Ban on Covering Investors’ Losses Makes Gains in Japan : Scandal: The ruling party endorses the bill, but critics call for even stronger controls on the securities market.

A bill that would prohibit financial firms in Japan from compensating customers for their investment losses--a practice that led to a securities market scandal--won the endorsement of Japan’s ruling political party Tuesday.

Meanwhile, Japan’s minority parties and government critics continued to call for stronger reform.

The legislation, prepared by the Ministry of Finance, was approved by the Liberal Democratic Party. The go-ahead enables the ministry to submit the bill to Parliament this month.

The action is part of an effort by Japan’s leaders to restore confidence in Tokyo’s markets after disclosures that more than 20 securities firms--including Japan’s top four brokerages--compensated favorite clients for investment losses, a benefit not extended to ordinary investors.

Some of Japan’s securities firms and banks have also been accused of manipulating stock prices, maintaining ties with criminal elements and engaging in risky banking practices that led to fraud.

Under current law, financial firms in Japan are prohibited from promising to cover client losses. It is also illegal for firms to guarantee a certain return on investment. There is no law prohibiting financial firms from compensating clients if no guarantees of compensation or investment return are made. Such compensation does violate a 1989 Finance Ministry directive.

Critics say the Finance Ministry failed to enforce the directive because of its close ties to the securities industry.

The Liberal Party’s rival, the Japan Socialist Party, was among those Tuesday continuing to call for an independent securities watchdog agency. The Socialists contend that the criminalization of compensation is insufficient to prevent further scandals.

Under the draft law, brokers and banks who compensated customers for investment losses would face up to a year in prison or a $7,300 fine.

Some observers of Japan’s securities markets said the proposed punishment is too mild to be effective.

“The proposal is fairly scandalous because the fine is not much of a deterrent, and very few people typically go to jail for this kind of offense,” said Robert Zielinski, an analyst at the Tokyo office of Jardine Fleming.

Zielinski, author of a book on the Japanese stock market called “Unequal Equities,” said establishment of an independent securities regulator is unlikely. “The Ministry of Finance does not want to give up its power,” he said.

Other observers believe that a watchdog agency will be created. David James, an international business law expert at the East-West Center, an Asian affairs think tank in Honolulu, said an agency is probable because foreign investors want more accountability in Japan.

If an independent watchdog agency is not created, rival parties will probably continue to try to make political hay by raising the securities scandal issue, said Larry Emond of the Tokyo-based Japan Management Assn. Research Institute, a business research organization.

Said Emond, president of the institute’s San Diego-based American subsidiary: “The rival politicians want to upset the back-door financial relationships that support the current power structure in Japan.”