Political Influence and Declarations of Bank Insolvency in Japan

Authors


  • This research is funded by the Henry Luce Foundation and research grants from Wesleyan University. I am grateful to Jun Saito, Richard Grossman, Amyaz Moledina, Donato Masciandaro, Pierre Siklos, Geoff Miller, Steven Ongena, Carlos Ramirez, Ed Kane, anonymous referees, and participants in Eastern Economic Association Annual Conference (2007), World Meeting of Public Choice Society (2007), and Second European Conference on Financial Regulation and Supervision (2007) for valuable comments. I also thank Jun Saito for generously providing the data on Japan's general election outcomes and the characteristics of political candidates, and Yurie Nagashima and Yashan Zhou for excellent research assistance. The author is responsible for all errors and omissions.

Abstract

This paper investigates how politics affects bank supervision by examining determinants of bank failures in Japan during 1999–2002, a period during which bank regulators were called upon to resolve insolvent banks in preparation for the lifting of a blanket deposit guarantee. The empirical results suggest that Japan's bank regulators had tendency to delay declarations of insolvency in prefectures that supported senior politicians of the ruling Liberal Democratic Party (LDP). This result, which is robust to a host of bank-level and prefecture-level controls, suggests that bank supervision is prone to political influence that delays efficient resolution of insolvency.

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