In Japan today, public financial system or policy−based financial institutions are under drastic reforms. For a
better implementation of the reforms, this paper proposes new rules in which state owned institutions can complement the roles of private financial institutions for small and medium sized enterprises. In the rules, and in view of the actual situation in Japanese financial system, direct loans of policy−based financial institutions ought not to be abolished. Instead, they should be limited to such cases as private institutions can’t judge future result of their lending due to their screening ability which is lower than that of policy−based financial institutions. Concerning credit insurance activities, easy promotion of policy−based financial institutions’ securitization support or guarantee activities should be avoided. This is becanse it would bring about much danger of losses than the case of housing loan because of its more complicated screening process.