Bigger threats to growth

Bank Indonesia's first quarterly report for this year confirmed what most private-sector analysts have predicted, but something the government refused to fully acknowledge at least in its pronouncements.

The pace of economic growth, the report said, slackened to 3.2 percent from 3.8 percent in the same period last year due largely to a weakening consumer demand. This validated the finding of the Danareksa Research Institute survey that consumer confidence in February fell to a historic low as people became more pessimistic about the government's ability to spur higher growth.

Yet more ominous is the central bank's warning of several factors, which, if not well managed, could further depress the growth rate even to less than the 3.6 percent expansion achieved last year.

This means the first quarter expansion, though already slower, has not yet reflected the impact of the war in Iraq, the uncertainty which has prompted most businesspeople to put on hold investment plans and the higher security risks that have increased the costs of doing business.

Hence, even though the macroeconomic conditions remains by and large stable, with the rupiah continuing its slight appreciation against the American dollar, inflation fully under control and the central bank's benchmark short-term interest rate down to 11.4 percent, the developments ahead are full of high risks.

Adding to the risk of a worse economic outlook for this year is the epidemic Severe Acute Respiratory Syndrome (SARS) that was not factored in the central bank's quarterly analysis.

Fears of SARS infection have led to cancellations of business and leisure trips, conferences, trade shows and numerous other public events, further weakening private consumption.

Short-term assessments of the impact of SARS still focus on the harm likely to be inflicted on the industries most directly affected such as businesses associated with tourism, retail outlets and restaurants. But as local companies in China, Hong Kong, Taiwan, Singapore and other affected countries adopt a siege mentality and the basic operations of businesses are stymied by fear and an unwillingness to move about, many worry that the pain could send ripples throughout the region's economy.

In view of the interdependence of national economies, ripples of the epidemic are wreaking havoc not only in Asia but are reaching almost across the world. No wonder, some economists see SARS as the gravest economic threat to Asia since the financial crisis that tore through much of the region in late 1997.

The Indonesian economy could be affected immediately by way of trade, given the country's expanding economic ties with China, Hong Kong, Singapore and Taiwan. For example, Indonesian manufacturing companies may find it much more difficult now to procure basic materials, parts or components from suppliers in those countries.

The compounding impact of the uncertainties caused by the war in Iraq and the SARS epidemic now makes it more difficult for the government to maintain macroeconomic stability, let alone to promote exports and stimulate a higher pace of investment to offset the decline in private consumption, which has thus far been the main locomotive of the economy.

The two external factors -- war in Iraq and SARS -- that are affecting the national economy are beyond the government's ability to control. But it can help contain the potential damage by taking more concerted efforts to remove the host of domestic problems, which have been eroding the competitiveness of local businesses.

The government has been fully aware of bureaucratic and regulatory barriers, weak law enforcement and overly rigid labor regulations that have been stifling the business sector. What is urgent and imperative now is a stronger determination and better coordination on the part of all branches of the government to address those problems.

Without significant progress in these structural reforms, the business sector will remain highly risky and an inimical business environment is a threat to the banking industry, which is still in the early stage of operational restructuring after its massive recapitalization.

Just witness how bank corporate loan expansion has remained very slow even though most banks are now awash in excess liquidity. The interest rate on working capital loans stays as high as 18.5 percent and investment credits in excess of 17.8 percent despite the steady decline in the central bank's interest rates.

Even though the government now controls all the largest banks, it cannot simply instruct them to expand their lending. The most effective way of stimulating credit expansion is by decreasing the domestic risk factors to allow for reasonable calculation of business risks.

But banks will remain averse to credit expansion if the business condition is unusually risky because an inimical business climate heightens the risk of business failure and, consequently, the risk of bad loans.