July 30, 2001
Financial Services Agency

Announcement of the ''Program Year 2001 Basic Guidelines and Basic Plan for Inspections''

Amid growing calls for fair and transparent financial administration, financial inspections are taking on new importance. We are therefore announcing the ''Program Year 2001* Basic Guidelines and Basic Plan for Inspections'' in the interest of improving transparency of the administrative work associated with financial inspection.

* ''Program Year 2001'' refers to the period from July 1, 2001 through June 30, 2002.

For further information, please contact:

Mr. Ono (03-3506-6059)
Mr. Mizuguchi (03-3506-6460)
Mr. Oki (03-3506-6032)

Inspection Coordination Division
Inspection Bureau
Financial Services Agency of Japan

[Provisional Translation]

July 30, 2001
Financial Services Agency

Program Year 2001 Basic Guidelines and Basic Plan for Inspections

I. Basic Guidelines for Inspections

Since its establishment, the Financial Services Agency (FSA) has made continuous efforts to achieve fair and transparent financial administration together with clear rules, based on the market discipline and the principle of self-responsibility. With regard to financial inspections, exact and highly effective inspections have been carried out with the aim of establishing confidence in the financial system as a whole, through accurately grasping business conditions of financial institutions.

While continuing to maintain the above principles, inspections will be carried out in the Program Year 2001 (July 1, 2001 to June 30, 2002) with particular emphasis on the following three items, in view of the current financial environment.

First, as stated in the ''Emergency Economic Package'' of April and the ''Basic Policies for Macroeconomic Management'' of June, the highest priority is given to the definitive resolution of the problem of non-performing loans for the first step toward the revitalization of the Japanese economy. From this point of view, inspections are expected to rigorously appraise the accuracy of each financial institution's self-assessment of assets, which is the precondition for the resolution.

Second, preparation is needed for the introduction of ''Pay-Off'' system - a limited protection of deposits. Due to various efforts including the authority's rigorous supervision and inspection, the Japanese financial system has indeed regained its stability over the past few years. However, towards the introduction of ''Pay-off'' in April 2002, efficient and highly effective inspections are essential in order to build a far stronger financial system.

Third, rapid changes in financial environments should be coped with. It is the mission of the FSA to carry out highly professional inspections so as to promptly and accurately respond to new financial environments, such as the adoption of mark-to-market accounting for various financial products, the expansion of transactions via Internet, and the growing merger of financial institutions by means of establishing a shareholding company.

While dealing with these issues, the FSA will simultaneously make further efforts to enhance its inspection functions through various measures including training of human resources and enhancement of Inspection Manuals.

In view of the above, the following policies will steadily be implemented in the Program Year 2001.

1. Responding to the Government's Economic Measures

In order to promote the definitive resolution of non-performing loans as envisaged in the ''Emergency Economic Package'' and the ''Basic Policies'', an accurate and rigorous grasping of major banks' credit risk is essential. To this end, the FSA will rigorously appraise the accuracy of each bank's self-assessment of assets by implementing the following items:

(1) Implementation of ''annual inspections'' to major banks
Annual inspections will be carried out against major banks, which had so far been inspected approximately once every two years. More concretely, the FSA will smoothly complete the remaining part of its second-round inspections based on Financial Inspection Manuals, and they will be followed by the third-round inspections mainly focusing on the banks' credit risks.


Intensive implementation of ''follow-up inspections''

The FSA will conduct intensive follow-up inspections of major banks. This is expected to contribute to a timely and precise reflection of inspection results to the management of banks. Short-term on-site inspections will be conducted mainly to check the adequacy of the banks' self-assessment standards and practices as well as their disclosure standards, based on the results of the previous inspections of FSA. Such measures are expected to enhance the accuracy of the banks' self-assessments and the appropriateness of the disclosure of their risk management loans. (Follow-up inspections of 10 major banks which have already been inspected in accordance with Financial Inspection Manuals, will be carried out by the end of September 2001.)

2. Preparation for the introduction of ''Pay-Off''

(1) Implementing prioritized inspections
Based on various factors such as actual business situations of individual financial institutions and information obtained through off-site monitoring, inspections will be implemented in an efficient and highly effective manner by giving priority in terms of frequency and scope.


Checking the status of establishing ''Nayose'' data system

In cooperation with the Deposit Insurance Corporation, the FSA will closely monitor the status of establishing data system for grouping of deposits held by the same person (Nayose).


Examining the appropriateness of liquidity risk management functions

The FSA will examine the appropriateness of individual financial institutions' liquidity risk management functions including their contingency plans for a liquidity crisis.

3. Responding to changes in the financial environment

(1) Appropriateness of mark-to-market accounting practices
With the introduction of mark-to-market accounting in April 2001, the FSA will check the appropriateness of securities bookings in various aspects such as their valuation and classification in accordance with the holding purpose.


Effectiveness of risk management functions for Internet trading

As financial trading on the Internet has been widely expanded, the effectiveness of risk management functions regarding Internet trading, including contingency plans to cope with troubles in computer systems, will be examined.


Integrated inspections of financial groups/conglomerates

There is an increasing tendency among financial institutions to form financial groups/conglomerates such as mergers of financial institutions with the creation of shareholding companies. Using its advantage of broad supervisory authority over different financial sectors, the FSA will implement integrated inspections to check their compliance to applicable rules and regulations, and the appropriateness of their risk management functions.


Effectiveness of internal audit functions

The FSA will accurately examine the effectiveness and the appropriateness of financial institutions' internal audit functions in order to encourage the establishment of more effective internal audit functions. The FSA will continue to utilize each financial institution's internal and external audit functions in order to achieve effective inspections.

4. Enhancement of the FSA's Inspection Functions

(1) Strengthening personnel development
In cooperation with the Financial Research and Training Center, which was newly founded in July 2001, the FSA will strengthen its training programs by such means as development of new training courses. Also, it will make efforts to hire private-sector experts in order to respond promptly and accurately to developments in the areas of, for example, financial technology as well as information and communications technology.


Enhancement of coordination with the Securities and Exchange Surveillance Commission (SESC)

With the aim of maintaining confidence within the securities market, strengthening market surveillance and inspection is indispensable for revitalizing the market through various measures including promoting participation of individual investors. To this end, the FSA will endeavor to implement efficient inspections through a further enhancement of its coordination with the SESC, which undertakes inspections to maintain the fairness of securities transactions. In principle, joint inspections will be carried out with the SESC.
Furthermore, in line with the expansion of Inspection Units responsible for securities firms as well as the establishment of Inspection Manuals for Securities Firms, the frequency and the depth of inspections will further be enhanced.


Development and enhancement of Inspection Manuals

Following the establishments of Inspection Manuals for deposit-taking financial institutions, insurance companies, and securities firms, the FSA plans to establish inspection manuals for investment trust management companies and for investment advisory services. Inspection manuals will further be improved and developed responding accurately to changes in the financial environment.

5. Priority Issues by Financial Sectors

(1) Deposit-taking financial institutions
As for deposit-taking financial institutions, the FSA will steadily implement the policies stated above. It will also implement effective inspections of other financial institutions including Labor Banks (Rokin), which are supervised by both the FSA and other governmental bodies. In principle, inspections of these institutions will be carried out in a joint manner.


Insurance companies

In line with the expansion of Inspection Units responsible for insurance companies as well as recent changes of supervisory tools such as hardening solvency margin standards designed to secure the soundness of insurance companies, a priority in inspections of insurance companies will be put on such items as the accuracy of solvency margin ratios and the management of insurance policy sales.


Securities firms, etc.

Following the newly established Inspection Manuals for Securities Firms, and taking into account the status of introducing external auditing, the FSA will implement inspections of securities firms, paying special attention to the adequateness of segregation between the client and the corporate assets, and the accuracy of capital adequacy ratios.

With regard to investment trust management companies and investment advisory services, priority will be put on compliance to duty of loyalty to customers, etc.


Foreign financial institutions

Effective inspections will be carried out regarding foreign financial institutions with particular emphasis on their compliance to applicable rules and regulations as well as their risk management functions. To this end, the FSA will continue to grasp the real situations of financial groups, and pursue closer cooperation with overseas supervisory authorities.


Other financial institutions (non-banking money lenders, mortgage securities corporations, and issuers of prepaid cards, etc.)

The FSA will conduct inspections of these institutions mainly focusing on the following items: compliance of non-banking money lenders to applicable rules including regulations which govern their loan collection behaviors; financial conditions and sales practices of mortgage securities corporations; and practices of reserving guarantee money with regard to the issuance of prepaid cards.

II. Basic Plan for Inspections

Basic Plan for Inspections

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