Govt to blame for state of banking industry

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.