For Japan’s three megabanks, lending has rebounded. But instead of funding industrial projects in Japan, they’re funding acquisitions overseas and highfalutin real-estate speculation in Tokyo and Osaka. They wrote up their stock holdings and extracted fees from the frenzied trading that Abenomics triggered. Their profits surged – 40% at Mitsubishi UFJ Financial Group during the last quarter, 35% at Mizuho Financial Group, and over 100% at Sumitomo Mitsui Financial Group. They’ve been the prime beneficiaries of Abenomics.

But smaller banks are not so lucky, particularly the vast network of community-based, cooperative shinkin banks. By law, they can only lend to individuals and businesses in their area, and these businesses can’t have more than 300 employees. Their distinctive characteristics: they are “close and convenient,” offer “fine-tuned and personalized services,” and have a “strong relationship of mutual trust with their customers and communities,” the Shinkin Central Bank points out. Yes, they have their own central bank, and its preferred shares – like the shares of the Bank of Japan – are listed on the Tokyo Stock Exchange.

These shinkin banks have been stuck in a long-term quagmire: There are 270 of them around the country, down 31% from January 2000, with 7,505 branches, down 13% from January 2000, and with 115,480 employees, down 27% from 2000, according to the Shinkin Central Bank Research Institute.

Their deposits however have climbed constantly: as of June 2013, at ¥127.4 trillion ($1.27 trillion), they were up 2.0% from a year ago and 24.8% from 2000. Yet their loan books have shriveled: at ¥63.16 trillion ($631 billion), they’re down 9.7% from 2000. And their all-important loan-to-deposit ratio has plunged from 68.6% in 2000 to 49.6% now.

“There’s no demand for productive loans,” Masatoshi Masuda, president of Wakkanai Shinkin, told the SCMP. The bank is loaded to the gills with cash but can’t do anything productive with it. Its loan book is only about one-fifth of the ¥400 billion it has on deposit.

So, instead of making loans to local businesses for productive activities, these banks invest their deposits in securities, mostly JGBs and corporate bonds from state-owned enterprises. Back in January 2000, all shinkin banks combined carried ¥2.80 trillion in JGBs and ¥8.85 trillion in corporates on their books. By June 2013, their holdings of JGBs had quadrupled to ¥11.1 trillion, and their holdings of corporates had nearly doubled to ¥16.2 trillion.

Income from JGBs, with their near-zero yields, was small but stable over the last ten years, as yields have declined and the value of JGBs has risen. Now the reverse is taking place. Yields are rising, the value of JGBs is falling, and new volatility in the JGB market is wreaking havoc on these banks. The BOJ had urged banks to dump their JGBs, ostensibly so that they’d lend that money to businesses and stimulate economic activity, but in reality so that banks would get out from under that pile that is doomed to lose value and might threaten their survival.

Large banks have done exactly that. The three megabanks got rid of ¥23.8 trillion in JGBs in the last quarter alone, most of it shuffled off to the BOJ. Sumitomo dumped about half of its JGBs in the quarter, after having already dumped a bunch in the prior quarter!

Shinkin banks can’t do that; they don’t have another income-producing place for their depositors’ money. They can’t lend to big corporations for overseas adventures or fund real-estate gambles in Tokyo. So they put their money where they can put it. Hence, their holdings of increasingly toxic JGBs and bonds from state-owned enterprises have set new records.

But their bread-and-butter income – the spread between the interest paid to depositors (just about zero) and the interest charged on loans – has been shrinking in parallel with their loan book. It reflects reality in Japan: governments and government-owned entities need a lot more funding than the private sector.

And now, their survival has become a matter of doubt. Consolidation has been ballyhooed as the solution. It has been happening in large urban areas. But in smaller towns, it’s difficult.

“We already have 50% of the local loan market,” said Wakkanai Shinkin president Masuda. “Simply, it’s too high a share.” So, for his bank, consolidation is not the answer.

Wakkanai Shinkin is perhaps no worse off than other small-town banks. They all have their issues. The bank operates in Wakkanai, a town of 38,000 at the northern tip of Hokkaido, Japan’s largest island. Ferries go from there to the Russian island of Sakhalin, the next stop north. Wakkanai is closer to Vladivostok and Khabarovsk in Siberia than to Tokyo. But its dilemma is typical for small towns. Japan continues to urbanize. Young people head off to distant big cities, such as Sapporo, the capital of Hokkaido Prefecture. And “depopulation” is a real issue [my take… Japan’s Vacant Houses: Visions of Detroit].

“There is no business here,” lamented Satsu Sato. He runs a bar in Wakkanai. “We have to depend on fish and tourists but we’re not getting as many tourists as we used to.”

The number of tourists has fallen by nearly 50% over the last decade. Hokkaido is still a popular tourist destination – a gorgeous one – but fewer people make it up to its northern tip. And the fishing industry in Wakkanai has seen its activities plunge to a fraction of what it once was.

“We don’t feel any impact of Abenomics here,” Katsumi Ogawa, an official at the Chamber of Commerce in Wakkanai, told the SCMP. And this has become a common expression across much of Japan. Abenomics – particularly the BOJ’s drunken binge of printing and handing out trillions of yen on a regular basis – was designed to benefit the biggest banks and the elite of Japan Inc. These benefits aren’t trickling down because they weren’t meant to trickle down. The plight of Japan’s vast and crucial network of local banks, caught between slack loan demand from businesses and the treacherous currents of Abenomics, is just one more detail in that saga.

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