Money, Finance and Banking in East Asia Training Centre of the - PowerPoint PPT Presentation

Workshop on “Money, Finance and Banking in East Asia” Training Centre of the Deutsche Bundesbank, Eltville 5-6 December 2011 Mathias Hoffmann University of Zurich & CESifo Presentation to “By a Silken Thread: regional banking integration and pathways to financial development in Japan’s Great Recession“ www.bundesbank.de

By a Silken Thread: regional banking integration & pathways to financial development in Japan’s Great Recession Mathias Hoffmann Toshihiro Okubo University of Zurich & CESifo Keio University Eltville, Dec 5-6 2011 Mathias Hoffmann, Toshihiro Okubo (University of Zurich & CESifo, Keio University) By a Silken Thread: regional banking integration & pathways to financial development in Japan’s Eltville, Dec 5-6 2011 1 / 31

Background Current Financial Crisis has two historical precedents: the Great Depression and Japan’s Great Recession (’Lost Decade’) Which is more relevant? ◮ Worst declines seem to have been averted, so comparison with Great Depression seems somewhat less relevant now than it first appeared. ◮ But problems are far from over: sluggish growth in the US and elsewhere, balance sheets of banks continue to be weak, continued monetary and fiscal stimulus needed to prop up financial sector (QE2, Euro crisis etc) ◮ Also: casual observation suggests much regional and cross-country heterogeneity in the impact of the crisis. ◮ That’s what we saw in the last two decades in Japan. The current crisis seems to be ’japanifying’, making the analysis of Japan’s experience seems more relevant than ever. Mathias Hoffmann, Toshihiro Okubo (University of Zurich & CESifo, Keio University) By a Silken Thread: regional banking integration & pathways to financial development in Japan’s Eltville, Dec 5-6 2011 2 / 31

Our story We analyze the regional spread of Japan’s great recession (GR). Specifically: look at how regional variation in credit demand affected patterns in regional business cycles and growth. Two dimensions to the identification: ◮ Demand for finance. ⋆ regional differences in external finance-dependence as a way to identify differences in the exposure to the common shock (i.e. the 1990 burst of the housing and stock bubble). (Rajan and Zingales (1998)) ⋆ Here: use small manufacturing firms to identify such differences. Supply dimension: focus on regional financial (specifically: banking) integration in the recession. Mathias Hoffmann, Toshihiro Okubo (University of Zurich & CESifo, Keio University) By a Silken Thread: regional banking integration & pathways to financial development in Japan’s Eltville, Dec 5-6 2011 4 / 31

Our story (I): financial frictions made worse Interaction between D&S: Better financial integration facilitates small firm access to finance. ◮ recession deeper and longer in prefectures with many small (credit-dependent) firms ◮ link between SME importance and recession severity stronger in prefectures that are less financially integrated with the rest of the country ◮ Transmission seems to work through reduced lending in less integrated prefectures by City (i.e.: nationwide) banks. Mathias Hoffmann, Toshihiro Okubo (University of Zurich & CESifo, Keio University) By a Silken Thread: regional banking integration & pathways to financial development in Japan’s Eltville, Dec 5-6 2011 5 / 31

Our story (I): intra-national barriers to capital flows Note: Japan is centralized country, no regional differences in banking or financial regulation etc. but there is a regionally tiered banking system ◮ city banks & 1st tier regional banks → generally operate nationwide ◮ 2nd tier regional banks (Sogo banks), industrial cooperative banks (Shinkin) + agricultural and consumer cooperatives → regional lenders & regional deposit base Our measure of financial (banking sector) integration: share of regional vs. city (nationwide) banks in prefecture-level lending Mathias Hoffmann, Toshihiro Okubo (University of Zurich & CESifo, Keio University) By a Silken Thread: regional banking integration & pathways to financial development in Japan’s Eltville, Dec 5-6 2011 6 / 31

Our story (II): how we got here matters What are the deep sources of prefecture-level differences in financial integration? We argue that there are important differences in the historical pathways to financial development that lead to different levels of financial integration. ◮ Opening of Japan in mid-19th century lead to emergence of silk as first export staple ◮ silk is an fragmented industry with many small firms, cut off from direct bank finance. At the same time, extreme need for trade credit / working capital in silk reeling industry. ◮ Emergence of industrial cooperatives associations that provided credit, organized quality control and led mechanization of the silk reeling industry. ◮ We use # of (mechanized) reeling plants (filatures) as an instrument for the market share of regional banks in the 1980s Mathias Hoffmann, Toshihiro Okubo (University of Zurich & CESifo, Keio University) By a Silken Thread: regional banking integration & pathways to financial development in Japan’s Eltville, Dec 5-6 2011 7 / 31

Data set Panel data set for 47 prefectures. Drop Okinawa. GDP, Consumption p.c. Lending by type of bank by prefecture, 1964-96 Data on small manufacturing firms by prefecture, employment and value added from the ’Manufacturing Census’. Here focus on SMEs with < 300 employees. (This is also the cut-off value for Shinkin membership). Data on bankruptcies by prefecture, by firm size and cause 1983-2005. .... Mathias Hoffmann, Toshihiro Okubo (University of Zurich & CESifo, Keio University) By a Silken Thread: regional banking integration & pathways to financial development in Japan’s Eltville, Dec 5-6 2011 8 / 31

Empirical framework. 1. Sample Splits by high/low FI t = α AggShock t × SME k + µ k + τ t + ǫ k ∆ gdp k (1) t — 2. Interaction Regressions α 0 SME k + α 1 FI k + α 2 FI k × SME k + ... � � ∆ gdp k = AggShock t × t + µ k + τ t + ǫ k (2) t where AggShock t = Post 1991 t or AggShock t = Post 1991 t × ∆ gdp t Mathias Hoffmann, Toshihiro Okubo (University of Zurich & CESifo, Keio University) By a Silken Thread: regional banking integration & pathways to financial development in Japan’s Eltville, Dec 5-6 2011 9 / 31

Table: Small business importance, financial integration and the Great Recession Small manufacturing firms and the effect of the Great Recession on prefecture-level output growth rates Panel A: Based on value added SME-measure All Sample split by importance of ... prefectures Regional Banks City Banks Regional Banks: Shinkins only high low high low high low Post 1991 t × SME k -0.07 -0.13 -0.01 -0.0140 -0.12 -0.12 -0.03 VA (-2.04) ( -4.04) (-0.19) (-0.25) (-3.82) (-3.03) (-0.70) R 2 0.55 0.56 0.58 0.6042 0.53 0.57 0.552 Panel B: Based on employment based SME-measure All prefs. high low high low high low Post 1991 t × SME k -0.08 -0.15 0.01 -0.002 -0.15 -0.15 -0.04 EMP (-1.96) (-3.73) (0.01) (-0.02) (-3.78) (-4.06) (-0.64) R 2 0.55 0.55 0.58 0.60 0.53 0.55 0.5866 t = α × Post 1991 t × SME k + µ k + τ t + The table shows the coefficient α in panel regressions of the form ∆ gdp k ǫ k t + constant where Post 1991 t is a dummy indicating the period from 1991, SME k is small-business importance and µ k and τ t are prefecture-fixed and time effects respectively. Sample period is 1980-2005. Cooperative banks include Shinkin banks and industrial credit cooperatives. OLS estimates, t-statistics in parentheses. Standard errors are clustered by prefecture. Mathias Hoffmann, Toshihiro Okubo (University of Zurich & CESifo, Keio University) By a Silken Thread: regional banking integration & pathways to financial development in Japan’s Eltville, Dec 5-6 2011 10 / 31