Financial reform's effect on SMEs

Financial reform's effect on SMEs

By Sahala Sianipar

JAKARTA (JP): The recent Asia Pacific Economic Cooperation
(APEC) Ministerial meeting in Christchurch, New Zealand issued a
joint statement on the need to empower member countries' small
and medium enterprises (SMEs) to take more proactive roles in the
context of the region's economic recovery process. Governments in
the Asia-Pacific region have begun considering ways to increase
the level of SMEs' participation in the economic recover process.

Governments argue that SMEs have higher degrees of resilience
compared to large business, thus policy options during the crisis
should include measures that place greater priority on SMEs. The
debate on the role of SMEs has intensified in the context of the
impact of Indonesia's economic crisis. Many parties point out the
need for greater government involvement to empower SMEs, so they
can emerge as "main economic pillars" postcrisis.

The Indonesian government's plan to reposition Bank Rakyat
Indonesia (BRI) to serve SMEs, and the establishment of PT
Permodalan Nasional Madani (PNM) illustrate some of the
government's measures to develop stronger SMEs. On the other
hand, experts and many SMEs argue that a lower degree of
government intervention will contribute more positively to the
development of competitive SMEs, such as the creation of a
conducive business environment with lower transaction costs.

Despite the continuous debate on the role of the government
relating to SME development, there is one critical area that
deserves greater attention by SME policy planners, that is, the
impact of Indonesia's financial reform on the development of
SMEs. To what extent have policy planners considered the
implications of the banking restructuring program on SMEs? To
what extent have policy planners searched for "alternative"
financing mechanisms for SMEs that will not jeopardize the
macroeconomic stability for many years to come?

Indeed, most of the government's current measures on SMEs have
focused on the financing issue (for example, the introduction of
17 subsidized credit schemes for cooperatives and small
business). However, they have not answered the fundamental issue
at hand, which is SMEs' access to financing mechanisms.

Before the economic crisis, SMEs faced obstacles to obtain
equal and fair access to capital. The central bank's requirement
to allocate 20 percent of all commercial banks' loan portfolio to
SMEs was not implemented effectively due to the high cost of
funds to channel SME loans. SMEs relied heavily on self-financing
or other "independent" capital generation mechanisms (for
example, supplier credit or friends and family).

Consequently, SMEs' exposure to the current banking crisis has
been minimum. By the end of 1996, Indonesia's foreign loan
(public and private) constituted 73 percent of the country's GDP,
compared to the Philippines, 64 percent, Thailand, 63 percent,
Malaysia, 56 percent, Singapore, 15 percent, and Taiwan, 12
percent (Far Eastern Economic Review, March 1999). Large
enterprises in Indonesia and other Asian countries contributed to
the high level of foreign loan exposure in the region. These
countries, including Indonesia, must undertake a massive banking
restructuring program that will cause major downsizing in the
industry.

The current banking restructuring program in Indonesia should
aim to create a transparent, efficient and fair banking industry
for all economic actors, including SMEs. Should the banking
restructuring effort lead to the creation of a special bank
servicing only SMEs? What will it take to enhance SME access to
the banking sector?

An important outcome to the banking restructuring program
should be a higher degree of transparency, efficiency and
fairness in the banking sector. Having said that, the creation of
a special bank to service SME clients only may not bring the
desired long-term result. Banking executives know that SME loans
are more expensive than other commercial-lending programs.

Commercial banks should not be forced to channel funds to SMEs
(as in the past) because banks do not necessarily have the
capacity to do so. Commercial banks should decide, based on their
own research and recommendations, to extend loans to their SME
clients. A transparent and fair banking industry is a
prerequisite to improve SME access to banking services.
Commercial banks will realize the profitability of servicing SME
clients only if they have the capacity to administer such
programs.

An alternative to SME financing is the capital market
industry. The capital market (i.e. The Jakarta Stock Exchange as
the main equity market) should aim to position itself as an
alternative capital generating vehicle to all economic actors
including SMEs. The restructuring of the capital market industry
should contribute to enhance the level of transparency, fairness
and liquidity in the market.

While capital market authorities have joined the intensive
debate on ways to service SMEs, such as through the establishment
of two-board trading system, it is still premature to state that
the capital market can fulfill its intended mission as an
alternative financing institution. There are a series of
fundamental issues at hand, namely listing costs, structure of
ownership, market liquidity and efficiency and financial
disclosure requirements, that need to be considered as part of
the capital market restructuring effort. Can we attribute the
recent gain of share prices in Jakarta to the fundamental
recovery of listed companies? While there are fundamental reasons
for those listed firms' shares with export potential, such as in
agribusiness, to increase, there have not been any significant
change to many listed companies' fundamentals that can explain
the recent gain in the stock exchange.

The majority of listed companies are still saddled with a high
level of foreign debts that have not been restructured
successfully. Information on these companies foreign exposure
(e.g. currency and derivative losses) has not been fully
disclosed, which has prohibited successful debt restructuring.

The absence of accurate information also suggests that the
market efficiency level in the country's equity market remains
low. The low level of market efficiency increases risk level in
the market that ultimately imposes additional costs to potential
listed firms and investors. Indonesia's capital market
authorities should gradually transform the market to be more
efficient and transparent through concrete measures, such as the
improvement of financial disclosure and listing requirements to
match other international capital markets.

The capital market needs also to diversify its listed
companies portfolio, which is currently dominated by
manufacturing, property-related and financial services firms.

While the capital market industry goes through major
restructuring, policymakers should also consider ways to enhance
the growth of venture capital industry. Venture capital plays an
intermediary role for SMEs wishing to tap into the capital market
but need management and financial assistance in their early
stages of development.

Taiwan's venture capital industry has grown to be the largest
in Asia, with clients ranging from computer chip manufacturers to
biotechnology firms all over the world. A key element to a
thriving venture capital industry is a business environment with
lower transaction costs that will encourage a greater level of
entrepreneurship and risk-taking behavior. Indonesia has many
potential entrepreneurs, but the high level of transaction costs
(due to burdensome licensing procedures, excessive levies,
limited access to capital, poor competition environment and a
discriminatory tax regime) has hindered their growth potential.

The current financial restructuring program in Indonesia
should address such policy constraints if the ultimate objective
is to promote efficient and transparent financial industry
including venture capital, for the benefit of economic actors,
particularly SMEs. The growth of venture capital will have
significant contribution to the development of the Indonesian
capital market industry and SMEs.

In closing, successful financial reform will need concrete
long-term objectives, and if one of the objectives is to enhance
the growth of competitive SMEs, then the creation of a conducive,
transparent and efficient business environment is urgently
needed.

The writer manages small medium enterprise and economics
programs for a nonprofit organization in Jakarta. Opinions
expressed are his own.