1. Elements of the Market's Structure
a. The Dominance o f the Big Four
The four largest brokerage houses in the world are Japanese. Nomura, Daiwa, Nikko, and Yamaichi are labeled the "Big Four" (yondai shdkeri). Between them they carry out 40.1% o f all stock transactions on Japanese exchanges in 1991.62 For bond transactions the corresponding figure reached as high as 71.9%. Their actual influence is much greater, however, because they control many o f the small and medium-sized securities firms. For instance, through its affiliated companies Normura's own share in all stock transactions at the TSE was 20%.63
Through their market power these brokerage houses are able to influence prices. When stocks are issued the underwriters are chosen based on their ability to sway prices, which results in the Big Four issuing 80% o f all stocks. Such manipulation of stock prices is o f course illegal in Japan;
however, it is tolerated as long as it stays within certain bounds.64
Zielinski/Holloway 1991, p. 117. Nevertheless, a tendency towards making disclosure requirments more comprehensive persists. For instance, since April, 1990 corporations have for the first time ever been required to report unrealized capital losses from their securities holdings whenever the latter exceed 10% of the net wealth or make up 30% of profits. However, the real aim of this regulation was to restrict zaiteku.
(For discussion of the zaiteku see also Chapter IV.2.d.) 62 Tökyö Shöken Torihikijo Chösabu 1991a, p. 276 63 Alletzhauser 1990, p.144.
64 For instance, the Finance Ministry prohibits the emission of stocks when the price of shares in the corporation emitting them has unaccountably risen more than 30% within the preceeding six weeks.
The importance o f the Big Four is reinforced by their substantial influence on the media and thereby on investors. Accordingly, every day at 7:30 am, following the morning meeting o f its top directors, Nomoura informs the financial press of its investment strategy for that day. In addition, the Big Four are shareholders in the financial newspapers most relied on by investors.
Beyond this, they constitute these papers' most important advertising clients. Each of these factors contribute significantly to the influence that the Big Four have on other investors. In this regard Matsumoto comments that "in the p a s t as much as 90% o f Japanese institutions followed the advice o f securities firms, now about 60% continue to do so..."65
The government tolerates the exercise o f such market power by this oligopoly because it insures that the market will behave according to the wishes o f the Ministry o f Finance.66 As well, the Big Four carry out transactions on their own account to keep the market active - which, because of scarce liquidity resulting from firms' cross-shareholdings, it otherwise might not be.67 68
It seems also worthy o f note that Nomura seldom recommends that a stock be sold, because "To say 'Sell' is to blaspheme a company in the eyes o f the Japanese."69, This posture tends to work against sharp price drops.
b. The Role o f the Ministry o f Finance
The Ministry o f Finance is by far the most influential governmental agency in Japan.69 Because Japanese laws are usually written vaguely to insure that they are kept on the books for long periods, they are supplemented by decrees (tsütatsu) and edicts (shörei). Informal directives (gyosei shido, window guidance), for which Japan is known, constitute an important policy tool of the Ministry o f Finance.70 It is worth mentioning that the Ministry o f Finance often issues many of these gyosei shido only over the phone.
65 Matsumoto 1989, p.162.
66 Thus, Nomura is still today described as the "Finance Ministry's Nihonbashi Office" (Nomura's main administrative offices are located in the Nihonbashi section of town). Nikkei Weekly from July 13,1991, p. 15
67 This concern for keeping trading active is also motivated by self-interest since revenues from trading commissions are thereby increased.
68 Alletzhauser 1990, p.8.
69 An additional sign of the power of the Ministry of Finance is the seating order in Parlement: the Finance Minister sits alone next to the Prime Minister.
70 It is interesting to note that through the gyosei shido subsidies, at least as we know them in Europe and the United States, are made superfluous. If the government thinks that a reduction in capacity in particular branches is absolutely necessary, it has only to issue the appropriate instructions. The concerned industry branches will, based on the power of the administrative apparatus, behave according to the government's
This influence is used to shape the stock market to accomodate the government's goals for economic growth. Accordingly, when the financial system was divided into banking and securities branches, care was taken to ensure that there were a few big firms with large market shares in each particular market, so that the Ministry o f Finance would have available a suitable contact.71 An additional element o f the government's growth orientation is the system o f fixed interest rates, which provides Japanese industrial firms with capital at modest cost. The Bank of Japan regulates, via the gydsei shidd, the volume of credit dispensed by commercial banks.
In order that enough funds can be made available for investment, individual savings were encouraged through tax-free accounts. Cases of apparent tax fraud which arose in connection with these accounts were for many years tolerated by the government.72 The overall structure of the market also corresponds to the government's priorities in that there is no large group of shareholders who can demand that the government's long-term growth targets be sacrificed to short-term profit considerations.
The power o f the Ministry o f Finance was forcefully demonstrated when, in the wake o f the M arket Crash of October, 1987, then-Minister Matsukata saw to it that a concerted action by the large brokerage houses slowed the price fall. The potential influence of the Ministry of Finance increased. He additionally left no doubt that he was prepared to take even stronger measures.
However, the Ministry o f Finance also has good reason to favor high stock prices. During the Crash of 1987 Finance Minister Matsukata had to bolster investor's confidence because a second large issuance of NTT-stocks was to be brought on the market in November.74 Because privatization in Japan is still ongoing, the Ministry of Finance remains desirous o f high stock prices. Indeed, the goverment is the largest issuer of bonds on the Japanese market.
The Ministry of Finance influences stock prices with the help o f the Big Four brokerage houses, to whom it also provides generous support. They are protected from competition by banks and foreign securities firms, and are allowed to profit from the system of fixed commissions. The
wishes. An example is provided by the shipyard industry, which reduced its capacity by 40% from 1976 to 1978. Abegglen/Stalk 1987, p.22.
The magnitude of the Ministry of Finance's success in this regard can be seen in the reduction in the number of brokers from 1127 to 272, between 1949 to 1990.
72 See Chapter IV.l.c.: Savings Behavior of the Individual Investor.
73 Tökyö Shöken Torihikijö Chösabu 1991b, p. 87.
74 The Japanese Government began privatizing shares in NTT in 1987.
Ministry o f Finance often ignores manipulation of the latter and keeps capital-gains taxes as low as possible. The Ministry o f Finance's support o f the securities firms became evident when, after the collapse o f Yamaichi in May, 1965, the Ministry of Finance secured over the Bank of Japan a loan o f 28 billion Yen to enable Yamaichi to avoid bankruptcy. It is easy to infer that such supportive measures left a strong impression on investors, who could thus be sure that the government would intervene to support the exchange in crisis situations.
c. Savings Behavior of the Individual Investor
The foundation o f Japanese financial power is the savings propensity o f the population. One could go further to claim that this savings propensity is a conscious objective o f the government.
The government exerted influence over savings behavior not only through setting interest rates and taxes, but also through control over alternative investments. There were no consumption- or mortgage-loans; as a rule the private investor could not buy bonds because they were traded in prohibitively large amounts.75
It is often maintained that, after securities markets became attractive for small investors upon the issuance of NTT-stocks in February, 1987, savings behavior in Japan has had a large influence on the stock market. The market's attraction would be further enhanced by extremely sharp-rising stock real estate prices.76 The dissolution o f the maruyu-accounts, which made available a large volume o f capital, is also attributed such a role (as described in Chapter III, Section 3). However, the influence o f the large number of savers on the stock market cannot be significant, because as was mentioned above stocks are only traded in big bundles (with a nominal value o f 50,000 Yen).
The average price o f a stock with a nominal value of 50 Yen was in 1990 1586.7 Yen.
Consequently, it is necessary to pay 1.6 million Yen for a tradable bundle o f stocks, which corresponds to 5 times the average Japanese monthly salary.77
Also for this reason the number o f individual investors holding shares (measured in number of shares) has not risen since 1987 as expected, but has fallen steadily from 25.2% in 1986 to 22.4%
in 1989.78
It should be noted that in the beginning there was no secondary market for bonds.
76 The price of real estate rose 2.5 times during the period of one year.
77 Sömuchö Tökeikyoku 1990, p. 92f.
78 Tökyö Shöken Torihikijo Chösabu 1991b, p. 94.
Figure 8: Breakdown of Individuals' Financial Assets, 1989
I n v e s tm e n t- T r u s ts ( 5 , 5 x 2 )—\ / - C u r r e n c y + D em an d D e p o sits ( 9 , 652)
Insurances (1 9 , 052)
S to c k s ( 1 3 , 8 % )
B o n d s ( 4 , 352)
Time + Saving Deposits (4 7 , 852)
Source: Tökyö Shöken Torihikijo Chösabu (1991 b), p. 82
Stocks make up only 13.8% of individual investors' portfolios (in comparison, this share in Germany and the United States is 2.8% and 22.5%, respectively), while savings constitute 47.8%.79
The high savings rate in Japan - in tandem with interest rates kept low by the government - has an indirect influence on stock prices in that the two factors must be considered important forces behind the economic expansion of Japanese industry.
2. Elements o f Enterprise Structure
a. Interlocking Firm Shareholdings
As was mentioned above, firms hold 72.8% o f all stocks. By far the largest part o f these are held for strategic reasons and not as portfolio investments. These holdings are often of a reciprocal nature, by which is meant that the parties holding each others' stocks also conduct business with each other. The pattern o f these shareholdings often reflects the actual flow of goods and services. These firms also consider returns from these investments, but in a longer-term and broader sense than for short-term portfolio profits.
Interlocking firm investments contribute, firstly, to mutual confidence among business partners and thus to good business relations. A second function of these shareholdings became apparent in the 1950s1, when Japanese firms used them to protect themselves against takeover attempts by
79 Tökyö Shöken Torihikijo Chösabu 1991b, p. 82.
foreign investors.80 When Japan's entry into the OECD in 1964 brought with it liberalization of capital flows which would in principle have allowed foreign takeovers, these reciprocal shareholdings were increased as a defensive measure. These shareholdings in any one firm are rarely greater than 5%, reflecting the advantages to a firm from knowing that many small-sized holdings are in friendly hands. In this way no one investor is able to exert decisive influence.
Management is thus able to secure its control over the firm: the voting rights o f these "quiet"
shareholders are exercised based on firm reciprocity, and thus always correspond to the interests of firm management.
To prevent growth in the influence o f outside investors when new stock is issued, allied firms usually buy all of the new capital to which they are entitled. Their willingness to do so stems from their knowledge that other firms will act likewise when they themselves raise new capital.
It should be kept in mind here that such mutual capital purchases result only in changes in balance sheet entries between allied firms. In the final analysis this increases firm-capital and share ownership, without costing firms anything. Futatsugi is critical of this process, because this form of increasing firm book-value does not, in extreme cases, provide any liquidity to firms.81
However, this objection does not appear valid. Rising share prices generate quiet reserves82 from which firms benefit both by their positive impact on firm value and by their availablity for sale in times o f crisis.83
The practice o f interlocking shareholdings also has a direct influence on the individual investor.
These are disadvataged to the extent that - in contrast to firms - they must pay for shareholders' rights.84
Futatsugi shows that the stock dividends that individuals receive are in fact reduced by these reciprocal shareholdings. For the same profit and pay-out rate the share o f individual investors' holdings o f stock - and thus o f dividend payments - is much smaller.85
Interlocking shareholdings have a direct influence on stock prices because they drastically reduce the amount o f tradable shares.86 This restriction o f supply means that stock prices may rise
80 The most spectacular case occured when Fujizuna Kunirö tried to gain control over Yowa Real Estate, a subsidiary of the Mitshubishi Group which owned all the real estate property of the Mitsubishi Group in Tokyo. Alletzhauser 1990, p. 121.)
Futatsugi 1986, p. 100.
82 Losses from price declines are extremely rare, as the largest part of of these holdings were acquired before 1970 at nominal value.
82 For example, firms compensated for losses that occured in the wake of the first oil crisis by selling bundles of these stocks. It is noteworthy here that these discarded shares were repurchased by firms once conditions improved.
84 Under share-holders' rights are understood the right to vote and the right to receive dividends.
85 Futatsugi 1986, p. 101.
quickly and sharply. However, these reciprocal shareholdings are not in themselves price- supports. The stable shareholders, while price-indifferent and thus unwilling to sell during a price fall, will also not buy.
b. The Financial Behavior of Firms
Up until the 1980s' borrowed capital was the most important source o f capital for Japanese firms.
Based on a provisional law in 1948 regulating interest rates, these were not freely determined by supply and demand. Rather, the volume o f credit and the interest rate structure were set by the Bank o f Japan. Interest rates were kept extremely low by a government policy that favored economic growth. From the 1970s' to the 1980s' interest rates for long-term loans in Japan were approximately 5%, in contrast to the 10% interest rates that American firms had to pay. The high degree o f debt which Japanese firms took on in the past cannot be interpreted as overly risky, because these loans came at that time from the firm's "House Bank", which would fully support the firm in times o f crisis.87 As a "service in return" for this insurance the firms hold deposits at their House Bank which pay only very low rates o f interest.
Up until the 1970s' stocks were issued at their nominal value, which posed a disincentive for firms to acquire capital on the stock exchange. In spite of this, firms did acquire money via the stock market: bank credits were made in amounts limited by a firm's issued share capital. At the beginning o f the 1970s' stock issues were offered at prevailing market prices, which made raising equity capital much more attractive in that firms were thereby required to offer few shares to obtain the same amount o f capital. To this was added lower dividend payments, since the value of such payments is a function o f the stock's nominal value.88
During the recession that followed the first oil crisis and the suspension o f the Bretton Woods system, government expenditures were raised to stabilize economic activity. The Bank of Japan responded to the danger of higher inflation which this policy brought by sharply raising interest rates. This classic "Crowding-Out" phenomenon led to an increased firm tendency to raise capital by issuing equity. Figure 9 shows how the share of equity capital in total firm capital has steadily risen over time.89
Less than 20% of the shares in one-half of the corporations listed in the first section of the TSE were tradable in 1988.
This continues to apply today.
This development took place against the opposition of the banks, who were fearful of losing market share in corporate finance. A compromise was reached, whereby 20% of premiums had to be redistributed in the form of free stocks or dividends to share-holders. Tabuchi 1988, p. 151.
The discount rate rose within nine months in 1973 from 4.25% to 9%. Nihon Ginkö Chösa Tökei Kyoku 1991, p.75.
Figure 9: Share o f Equity Capital in Total Capital for Japan and Germany
Japan Germany
Source: Okurashö (1990 a) p. 11 (All Manufacturing Companies), Deutsche Bundesbank
As can be clearly seen, since 1975 equity capital has taken the place o f borrowed capital in Japan, while in Germany over the entire period the reverse development can be mapped out. The increasing incidence o f Leveraged-Buy-Outs makes this latter trend even more pronounced in the United States.
If the market price o f a stock was until this turn-about irrelevant, it then became extremely important since it is basically the main determinant o f the cost o f equity capital. The higher are stock prices, the more attractive is raising capital on the exchange because capital costs in Japan consist solely of (very low) dividend payments.90
An advantageous avenue for firms to obtain high market prices for their stocks is for them to distribute shares to stable stock-holders who find themselves in the same position. As a consequence, in 1989 the cost o f raising capital was only 0.4% o f the total value issued. Trading convertible bonds for Swiss Franks could under certain circumstances lower the cost o f capital to zero. In this way the Japanese economy was able almost costlessly to supply its needs for new
The minimum dividend paid on stock in Japan is 10% of nominal share value. A corporation is not allowed to issue further stock if this is not met. Usually dividends do not significantly exceed this minimum level.
One the one hand, corporations have no interest in paying out dividends; on the other hand, stock-holders do not have the power or the will ( see chapter IV.2.a.: Interlocking Finn Shareholdings) to coerce them from corportions. In addition, tax regulations are such that in comparison with returns on capital, dividends are not very desirable for investors.
capital.91 Such low capital costs allowed Japanese firms to take a long-term perspective, which is often advanced as a factor o f their economic success.
c. Firms' Dividend Policies
As a rule it is assumed that the amount of dividend paid has a positive influence on the price of a firm's stock. In Japan this is not so clear. There is a ceiling for dividend payments set at approximately 10 to 15% o f the stock's nominal value. The average dividend paid on stocks in the first section of the TSE in 1990 was 7.5 Yen (about 5 Cents!). Accordingly, the average return on stock holdings in 1990 was only 0.49%.92 The average share o f dividends in total profits was 31.7%,93 which should not be taken as evidence that a large part o f profits are paid out to stock-holders, but rather that distributed profits are artificially kept low. In this vein, firms paying out a large share o f profits are criticized as investing too little in the future and enriching themselves at the cost of customers and suppliers. As a result, a large part o f profits remain with the firm unlaxed and available for investment. In this way firms can enjoy long-term growth.
Therefore, high stock prices seem to be a consequence o f insufficient influence on the part of
Therefore, high stock prices seem to be a consequence o f insufficient influence on the part of