The Financial Problems of Local Public Corporations (housing, roads and land) and Their Organizational Reform

AKAI Nobuo
Faculty Fellow, RIETI

The inefficiency and systemic fatigue of the methods and organizations that provide public investments have come to the fore in recent years, and reforms are currently in progress. While reforms of the local municipalities themselves are an important issue at the regional level, organizational reforms are also a pressing matter at affiliated organizations that are entirely funded by local governments. The common main targets of these nationwide reforms are called special corporations, and are comprised of land development public corporations, road corporations and housing supply corporations. In this paper I discuss the financial problems of these three public corporations and how they might be reformed. (Akai, 2005a and Akai, 2005b)

The financial problems of land development public corporations

Land development public corporations have been established by municipalities with the aim of purchasing land in advance for public works projects. During the era of skyrocketing land prices, their high degree of autonomy in budgeting and planning served a certain role in securing land for public purposes and promoting efficient public works projects. However, they have failed to implement organizational changes suited to the post-bubble economy.

According to the Summary of the Results of the Fiscal 2003 Survey on the Operations of Land Development Public Corporations compiled by the Ministry of Internal Affairs and Communications (2004), land held by land development public corporations as of the end of fiscal 2003 stood at ¥6.3556 trillion in value terms (down 5.2% from ¥6.7032 trillion in the previous fiscal year) and 24,854 hectares in area terms (down 6.8% from the previous fiscal year's 26,667 hectares). However, a look at long-term land holdings reveals that in value terms the land they held for five years or more decreased by 1.1%, while land held for at least a decade rose 18.2% compared to the previous year. This indicates that there is a surge in the amount of land that has been left undeveloped for at least 10 years since its purchase.

Furthermore, the market value of the land owned by these public corporations is much lower than its book value, and they lack the assets to return the money they borrowed to purchase it. These debts are basically guaranteed by their local municipalities, and it is not rare for the debts of land development public corporations to become a future burden on local residents as "public non-performing assets" (in fact, in one case the town of Akaike in Fukuoka prefecture was designated as an entity requiring fiscal rehabilitation due to the debts of its land development public corporation). According to calculations made by the author (Akai and Kanasaka 2004; Kanasaka and Akai 2005) the total amount of non-performing assets [value of assets (book value)-(market value)] held by the roughly 700 public corporations of the nation's prefectures and cities stood at a total ¥2.5 trillion as of the end of fiscal 2001. While no recent estimates are available, it is highly likely that the figure has increased since land prices are still falling in most parts of the country.

The financial problems of regional housing supply corporations

Housing supply corporations were set up based on the Regional Housing Supply Public Corporation Law (promulgated and put into force in June 1965) as public housing suppliers that would play a role in implementing the housing policies of the central and local governments. At present, there are 57 such firms -- one in each of the 47 prefectures and in the 10 cities designated under the law's enforcement ordinance. As of the end of fiscal 2002 they had a total of some ¥3.4 trillion in assets and ¥3.3 trillion in liabilities. In terms of ordinary income, 37 of the 57 corporations were in the red on a flow basis, indicating that they are financially troubled. On a stock basis, all but four of the corporations are in the black, but this is because for accounting purposes they calculate the value of their assets by the book value of the time of construction, and these figures cannot be said to reflect the actual state of affairs. Of their total borrowings, local governments are responsible for compensating for about ¥500 billion in the event losses are incurred. Assets for sale that have yet to find buyers came to some ¥344.2 billion as of the end of fiscal 2002. (Tani, Mori and Kono 2003) This figure has increased due to the fall in land prices since that time, and they lack the asset value to offset liabilities. In fact, special arbitration is in progress for public corporations in Hokkaido, Nagasaki and Chiba after they fell into negative net worth. It is highly likely that many public corporations will encounter similar financial problems in the future.

The financial problems of local road public corporations

In 1970 the central government established the Local Road Public Corporation Law to promote the construction of local trunk roads, and local road public corporations were set up as the entities to implement these projects. At present, there are 43 corporations in prefectures and in cities with populations of more than 500,000. Their assets and liabilities (as of the end of fiscal 2002) stood at roughly ¥5.95 trillion and ¥3.865 trillion, respectively. In current profit terms, six corporations are in the red on a flow basis, but the rest are operating in the black. On a stock basis, all the corporations except the one in Wakayama prefecture are logging profits, but this is because they are calculating asset value at book value at the time of construction, and it is uncertain whether they will have the cash inflow to match their liabilities in future. The portion of their liabilities that exceeds their assets will have to be covered by collecting tolls for a longer period than initially planned, using taxpayer money or increasing the burden of future generations. Of their borrowings, local governments guarantee some ¥2.265 trillion -- about five times that of the housing corporations and 1.5 times that for the land corporations. Of the 145 roads nationwide, there are 20 whose income/outlay ratio on a flow basis is less than 1, and they lack the asset value (to be precise, the current value of future toll income) to offset their liabilities. Even when we look at their achievement ratios, which compare the initial estimates of vehicles that would use the roads to the number of vehicles that actually do so (Tani, Mori and Kono 2003), the figure is especially low for roads built to meet tourism demands, and in some cases the ratio is less than 20%.

The need to reform and abolish public corporations to adapt to the times, and to implement an accounting system that clarifies future burdens

The above argument focused on these three local public corporations and sorted out their internal financial problems. At a time when land prices continue to fall, there is little merit in advance land purchases. In an age where the private sector can provide an abundance of housing, there is an increasing scarcity of reasons why the public corporations must directly provide housing, and even if an infusion of policy resources is to continue, the argument that subsidies will suffice can be sufficiently convincing. In addition, while road construction is continues, it is rather the management of existing roads that is an important issue. But the private sector can be utilized in this area. This shows this serious debate is once more necessary from the basic viewpoint that the changing times have rendered the roles of the three local public corporations obsolete, and there is a need to put their reorganization and abolition within our sights.

Furthermore, as for the corporations' past liabilities, since there is virtually no hope that their profitability will rise in the future, their parent municipalities should not postpone the issue of fiscal burdens but consider disclosing the amount of their debts and seeking the decision of local residents, and see to it that they are dealt with swiftly. Under the current accounting system, even the mark-to-market accounting system, reacquisition prices are used to appraise assets. However, a comparison with the future cash inflow of existing housing and roads is necessary to calculate the real fiscal burden. There is a pressing need to set up an appropriate accounting system that assumes this.

November 1, 2005
  • Akai Nobuo (2005a), "The state and problems of local public corporations (housing, roads and land)", Financial Review, March 2005:76-123, Ministry of Finance Policy Research Institute
  • Akai Nobuo (2005b), "The wretched state of local public corporations that invites the collapse of local government finances", Shukan (Weekly) Economist, Oct. 17, 2005 edition: 91-94
  • Akai Nobuo and Kanasaka Shigemichi (2004), "The trends in the non-performing assets of land development public corporations and their causes": (1) (2), Chiho Zaimu (Local Finance), September, October editions
  • Kanasaka Shigemichi and Akai Nobuo (2005), "Estimates of the non-performing assets of land development public corporations by city and an analysis of the factors behind them", to soon be published in Ohyo Chiiki Kenkyu (Applied Regional Studies)
  • Tani Takanori, Mori Shinya and Kono Shun (2003), "The realities of the financial state of the three local public corporations", Nikkei Regional Economic Report, No. 429

November 1, 2005