The historical relationship between banks and corporations and the role of banks in corporate governance led to significant challenges in corporate governance practices, especially liquidity management (Okabe, 2008). For example, a corporation with a close relationship with a bank would maintain limited liquidity and internal funds as the banks offered flexible and timely borrowing. Holle (1998, p. 37) noted that bank loans were “much more important net source of finance in Japan: 30.5% vs 11.0%” even though the figure has reduced from 60% debt financing reported in the 1960s. Such relationships reduced the information asymmetry between banks and corporations, thus positively impacting the borrowing rates. Okabe (2008) argued that despite banks’ power in Japan’s economy, especially their potential to monitor and discipline corporations, banks rarely exercise such powers. Cross-shareholding between banks and companies or non-bank organizations limited the banks’ role in corporate governance.
Until the 1970’s banks played an important role in Japan’s corporate governance, Okabe (2008) noted that bank effect on corporate governance practices followed three main strands financing, monitoring, cross-shareholding, and discipline. Banks efficiently provided corporate financing due to the limited information asymmetry as banks could access all the relevant information they needed from such organizations (Okabe, 2008). However, dramatic changes in corporate financing patterns following Japan’s recession in the 1980s led to changes in the role of banks in corporate governments. The Japanese companies began using external financing compared rather than bank loans. The decreased debt amid increased equity financing led to corporate governance change towards shareholder satisfaction and reduction in main bank relationships and cross-shareholding dissolution.
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