Last month, senior financial newspaper the Nikkei Financial Daily wrote that the WorldCom and Enron affairs showed a striking similarity to the collapse of confidence after the bursting of twin stock market and real-estate bubbles in Japan in 1990.

The Japanese newspaper found parallels between the corruption surrounding Enron and an early 1990s scandal in Japan in which brokers made pay-offs to favoured clients who had lost money on stocks, in a unique form of hedging that was manageable as long as Japanese equities were booming. As the market slumped, such practices began showing up on the bottom line of major brokerages. The head of Nomura Securities, then the world's largest brokerage, resigned in disgrace, along with many colleagues.

'These phenomena point to the probability that the US economy is following the typical pattern of the bursting of a bubble economy,' journalist Masataka Maeda wrote.

A new book on the shelves of Tokyo bookstores, 2003 Depression in Japan and the US argues that history is repeating itself. Its author, Kazuo Matsumoto, harks back to the Great Depression. He claims that in the late 1920s, US stocks peaked 10 years after a peak in the Japanese market, followed in both cases by a collapse. He thinks the same thing is happening now, so that the US is moving into a structural recession just as Japan did a decade ago.

The question of who is on the bottom of the global economy has a seductive, if queasy fascination. Japan has shown some sparks of life in recent months, with a weak yen fuelling an export surge that has spilled over into real economic growth.

In the first three months of the year, the Japanese economy grew at an annualised rate of 5.7 per cent. The global market turmoil of the last month has left Japan looking better than could be expected. The economy is like a car that was wrecked 10 years ago, gets into another accident, yet still putters along.

The banking system has been at the brink of meltdown twice in the past six months, as the Nikkei-225 Index fell below 10,000. Neither time has the predicted crisis come about. When markets reach this level, it renews pressure on the expanding mass of bad debt, Japan's biggest problem.

Last week, for example, when the Nikkei index was languishing around 9,600, it put Japanese banks at risk of falling below the capital adequacy ratio of 8 per cent mandated by the Bank of International Settlements. At a Nikkei level of 9,000, stock losses start eroding capital.

The risk of Japanese financial meltdown has been around so long that if there were a crisis, the world might fail to react out of sheer boredom.

Yet, the fact is Tokyo has developed a system that keeps its banks perpetually safe from both reform and collapse, as long as Japanese depositors do not take the logical course and panic. The Japanese savings rate and the current account surplus remain high enough to continue bailing out the banks at least long enough to keep employment levels up in the banking sector while the banks slowly undertake reforms. The strategy is one pioneered by Japan's Ministry of Economy and Trade in the 1970s, with Japan's so-called sunset industries such as textiles and smelting.

It does not work very well with banks, however, unless over-staffing is a measure of performance.

In 1998, when the emerging markets crisis and global market implosion forced Japanese banks to the brink, Tokyo responded by nationalising the Long-Term Credit Bank and Nippon Credit Bank. After that fiasco, the government introduced a recapitalisation scheme in which it became a major investor in preferred shares of the banks, with a trigger clause that turned them into voting shares if the banks failed to meet interest payments for three months. It has never been used, however, and few believe in its threat.

Instead, in Japan, 'moral hazard', as it was dubbed by former US Treasury Secretary Lawrence Summers, has become a way of life. In a separate package enacted in 1999, Tokyo set up a 15 trillion yen (about HK$974.8 billion) safety net for the banks in the event of a crisis, also unused, but a good way to convince the market that the government will step in if any real crisis emerges.

ING Barings Tokyo banking analyst James Fiorillo said: 'The banks are irrelevant to the growth of Japan at this time.'

That is not entirely true - they are doing damage particularly to the small business sector, although Japan's export-driven multinationals are sufficiently cash rich to fund expansion out of retained earnings.

The weak Japanese economy means the debt overhang keeps getting larger. Mr Fiorillo estimates that non-performing loans now total 37 trillion yen in the 'big four' banks - Mizuho, Mitsubishi-Tokyo, UFJ, and Sumitomo Mitsui. That amount compares with 11.6 trillion yen reported in Japan's Nihon Keizai Shimbun, the authoritative business newspaper, in May last year.

Compared with Japan, the US seems like a model of creative destruction - putting dishonest executives behind bars, coming up with new legislation to improve accounting standards and corporate governance, and letting massive bankruptcies such as WorldCom and Enron work their way through the system.

China's lesson to both superpowers is that the time to build in good corporate governance, market-based efficiency and old-fashioned honesty is when an economy is growing, not when it is in contraction. China is building in transparency and competition to its financial system at a time when it can afford it.

Beijing may have rued the market environment of its listing of Bank of China Hong Kong (Holdings) last week, but it went ahead. It was a test of leadership as well as a fund raising venture, a vote for reform when the combination of high domestic savings and runaway exports means China can meet most of its capital needs domestically.

Graphic: tok02gbz