‘By a Silken Thread’: Regional Banking Integration and Pathways to Financial Development in Japan's Great Recession

Abstract

How do financial development and financial integration interact? We focus on Japan's Great Recession after 1990 to study this question. Regional differences in banking integration affected how the recession spread across the country: financing frictions for credit-dependent firms were more severe in less integrated prefectures, which saw larger decreases in lending by nationwide banks and lower GDP growth. We explain these cross-prefectural differences in banking integration by reference to prefectures' different historical pathways to financial development. After Japan's opening to trade in the 19th century, silk reeling emerged as the main export industry. The silk reeling industry depended heavily on credit for working capital but comprised many small firms that could not borrow directly from larger banks. Instead, silk merchants in Yokohama, the main export hub for silk, provided silk reelers with trade loans. Many regional banks in Japan were founded as local clearing houses for such loans, and regional banks continued to account for above-average shares in lending in the formerly silk-exporting prefectures long after the decline of the silk industry. Using the cross-prefectural variation in the number of silk filatures in 1895 as an instrument, we confirm that the post-1990 decline was worse in prefectures where credit constraints were tightened through low levels of banking integration. Our findings suggest that different pathways to financial development can lead to long-term differences in de facto financial integration, even if there are no formal barriers to capital mobility between regions, as is the case in modern Japan. F30, F40, G01, N15, N25, O16

Imposed Efficiency of Treaty Ports: Japanese Industrialization and Western Imperialist Institutions

“…While the domestic market integration in early modern China has been thought to be the origin of the rise of modern China (Keller and Shiue, ), Jia (forthcoming) additionally found that since the reopening of China since the 1980s, ex‐treaty port regions in China have enjoyed better performance, which indicates that the imposed treaty port system had a very long‐term positive effect on market integration and development. Meanwhile, Hoffmann and Okubo () established that local financial markets of ex‐silk‐reeling regions are less integrated with the national market and this weaker integration exacerbated ill‐functioning corporate financing in the regions during the recessionary period from the 1990s to the 2000s. That is, silk‐reeling regions successfully adjusted to the new business opportunities shown at the Yokohama market, and locally and densely interlinked corporate financing organizations were formed.…”

Understanding Benign Liquidity Traps: The Case of Japan

“…This holds particularly for small and medium enterprises that are dependent on local bank credit, see Hoffmann and Okubo (2015). This may be due to a lack of good collateral, to financial regulation, or to a greater risk awareness on the side of the buyersthe notorious 'flight to quality'.…”

“…Recent research indicates that credit constraints are still relevant for Japan and its relationship banking. This holds particularly for small and medium enterprises that S. Homburg are dependent on local bank credit, see Hoffmann and Okubo (2015). As a final remark, dividing both sides by firms' revenue, the borrowing constraint could also be written as a maximum loan-to-revenue ratio, B s t =ðP t Y s t Þ B=ðP t Y s t Þ, without affecting any of the following results.…”