Japanese Banks’ Monitoring Activities and the Performance of Borrower Firms: 1981-1996* Paper Prepared for the CGP Conference Macro/Financial Issues and International Economic Relations: Policy Options for Japan and the United States October 22-23, 2004, Ann Arbor Kyoji Fukao** Institute of Economic Research, Hitotsubashi University and RIETI Kiyohiko G. Nishimura Faculty of Economics, University of Tokyo and ESRI, Cabinet Office, Government of Japan Qing-Yuan Sui Faculty of Economics and Business Administration, Yokohama City University, Masayo Tomiyama Institute of Economic Research, Hitotsubashi University * We are grateful to the participants of the pre-conference meeting of the CGP project and a seminar held at Hitotsubashi University for their comments and suggestions on a preliminary version of this paper. ** Correspondence: Kyoji Fukao, Institute of Economic Research, Hitotsubashi University, Naka 2-1, Kunitachi, Tokyo 186-8603 JAPAN. Tel.: +81-42-580-8359, Fax.: +81-42-580-8333, e-mail:
[email protected]. ABSTRACT Using micro data of Japanese banks and borrower firms, we construct an index measure that quantitatively describes the monitoring activities of Japanese banks. We examine the effects of bank monitoring on the profitability of borrower firms. We find significant positive effects in the periods 1986-1991 and 1992-1996, although there is no significant effect in the 1981-1985 period . We also examine how banks' monitoring affects borrowers. The results show that the positive effects of banks' monitoring on borrowers' profitability are mostly caused by screening effects, not performance-improving effects. 1 Japanese Banks’ Monitoring Activities and the Performance of Borrower Firms: 1981-1996 One of the most dramatic developments in the Japanese economy during the 1990s concerns the fate of the country's banks.