Govt to blame for state of banking industry

The government has decided to take over shares in four ailing banks under its scheme to restructure the country's banking industry. Economist Kwik Kian Gie discusses unfairness in the valuation of the banks' assets.

JAKARTA (JP): The banking industry started to decay in 1990 but the government, in spite of repeated warnings from analysts, failed to take the necessary measures to prevent it from further collapse.

Now that the damage has been done, the government must take legal measures as fairly as possible against all personnel responsible for the damage, without distinguishing whether they are bankers or debtors, indigenous or nonindigenous, cronies or otherwise. Legal treatment should also be fair for both privately owned and state-owned banks.

The latest phase of the industry's free fall has been partly caused by the government's failure to tackle head on the sharp depreciation of the rupiah against the U.S. dollar since July 1997.

Instead of directly addressing the exchange rate system, the government dealt with matters surrounding the system, as if it were just dancing around the real problem.

As a result, the rupiah lost more than 80 percent of its value and industrial companies, particularly those largely dependent on imports, collapsed one after the other. In such a situation, they failed to service their debts and their creditor banks, therefore, began to face financial difficulties.

With the liquidation of 16 banks last November by the government without any guarantee for the repayment of deposits and savings, depositors no longer trusted the banking industry and rushed to withdraw their deposits from domestic banks.

Bank Indonesia, the central bank, then printed a lot of money (up to Rp 140 trillion or US$11.6 billion) and injected it into banks affected by the rush. Such a measure caused inflation to surge.

In response to the high inflation, the central bank raised interest rates on its promissory notes, SBI, up to 58 percent per annum, driving commercial banks to increase their lending rates up to 70 percent per year. The high interest rates further affected industrial companies, particularly those highly dependent on bank loans.

So, the blame for the damage to the banking industry should not be put on the banks or their borrowers but on the government, instead, which has no capability to manage the country.

Another problem is now also being encountered by shareholders of publicly listed banks whose operations the government have suspended. Public investors holding the shares of Bank Dagang Nasional Indonesia (BDNI), for instance, have suddenly found that the value of their shares is now less than that of toilet paper because the Jakarta Stock Exchange has suspended their trading, while the funds of shareholders are not guaranteed by the government.

Frustrated that a lot of its funds could not be recovered from the ailing banks, the government decided to take over their assets instead. But the government was surprised to find out that the banks' assets were worth only about 4 percent of the value they had claimed. The government, therefore, decided to acquire the assets of companies affiliated to the banks.

Will the government be able to manage all the banks and their affiliated companies? Yes, because its ownership of the banks and companies will be temporary and it will soon sell them again (at discounted prices?) to foreign investors.

Why did the government find that the value of the banks' assets was so small? That is because it hired foreign accountants who are not necessarily clever or wise. The accountants, using a certain method, valued the assets as nil or merely 10 percent.

Differences in the valuation of assets can occur because the banks and their affiliated companies have been using Indonesian accounting standards for years, while the government's foreign accountants use a different standard which has never been disclosed transparently.

However, some sources said that the government's accountants have arbitrarily adopted a discounted cash flow method -- under which the value of assets is calculated on the basis of the net present value of their future cash flow -- without considering that Indonesia is now experiencing a very serious economic depression and stagflation (a combination of growth stagnancy and high inflation).

In determining future cash flow, the accountants just extrapolated the current cash flow, which is surely very bad due to the economic depression. The estimated future cash flow of a high-rise office building on Jl. Sudirman, for example, is considered nil because its current cash flow is nil during this period of economic inactivity.

There are actually many different ways in valuing the assets of companies, depending on whether they are still operating, whether they will be liquidated/sold out, whether they will be sold through normal marketing procedures or auctioned off and whether the assets will be sold as a whole in a package or separately.

The discounted cash flow method is commonly used to value the assets of companies' going concerns but the determination of the future cash flow is not based on the extrapolation of the current cash flow which is affected by economic depression. If a company is no longer in operation, its assets should be valued on the basis of liquidation prices agreed upon by a potential buyer who will be able to revive it.

If the government wants to recover its funds from the ailing banks or convert the funds into shares, it should regard them and their affiliated companies as corporations which are going concerns on the assumption that the economy will improve in the medium to long term and that different treatment should be determined on a case-by-case basis.