Campaigning in the 2007 Tokyo gubernatorial election has covered everything from nationalistic songs and unpopular Olympic bids to secret missile defence, fish markets and the pruning of cherry trees.

Yet there is a gaping hole in the shtick of the 14 candidates fighting to become the governor of 13 million people: not one of them has mentioned the clouds gathering over Tokyo’s status among the “big three” global financial centres.

For years, Tokyo’s markets have basked in the advantage of raw size. The city hosts the world’s biggest bond market and, after New York, the second-largest equity market, by capitalisation and trading volumes. Market size alone has seen Tokyo through Japan’s long economic slump, a crippling banking crisis and a string of Enron-esque accounting scandals.

However, many market players say, other Asian centres are beginning to cast a shadow. Hong Kong is thriving both because of its proximity to China and its Western-style corporate legal system. Rob Morrison, chief executive of CLSA Asia Pacific Markets, says that in actively attracting regional hedge funds “Singapore has left both Hong Kong and Tokyo far behind”.

The growth of Hong Kong and Singapore has exposed many of Tokyo’s shortcomings — shortcomings that could long be ignored by international investors because they were outweighed by the opportunities on offer. As Hong Kong and Singapore strive to entice with bigger and better opportunities, Tokyo’s faults appear more sharply defined.

The problems with Tokyo range from relatively superficial issues, such as language problems and the distance between the city centre and Narita airport, to more fundamental difficulties, such as the routine leaking of sensitive financial information, the inconsistent enforcement of market rules and what one fund manager described as companies’ “hideously drawn-out quiet period” at the end of the financial year.

Despite the apparent political disinterest in Tokyo’s continued membership of the global big three financial centres, Japan has begun to change. It has been driven by two of Japan’s most powerful regulators — newly aggressive bureaucratic machines whose staff, remits and budgets are expanding in an otherwise shrinking civil service.

Between them the Financial Services Agency and Japan Fair Trade Commission are fighting what they see as a belated action to make Tokyo as clean, fair and transparent a financial centre as possible. In the course of that effort, Kazuhiko Takeshima, chairman of the JFTC, says, “we have become a regulator to be feared”.

Leading the charge is the FSA, the agency responsible for hauling Japan’s banking system out of its bad loan crisis three years ago. With that problem solved, it has redefined its role and channelled its swelling resources into what Hirofumi Gomi, its commissioner, told The Times is a quest to make Tokyo “neither too strict nor too loose, and inviting to international participants”. To this end, Mr Gomi has begun an unprecedented recruitment drive from the private sector. Lawyers, auditors and experts from the property industry are at the top of his list.

“We have to be better than we were,” he said. “We really need better weapons in this fight. I want a bigger selection of potential actions against banks and auditors — fines would be fine.”

The JFTC is fighting on a more philosophical level. Charged with stamping out the common practice of bid-rig-ging, Mr Takeshima believes that his agency has a key role in making Japan Inc appear fairly run to outsiders. “In Japan, most people used to see bid-rigging as a necessary evil. The job of the JFTC is to persuade everyone that it is not a necessary evil, but just a plain old evil,” he says.

Armed with a legal arsenal of dawn raids, fines and a sophisticated incentive programme for whistleblowers, Mr Takeshima believes that “as far as transparency and deregulation goes, Japan has reached the same level as the US and EU. When I look out at all the new, fancy skyscrapers in Tokyo, they have foreign financial institutions renting them. Tokyo’s attractiveness has recovered.”

Nevertheless, most observers agree that the biggest single threat to Tokyo’s continued position in the “big three” financial centres comes from its own stock exchange — the massive, creaking bourse whose recent failures have tarnished Japan’s international standing. In the past two years the Tokyo Stock Exchange (TSE) has allowed a £200 million trading error, two outright system shutdowns and several months of shortened trading hours. More distressing, investors say, is the opacity with which decisions are made.

Mr Gomi believes that the exchange’s year-long search for a new president has come up with the right man. Atsushi Saito, he said, has the right relationship with the new, tougher FSA to transform the exchange.

“I know that Mr Saito is keen to strengthen the regulatory function of the TSE — we expect the exchange to be much more powerful under him,” he said.

What they say

“We are feared now. Companies have realised that they have to start caring about fair trade issues. In the past they didn’t and now they risk being exposed. We have the weapon that chief executives fear most — arrest”

Kazuhiko Takeshima, Japan Fair Trade Commission chairman

“Amid the globalisation of exchanges, we have to become better at giving information to foreign institutions about how the FSA operates. We have to be better, because we risk being misunderstood”

Hirofumi Gomi, FSA commissioner

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