Bank borrowing curbed

Bank borrowing curbed

The central bank is strengthening its monetary management by toughening the restrictions on foreign borrowings by Indonesian banks. The measure is obviously designed to maintain prudent debt management to prevent further stresses on the balance of payments and to ensure adequate capacity for future debt repayments.

A March 26 ruling by Bank Indonesia obliges banks to allocate at least 80 percent of their foreign borrowings of more than two years maturity as credits to export-oriented industries. The regulation also requires banks to submit annual foreign borrowing plans to the central bank and to report on the amounts of foreign loans they receive. Foreign borrowings by banks are limited to a maximum 30 percent of their capital base.

The country badly needs steady private capital flows, either in the form of foreign direct investment and portfolio capital and loan funds or borrowings to cover the large current account deficit. But these funds will only bring about benefits to the economy if macroeconomic management remains prudent, economic fundamentals remain strong and foreign funds are used efficiently in productive activities.

Without these preconditions, the capital flows will make the country highly vulnerable to periodical waves of currency speculations, usually triggered not by concerns over economic fundamentals but wild political rumors. And the political rumor mill is expected to be especially active this year.

But a cap on offshore commercial borrowings, especially short- term bank borrowings, is still warranted in view of the sharp increase in the foreign debts of the private sector over the past five years. While the government's outstanding foreign debts have declined steadily due to the prepayment of high-interest loans, the private sector's debts have risen sharply.

In the 1994/1995 fiscal year, for example, the service burden on government debts amounted to 17.7 percent of total export earnings and on private-sector debts only to 13.4 percent. But last year, the debt-service ratio (against export earnings) for the private sector had reached 15.1 percent, compared to 14.1 percent for the public sector.

The government therefore needs to curb banks' foreign borrowings to maintain prudent debt management, and to prevent the current account deficit from worsening. The current account deficit is already predicted to reach 4 percent of gross domestic product this year.

But capping offshore loans is not enough. These loans should be used for productive activities and, in this context, the export industry is surely the most appropriate sector to receive foreign loans. A larger export capacity would help maintain the debt service ratio against export earnings at a manageable level.

Misallocation of foreign loans is particularly dangerous for Indonesia. Foreign debts have reached $110 billion -- $56 billion owed by the government and $54 billion by the private sector -- as of early this year. The danger is larger if the loans are used for such speculative purposes as property acquisition.

Hence, the requirement for banks to allocate a minimum 80 percent of their offshore loans as credits to the export industry will ensure that any new borrowings will not cause major problems in the future. This also will prevent the economy from overheating.

Indonesia's credit standing in the international market will decline if the debt service ratio and the current account deficit continues to increase. This in turn, will increase the risk of lending to the country, thereby making it much dearer to obtain new loans. The latest ruling will improve the central bank's capacity to maintain monetary stability, especially in this heavily political year where periodic bouts of currency speculations are expected.