The Coming Week in Asia: Dark Clouds Cast a Shadow over the Land of the Rising Sun

TOKYO -- Japan's economy, which in recent months had shown signs of awakening, was hit by a double whammy this week, a one-two combination that battered an already-reeling banking sector.

On Thursday,

Moody's Investors Service

placed Japan's sovereign debt rating of Aa1 on review for a possible downgrade. Moody's had already slashed Japan's rating from the top Aaa post in November 1998. The government's massive spending spree to prop up the economy -- which has boosted public-sector debt to an expected 130% of GDP in 2001 -- is catching up with its sovereign debt rating. Nevertheless, a host of government officials cried foul, saying Moody's action did not accurately assess the government's efforts to revive the economy. Taichi Sakaiya, head of the

Economic Planning Agency

, dismissed the Moody's announcement as an attention-grabbing "performance."

Meanwhile, Tokyo governor Shintaro Ishihara, a well-known thorn in the ruling

Liberal Democratic Party's

side, rankled the government by announcing a new tax plan to stem the flow of red ink and reverse Tokyo's low tax revenues. His plan would slap a 3% local tax on the gross profits of Tokyo's major banks over the next five years.

The tax will hit banks such as

Daiwa Bank

and

Tokyo Trust and Banking

, which hold high overhead and credit costs relative to gross profits. Depending on the bank, the new tax could cut pretax income by 3% to 20%.

"Japanese banks recorded higher credit costs than net operating profits for the first half of fiscal 1999," Naoko Nemoto, banking analyst at

Standard & Poor's

said. "Credit costs will probably consume much of the banks' core profits for the next couple of years, which means they will face another hurdle in improving their financial profiles to the level of their international peers if the tax plan is passed."

Tokyo's metropolitan assembly will begin debating the new bill Wednesday, and local reports say it could be approved in a matter of weeks. If enacted, the new law would become effective April 1.

Not surprisingly, the Moody's review and the tax plan affected bank shares. The

Nikkei

bank index has already dropped 10% over the past two weeks; expect investors to continue fleeing the banking sector.

In contrast to their Japanese counterparts, Hong Kong bank shares show a slightly rosier picture, with most banks expected to post handsome earnings from last year. A slew of earning reports for the year ending Dec. 31, 1999, is slated to hit next week, including

Standard Chartered (Hong Kong)

on Wednesday,

Citic Ka Wah Bank

on Friday, followed by

HSBC

(HBC)

and

Hang Seng Bank

(HSNGY)

on Feb 28.

After a tumultuous couple of years, profits for Hong Kong banks are expected to rise by 30% to 60% this year, according to

Salomon Smith Barney

. The firm singles out

Dao Heng Bank

,

Wing Hang Bank

(WGHGY)

and

Bank of East Asia

(BKEAY)

as its top picks since they are involved in Internet ventures.

One problem facing Hong Kong banks, however, is the rise in U.S. interest rates. Since the island's currency is pegged to the U.S. dollar, any rate rise in the U.S. means higher rates at home. That's why Salomon says it is underweight in the Hong Kong banking sector right now.

Since

U.S. Federal Reserve

chairman

Alan Greenspan

this week suggested more U.S. rate rises are to come, those holding Japanese and Hong Kong bank shares may want to reassess their investment strategy, or risk getting slammed again.