix I:7.1

Another government financial institution is the Japanese postal
savings system.  Although the system is not a bank, the magnitude of
its financial resources gives it important financial significance in
Japan.  As of May 1995, the system held more than 200 trillion yen
($1.88 trillion),\2 making it the world's largest financial
institution.  The postal savings system was originally created to
promote small-volume personal savings to the general public.  It
offers such services as ordinary deposits, time deposits, installment
deposits, and deposit-based loans.  The system, which operates out of
24,000 Japanese post offices throughout the country, accepts deposits
from individuals of up to 10 million yen ($93,800). 

Over the years, the postal savings system has gradually expanded its
services beyond demand deposits.  For example, the system now offers
automatic payment of bills for public utilities and similar services. 
The system's expanded services have led to heightened competition
with private financial institutions.  As a result, some Japanese
banking industry officials increasingly believe that the postal
savings system has outgrown its original purpose, and that a thorough
review of its operations is needed. 

The system's deposits are a major source of funds for the
government's fiscal investment and loan activities, which are
administered by the Trust Fund Bureau through the Fiscal Investment
and Loan Program.  This program is a trust fund for special accounts,
government-affiliated financial institutions, public corporations,
local governments, and special companies. 


--------------------
\2 Exchange rate of 106.61 yen per U.S.  dollar, as of Apr.  25,
1996. 


MAJOR CONTRIBUTORS TO THIS REPORT
========================================================== Appendix II


   GENERAL GOVERNMENT DIVISION,
   WASHINGTON, D.C. 
-------------------------------------------------------- Appendix II:1

Thomas J.  McCool, Associate Director
Hazel J.  Bailey, Writer-Editor


   SAN FRANCISCO-SEATTLE FIELD
   OFFICE
-------------------------------------------------------- Appendix II:2

RoJeanne W.  Liu, Evaluator-in-Charge
Gerhard C.  Brostrom, Communications Analyst
Linda Chu, Evaluator

*** End of document. ***