By Katie Farrant and Bojan Markovic of the Bank's International Economic Analysis Division and Gabriel Sterne of the Bank's Monetary Assessment and Strategy Division.
In this article we assess the possible macroeconomic effects of proposals to revitalise the banking system in Japan. Our analysis is supported by a theoretical model that incorporates various interactions between the banking sector and the wider economy. In the long run, a planned reduction in the ratio of non-performing loans (NPLs) to total loans and the intended fall in the risk premium faced by Japanese banks may help to boost the level of investment. Achieving a revitalised banking system cannot be done costlessly, however, and our model suggests that there may be some negative short-run macroeconomic impact as credit growth is reduced.