Earlier this summer, a brief, but historic, banking conference took place one afternoon without fanfare at the Penn Club in Manhattan.

Some 80 senior executives of the U.S. branches of major Japanese banks assembled there, ostensibly to hear an official of the Bank of Japan cover the highlights of the central bank's annual review of the Japanese economy. But the visitor's 10,000-mile journey had a more specific purpose: to convey a message his audience had never heard before from a Japanese regulatory authority.

Speaking alternately in Japanese and English, the official said the Bank of Japan is formally encouraging Japanese banks to develop strategies for the disposition of troubled real estate portfolios. In essence, he said that simply recognizing losses is not enough, because Japanese banks cannot reinvest in the economy until their balance sheets are cleansed of impaired mortgages.

In other words, restoring liquidity to the real estate markets is considered indispensable to Japan's economic growth.

Given the longtime reluctance of the Japanese banking system to deal head-on with its enormous real estate problems, such a policy change represents a major milestone. But to the bankers gathered that day, it had extra significance.

Since their branches were in a nation that had worked through similar problems - a nation where a huge market for impaired mortgage debt already exists - they would constitute the advance team, attempting different transaction structures and transmitting their results to headquarters in Japan.

Of course, success in the United States does not necessarily translate to Japan, where property valuation, lender remedies upon default, and real estate operations are significantly different. But setting these technical difficulties aside, the current state of Japan's real estate market is remarkably similar to our own situation in the early 1990s.

When the Resolution Trust Corporation was established, the U.S. real estate market was illiquid, with little hope of finding investment capital and no sign of recovering from years of overbuilding. Thrifts were failing daily, banks were overburdened with bad debt, and the general quality of underlying collateral was dismal.

In some respects, the Japanese picture is even worse, in part because Japanese banks have tenaciously refused to negotiate with borrowers, instead pursuing the full balance of their legal claims.

In this regard, they have been encouraged by regulatory authorities that severely restrict the tax deductibility of writeoffs. But these attitudes show signs of changing.

Recently, the Japanese Diet passed legislation to create and partially fund the Japanese Resolution Trust Corporation and the Housing Loan Asset Management Institute - two agencies charged with resolving the real estate portfolios of failed credit cooperatives and jusen, or housing loan companies.

These are positive steps.

Unfortunately, however, no blueprint for these agencies has been created; no programs have been developed for restructuring or disposing of troubled assets; and no infrastructure exists so that the agencies may operate.

Moreover, in addressing only the jusen and credit cooperatives, the new agencies would ignore the vast majority of the nation's troubled debt, which resides in the "city" and credit banks.

While the Diet has taken some preliminary steps, government leaders evidently still do not feel they have the political support to take a broad role in resolving the banking crisis.

If the Japanese Resolution Trust Corporation were to absorb the early and largest losses as assets began to trade, the cost to the taxpayer would be significant. But, as the Bank of Japan now openly recognizes, such costs must be measured against the burden on the overall economy of stagnating banking and real estate sectors.

When analyzing the numerous obstacles to change frequently cited by Japanese businesses, it is apparent that many of the issues could be resolved through legislation, in the same way that the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 contributed to the turnaround in the United States. For example, removing certain rights of tenants, basing property tax assessments on fair market value, and easing restrictions on tax deductions for bank losses all could be legislated by the Diet.

One significant advantage the Japanese banks have is that the framework and infrastructure for selling troubled debt already have been established in North America and several European countries. By identifying which techniques work in Japan, the methodology can be "translated" and enhanced as appropriate.

This process, in fact, has begun: E&Y Kenneth Leventhal Real Estate Group and its Japanese affiliate, Showa Ota & Co., have convened a group of key real estate experts in Japan to work with the central bank and Ministry of Finance to develop marketing, valuation, and due diligence techniques to foster the establishment of a distressed-debt market.

For now, at least, the prognosis is unclear. But a slowly intensifying resolve among Japanese regulators and government leaders, combined with a careful adaptation of methodologies established in other nations, provide good reason to expect that capital and liquidity can be restored to the Japanese banking and real estate communities before the end of this decade.

Mr. Rubin is partner-in-charge of the New York consulting practice of E&Y Kenneth Leventhal Real Estate Group, a unit of Ernst & Young, LLP.

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