Deposit Guarantee Scheme of Japan: DIA & DICJ

Posted on:October 27, 2024 at 10:10 AM
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A diagram showing the basic mechanism of Japan's deposit insurance system. The image illustrates the three-way relationship between DICJ (Deposit Insurance Corporation of Japan), Depositors, and Financial Institutions. Arrows show that Financial Institutions pay deposit insurance premiums to DICJ, Depositors place deposits with Financial Institutions, and DICJ provides insurance payouts (with limited coverage) to Depositors in case of an insured event. The insured event is shown in the center, defined as suspension of deposit reimbursement, cancellation of business license, etc.

The Deposit Insurance Act (DIA) of Japan (Act 34 of 1971)1, outlines the country’s deposit guarantee scheme approach and provisions of the Deposit Insurance Corporation of Japan (DICJ). This article analyzes Japan’s deposit guarantee scheme as outlined in the DIA, with a particular focus on the structure, financing, and operations of the DICJ. By examining the DICJ’s role, funding mechanisms, triggering processes, and historical interventions, this text aims to explain how the deposit guarantee scheme is structured & functions in Japan, as well as how it compares to the European Union’s approach.

DICJ Structure

A stylized illustration of a traditional Japanese pagoda-style building against a dramatic sunset sky with a large red sun and golden clouds. The building features the characteristic multi-tiered architecture with upturned eaves, red columns, and ornate detailing, symbolizing the structured and hierarchical nature of the DICJ as a Japanese governmental institution.

The DIA defines the DICJ as a legal entity whose goal is to protect depositors, maintain an orderly credit and financial systems2. The law establishes the DICJ as a corporation3, with its operations supervised by the Prime Minister and the Minister of Finance4, making it a public entity. It is governed by a Policy Board consisting of a Governor, Deputy Governors, and up to eight additional members5. The Governor, who represents the DICJ and presides over its operations, is appointed by the Prime Minister with the consent of both Houses of the Diet (the Japanese parliament)6.

The core responsibilities of the DICJ can be grouped into 3 main areas:

  1. Deposit Insurance Operations: The DICJ is responsible for the deposit insurance system, which includes collecting insurance premiums from financial institutions7 and paying out insured deposits in the event of financial institution failure.

  2. Financial Institution Resolution: In cases of financial institution failure, the DICJ takes the lead in resolution processes, which in some cases lead to full or partial nationalization. These include providing financial assistance for mergers or transfers, acting as a financial administrator, and purchasing non-performing liabilities8.

  3. Financial System Stability Measures: The powers and responsibilities of the DICJ encompass the overall stability of the financial system. These include acting as a resolution authority for banks in crisis, conducting special monitoring of financial institutions, and mediating other troubled events in financial markets9.

The DICJ’s deposit insurance coverage extends beyond banks, with Article 2(1) detailing the following list of financial institutions bound by the DICJ, which also includes long-term credit banks and credit cooperatives, among others.

DIA Act No. 34 of 1971 vs DGS Directive 2014/49/EU

An artistic illustration showing a split composition with the EU flag (circle of gold stars on blue) on the left and the Japanese flag (red circle on white) on the right, with a neoclassical government building in the center. A crowd of people stands before the building, symbolizing the different regulatory approaches to deposit insurance between the EU and Japan. The image features a dramatic sky with stylized clouds and mountain ranges in the background.

The approach by which the funds are insured in DIA Act No. 34 1971 differs significantly from the Deposit Guarantee Schemes (DGSs) in the European Union as defined in Directive 2014/49/EU10. While EU DGSs primarily focus on deposit protection and repayment of deposits11. The DICJ has a broader mandate encompassing both deposit insurance, financial institution’s resolution and crisis management. Alongside these extra responsibilities, the DICJ is also involved at a more proactive manner in its operations, than the DGSs in the EU.

Furthermore, the DICJ’s governance structure, with a Policy Board consisting of a Governor, Deputy Governors, and up to eight additional members12, differs from the EU model. In the EU, the governance of Deposit Guarantee Schemes (DGSs) is not uniformly prescribed. Instead, Directive 2014/49/EU allows for flexibility in the organizational structure of DGSs, which can be statutory, contractual, or institutional protection schemes13. The Directive focuses more on the functions and operations of DGSs rather than prescribing a specific governance structure. It states that member states are to define the relevant administrative authorities, and that the DGSs are to be supervised by the assigned authorities14, without enforcing a specific governance structure.

DICJ’s Finances

A surreal illustration of a neoclassical bank or financial institution being supported by silhouetted figures standing on money-printing machines, with currency bills scattered across the foreground. The building appears to be floating, suggesting the precarious nature of financial systems supported by debt and monetary policy. The scene is set against a turquoise sky with coral-colored clouds, creating a dramatic contrast that emphasizes the relationship between financial institutions and their funding mechanisms.

Insurance premiums are collected from all eligible financial institutions, thus contributing to the DICJ’s fund . These risk-dependent premiums15 must be paid for each business year, typically within three months of the beginning of that year. However, the Act allows for the payment to be made in two installments, with half of the premium payable within three months of the midpoint of the business year.

The premium rates are to be set within the range specified by Cabinet Order, taking into account the DICJ’s financial condition and other factors . While the specific premium rates are not fixed in the Act, they are determined by the DICJ’s board and approved by the Prime Minister and the Minister of Finance16.

In addition to premiums, the DICJ can issue bonds or borrow funds from a financial institution or any other person when necessary, subject to approval by the Prime Minister and the Minister Of Finance17. Throughout history, debt has been a common instrument employed by the DICJ to finance its operations, such as during the 1990’s banking crisis18.

DICJ’s Operation

A stylized illustration of a neoclassical bank building with dramatic columns set against a vibrant background of red, yellow and blue streaks. The building is flanked by modern skyscrapers in contrasting colors, symbolizing the blend of traditional banking infrastructure with modern financial operations. The composition emphasizes the systematic and procedural nature of DICJ's operational framework in managing financial institution failures and deposit insurance.

In accordance with Article 49(1), each financial institution conducting operations or business is bound by an insurance relationship between the DICJ and the depositors. In practice, this mandates for the deposits in financial institutions to be insured. The relevant provisions are covered later in this text.

The DICJ’s operations are typically triggered by regulatory action rather than by depositors directly. The process usually involves:

  1. A financial institution becoming insolvent or unable to meet its obligations19
  2. The relevant regulatory authority (often the Financial Services Agency) determining that intervention is necessary20
  3. Notification to the DICJ to begin its resolution procedures21

The Prime Minister of Japan has the authority to trigger DICJ intervention even without an institution failing, if the situation is considered to be one of high risk22. This authority is exercised when there’s a serious risk to maintaining an orderly credit system in Japan or its specific region. Interestingly, the Deposit Insurance Act does not specify an explicit time limit for refunding deposits. However, it does require the DICJ to make decisions about insurance payouts within one month of a triggering event23. After deciding to make insurance payments, the DICJ must promptly determine and publicly announce the payment period24. The usage of the term “promptly” can be interpreted as a commitment to a quick resolution.

Regarding coverage limits, the Act distinguishes between two types of deposits:

  1. General deposits: The amount of insured deposits is not explicitly stated in the act, instead Article 54(2) mentions a “base insurance amount specified by Cabinet Order”. Given that it is to be specified by Cabinet Order makes this amount flexible. As of October 2024, this value is 10 million yen. Throughout history, the insured amount varied, including full deposit protection coverage in 1996, which was gradually phased out by 2005 in favor of limiting the liability to 10 million yen25.

  2. Deposits for payment and settlement purposes: These are fully covered without limit, but only for the principal amount26.

It’s important to note that these limits apply per depositor per financial institution, subject to a single insured event, meaning a depositor with accounts at multiple institutions could be covered up to the limit at each one. An “insured event” is defined in Article 49(2) as a category-one insured event (suspension of refunding deposits) or a category-two insured event (revocation of license, commencement of bankruptcy proceedings, etc.), thus protecting the depositors from failures of the institution from within, or due to regulatory action.

DICJ Intervention in Practice

A detailed timeline diagram showing the resolution process of the Incubator Bank of Japan from September 10, 2010 to May 2, 2017. The timeline is presented with pink arrows connecting key events, including the initial failure notification, DICJ's appointment as financial administrator, deposit reimbursement process, and final liquidation. Icons illustrate different stages: person icons for administrative actions, building icons for institutional transfers, and coin icons for financial transactions. The diagram demonstrates the systematic approach to bank resolution under DICJ's limited coverage scheme

DICJ has a long history of interventions. As of March 2023, The DICJ has implemented failure resolution of more than 180 financial institutions27. This can be interpreted as a high number of historical interventions.

The Japanese banking crisis of the 1990’s represents a notable period in DICJ’s activity. As the asset price bubble from the 1980’s burst, it led to a decline in land and stock prices, leaving many banks with large amounts of underperformed loans. Up to March 2000, 110 deposit-taking institutions were dissolved under the DIA. During this period, DICJ provided financial assistance for mergers and acquisitions, purchased non-performing loans, and managed failed banks as a financial administrator (nationalization)28. During this period, the general deposits were fully insured, with no limit, as per Cabinet Order29.

The failure of the Incubator Bank of Japan in 2010, represents the first resolution case under the limited coverage scheme, in action since 2005. The DICJ was able to ensure the repayment of insured deposits within 3 days of the failure. The bank began the failure procedures on Friday and the insured deposits were repaid on Monday30.

Conclusion

A stylized Japanese landscape illustration featuring Mount Fuji and a modern building set against a dramatic sunset sky. The scene shows a modern office building perched atop a snow-capped mountain, with vibrant red maple trees in the foreground and additional mountain peaks in the background. The composition uses a rich color palette of blues, reds, and oranges, with a large setting sun creating a striking backdrop, symbolizing Japan's blend of traditional stability and modern financial challenges.

The Deposit Insurance Corporation of Japan, established by the DIA of 1971, plays a central role in Japan’s financial framework. As a public entity under governmental supervision, the DICJ’s responsibilities are not limited to deposit protection, but also encompass financial institution resolution and crisis management.

The risk-based premium contribution system, the issuance of bonds and borrowing of funds are the main tools employed by the DICJ to insure customer deposits, and stabilize the financial system. The effectiveness of the measures, specially long term is subject to discussion, given that debt is one of the main mechanisms employed by the DICJ, including during the 1990’s banking crisis31.

Another risk is Japan’s dependence on the United States Dollar, as Japan is one of the largest holders of US Treasury Securities. This means that an underperforming dollar can reduce the economy’s assets, and increase the cost of existing liabilities, leading to a situation akin to the one experienced in the 1990’s. If this problem is once again addressed with public debt, it will likely lead to further devaluation of the Yen currency, manifesting in a reduction of purchasing power (inflation) and economic downturn.

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Useful Resources

In addition to the references, you will find the following resources useful while learning about Deposit Guarantee Schemes and the overall legal system of Japan and European Union:

References / Footnotes

Footnotes

  1. Deposit Insurance Act (預金保険法) [DIA], Act No. 34 of 1971 🔗 ↩

  2. DIA, Act No. 34 of 1971, art. 1 ↩

  3. DIA, Act No. 34 of 1971, art. 3 ↩

  4. DIA, Act No. 34 of 1971, art. 45(1) ↩

  5. DIA, Act No. 34 of 1971, art. 14,16 ↩

  6. DIA, Act No. 34 of 1971, art. 25-26 ↩

  7. DIA, Act No. 34 of 1971, art. 1 34 ↩

  8. DIA, Act No. 34 of 1971, art. 34 ↩

  9. Ibid ↩

  10. Deposit Guarantee Schemes Directive 2014/49/EU, 2014 O.J. (L 173) 149. ↩

  11. Deposit Guarantee Schemes Directive 2014/49/EU, 2014 O.J. (L 173) 149, art. 2(1)(8) ↩

  12. DIA, Act No. 34 of 1971, art. 16,17 ↩

  13. Deposit Guarantee Schemes Directive 2014/49/EU, 2014 O.J. (L 173) 149, art. 1(2) ↩

  14. Deposit Guarantee Schemes Directive 2014/49/EU, 2014 O.J. (L 173) 149, art. 4(7). ↩

  15. DIA, Act No. 34 of 1971, art. 51. ↩

  16. Ibid ↩

  17. DIA, Act No. 34 of 1971, art. 42 ↩

  18. Nakaso, H. (2001a, October 2). The financial crisis in Japan during the 1990s: How the Bank of Japan responded and the lessons learnt. The Bank for International Settlements 🔗 ↩

  19. DIA, Act No. 34 of 1971, art. 49(2) ↩

  20. DIA, Act No. 34 of 1971, art. 74(1) ↩

  21. DIA, Act No. 34 of 1971, art. 47(4) ↩

  22. DIA, Act No. 34 of 1971, art. 102 ↩

  23. DIA, Act No. 34 of 1971, art. 56 ↩

  24. DIA, Act No. 34 of 1971, art. 57(1) ↩

  25. (2022). (rep.). DICJ ANNUAL REPORT 2022/2023 🔗 ↩

  26. DIA, Act No. 34 of 1971, art 54-2(1) ↩

  27. (2022). (rep.). DICJ ANNUAL REPORT 2022/2023 ↩

  28. Nakaso, H. (2001a, October 2). The financial crisis in Japan during the 1990s: How the Bank of Japan responded and the lessons learnt. The Bank for International Settlements ↩

  29. (2022). (rep.). DICJ ANNUAL REPORT 2022/2023 ↩

  30. Ibid ↩

  31. Nakaso, H. (2001a, October 2). The financial crisis in Japan during the 1990s: How the Bank of Japan responded and the lessons learnt. The Bank for International Settlements ↩