Japan’s Depression And Zombie Lending

With the United States in recession, some folks are wondering if we might enter into a “lost decade” as the Japanese did the in 1990s.  There are several important differences between the U.S. today and Japan back then, the most dramatic being Japan’s “Zombie lending.”  Remember that zombies are the living dead.  The best American examples (outside of Creole legends) were the savings and loan institutions of the 1980s.  They had more liabilities than assets, but were permitted to live on.  In Japan in the 90s, companies that were essentially bankrupt were allowed continued access to credit.  The modern equivalent: sub-prime borrowers protected from foreclosure by public policy.

There’s a new academic paper on the subject of Japan’s Zombie lending.  Here’s the abstract:

Large Japanese banks often engaged in sham loan restructurings that kept credit flowing to otherwise insolvent borrowers (which we call zombies). We examine the implications of suppressing the normal competitive process whereby the zombies would shed workers and lose market share. The congestion created by the zombies reduces the profits for healthy firms, which discourages their entry and investment. We confirm that zombie-dominated industries exhibit more depressed job creation and destruction, and lower productivity. We present firm-level regressions showing that the increase in zombies depressed the investment and employment growth of non-zombies and widened the productivity gap between zombies and non-zombies.

The authors are Ricardo J. Caballero, Takeo Hoshi and Anh K. Kashyap.  The full paper is available here.

One of our banking industry’s strengths is that it writes off bad loans and stops throwing good money after bad.

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Comment by HOUSAM JARRAR

2009-01-22 00:37:34

I might have misunderstood your point or maybe it simply went right past me,however,If I understand you correctly,you are arguing that because the Japanese government shored up failed insolvent entities,which created these so-called zombies and it all went down hill from there.From my perspective,the fundamental similarity between us and japan is exactly the point you are using to prove otherwise.We are currently creating zombie banks(citibank,bank of america..etc) which are institution that are basically insolvent,while attempting to force them to lend out from their under capitalized balance sheets.I think as long as we try to avert the pain of allowing failed companies to fail,we will undoubtedly face a japan like lost decade.

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