A Contemporary Aspect of Japanese Commercial Banking: Expansion of Fee-Based Business and Its Impact on Management Stability. Bank of Japan Working Paper Series No.07-E-9 2007

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Recently, Japanese commercial banks have been expanding their fee-based business. The present study conducts a panel-data analysis to investigate the impact of such a diversification of commercial banking on the variability of banks' profitability and the stability of their management. Our findings include the following. As in the literature regarding US commercial banks, a positive correlation was seen between Japanese commercial banks' fee business income and net interest income in the second half of the 1990s. Such a relationship led to an increase in the variability of their ROA but did not affect their management stability over that period. During the period from FY2001 to FY2005, by contrast, such a positive correlation was not clearly observed. Reflecting this change, the fee business expansion did not increase the variability of their ROA in recent years. Moreover, it contributed to an enhancement in their management stability through increasing net profits. These findings suggest that if changes in the Japanese financial environment or other factors restore the positive correlation between the two types of incomes, the variability of Japanese commercial banks' ROA will increase. Whether this will lead to decreasing their management stability depends on to what degree they can enhance ROA due to increases in fee business income, and on how they use the increased income in the context of capital adequacy management. It is of note whether Japanese commercial banks' expanding the fee business contributes to securing the stability of their management without excessively increasing the variability of their profitability.