Why are the two Japanese banks planning to merge?

Long Term Credit Bank of Japan is burdened by bad debts which have depressed its share price. Sumitomo Trust is in a stronger position but like other Japanese banks it has felt exposed by the overhang of bad debts. The government has been encouraging the banking sector to sort out its problems which are weighing on the Japanese economy.

Who are the two partners?

The Long Term Credit Bank of Japan is the second largest industrial lending bank in Japan, after the Industrial Bank of Japan. It was established in l952 to lend to industry to help with Japan's post war reconstruction, and now lends primarily to the service sector. It made losses of $2.25 billion last year, and has 'bad debts' of $9.8bn, which it is unlikely to recover. Sumitomo Trust, part of the Sumitomo trading group, is the second largest trust company in Japan after Mitsubishi Trust, specialising in land trusts and investments. With its core banking business it made net profits of $6.8bn during the last financial year.

How big would the new group be?

If both banks agree to merge, the new company would become the second largest bank in Japan, after the Bank of Tokyo-Mitsubishi Ltd, itself the product of an earlier merger. It would have assets of nearly $300bn. It would have 9,600 employees and 105 branches including 24 offices overseas.

What could hold up the merger?

Two issues are still to be resolved. First is the name and management of the new bank. Sumitomo as the stronger bank woud like to keep its name and management, but traditionally Japanese companies work more co-operatively than in Western takeovers. More important is who will take over LTCB's bad debts.

Sumitomo has made it clear it wants the government to take over those bad loans, but the Japanese cabinet has not yet decided what form their bank rescue plan will take.

Why is the government taking so long to decide?

The Japanese government is facing elections to the Upper House on July 12. It has been reluctant to pledge government funds to bail out the banks, especially if this might mean raising taxes. The government is also not sure how far it can go in enforcing mergers in the banking sector without causing panic among Japan's nervous consumers who are worried that their bank might be about to fail.

Why were the financial markets cheered by the news?

The markets are worried that Japan cannot get out of recession until its banking sector has sorted out its problems. At present banks are refusing to lend to smaller companies because they are afraid to increase their bad debts. These worries depress the yen, and last week when the US government came to rescue of the currency it said it was only buying time for Japan to reform itself. This merger is seen as the first concrete sign of reform of the banking sector.