Financial intermediation still faces barriers

The Jakarta Post, Malang, East Java

Persistently high business risks, low business confidence, inadequate expertise in lending to small and medium-scale firms, and the big sums of bad corporate debts that have yet to be restructured seem to stand in the way of expansive bank lending despite increasing monetary stability.

Bank Indonesia governor Burhanuddin Abdullah again raised the issue of the slower-than-expected pace of bank lending and persistently high credit interest rates, even though the central bank has steadily eased its monetary policy by lowering its short-term benchmark interest rate to as low as 9.2 percent from almost 13 percent earlier this year.

Burhanuddin noted in a speech at the 15th Congress of the Indonesian Economists Association on Monday that the central bank's monetary policy had not yet created a symmetric impact on the real (business) sector, due to a host of problems still besetting the business world.

"Quite a large portion of the huge sum of new credits already approved by banks has not yet been disbursed," Burhanuddin said.

Panelists at the congress pointed out that despite the much acclaimed macroeconomic stability, creditors still attached high risk premiums on businesses in Indonesia due to the slow pace of structural reform.

Halim Alamsyah, one of the panelists, noted that since many big businesses had yet to restructure their debts, there were not yet many creditworthy borrowers around into which banks could plough their excess liquidity.

Small and medium-scale businesses do grow significantly, but most banks lack the expertise in lending to these kinds of enterprises, Alamsyah said.

"Declining business confidence is also responsible for the slow expansion of bank lending, as can be concluded from the big portion of pledged credits remaining undisbursed," he said.

He also noted another basic problem the banking industry has faced since the 1997-1999 banking crisis.

Most banks, Alamsyah said, lost the credit profiles of most of their old clients after their bad loans were transferred to the Indonesian Bank Restructuring Agency, so they now lack what banking analysts call "information capital" to assess the feasibility of loans.

Alamsyah said most banks now had excess liquidity but they preferred to invest their funds in liquid financial assets such as government bonds, mutual funds and Bank Indonesia's certificates of deposit in order to avoid risk.

Alamsyah and three other analysts from Bank Indonesia also noted in a research paper that the fragile condition of the banking industry and the corporate sector, as well as the still ineffective intermediation function of most banks, made monetary management much more difficult now.

Consequently, they said, the central bank's monetary policy, be it contractive or expansive, most often failed to create a symmetric effect on the banking industry.

Citing an example, they pointed to the persistently high credit interest rates (more than 18 percent for working capital loans) despite the steep decline in the central bank's interest rate.

Most banks have not lowered their credit interest rates because the decline in the central bank's benchmark interest rate cut into their income from government bonds. In order to maintain their revenue, the banks decided to maintain their credit interest rates.

The analysts also cited the risk of an unstable currency as a result of the placement of most of the banks' excess liquidity into financial assets.

If banks continue to keep most of their excess liquidity in financial assets, especially now when foreign portfolio capital has begun to flow into the country in significant sums, the rupiah could be vulnerable to instability.

If, for example, the differentials between domestic and foreign interest rates become much smaller or if there is political turbulence, the excess liquidity could easily attack the rupiah by flying to safety (buying dollars or other foreign currencies).

"It is therefore important for the central bank to consistently soak up the excess liquidity in order to minimize the risks of speculative attacks on the rupiah," the analysts said.

But this step should be made in such a way so as not to stifle the economy, because the impact of a tight monetary policy is much more devastating when banks and most companies are still fragile compared with the effects of a credit crunch pursued in a relatively normal situation, they said.