IMF tells Indonesia to cut interest rate, do more to relax money supply

JAKARTA (JP): Indonesia has to allow domestic interest rates to further decline from current levels as part of a strategy to encourage an economic recovery, according to International Monetary Fund (IMF) Asia Pacific director Hubert Neiss.

He also said on Tuesday that a relaxation of monetary supply growth would be required as the demand for credit returns.

"This process has to be carefully managed so as not to jeopardize stability in the foreign exchange market and to allow some further appreciation of the rupiah," he told a gathering of business executives and economists.

Bank Indonesia has gradually allowed the benchmark interest rate its 1-month SBI promissory note to decline from over 70 percent in August 1998 to the current level of 22.5 percent.

The interest rate decline has not weakened the exchange rate of the rupiah against the U.S. dollar because of improving political and economic conditions, particularly concerning inflation rates.

Bank Indonesia has announced the target for its benchmark interest rate at between 17 and 20 percent by the year's end.

Neiss also said that an expansionary fiscal policy, with larger budgetary spending on socially related programs, like education and employment-creating investment, was also needed to achieve an economic recovery.

"The resulting fiscal deficit has to be financed by external aid so as to maintain domestic financial stability and contain the debt-service burden of the government," he said.

Neiss also said that since the banking and corporate sectors had been seriously damaged by the economic crisis, the government had to immediately focus on accelerating the restructuring of the banking system and corporate sector to revive credit flows and make the recovery durable.

"Only with successful restructuring will the banks be able to restart lending on a major scale to finance an expansion of production," he said.

The government has taken various restructuring measures including bank closures, mergers, take-overs and recapitalization.

Neiss said that the latest estimate of the country's bank restructuring cost was around 40 percent of gross domestic product.

"The restoration of a sound banking system is vital of the economy, and the large expense by the government for its recapitalization is simply unavoidable," Neiss said.

But he explained that the cost would be reduced as the Indonesian Bank Restructuring Agency (IBRA) recovers bad loans owed by businessmen to the recapitalized banks or closed-down banks.

IBRA is expected to accumulate over Rp 230 trillion mostly in non-performing loans of major domestic banks. The agency intends to reach loan-workout agreements with the bank debtors by the end of August, or otherwise start litigation measures.

IBRA is currently focussing on restructuring bad loans owed by the country's 200 largest debtors, mostly companies belonging to well-connected businessmen.

Neiss said that the restructuring of the corporate sector would focus on restructuring its domestic and external debts, as well as management restructuring and eliminating excess capacity.

"Only with progress in corporate restructuring will corporations find lenders willing to finance new investment," he said.

Neiss stressed the importance of a credible bankruptcy court to accelerate corporate restructuring, saying both creditors and debtors understood they would lose if bankruptcy and liquidation proceedings are taken only as a last resort.

"A credible bankruptcy court cannot be achieved overnight, and a sustained effort must be made to push ahead with the measures the government has already initiated," he said.

Neiss said the government's macroeconomic stabilization policy and the bank and corporate restructuring programs had showed some positive signs, including a strengthening of the rupiah, declining interest rates, lower inflation, and positive output in the first quarter of this year.

"While we're not out of the woods yet, there is every reason to believe that, with the return of political stability, Indonesia's recovery will catch up with the rest of Asia. The most important reason for this belief is that there is a broad consensus across the political spectrum of the recovery strategy," Neiss said, pointing particularly to bank and corporate restructuring programs.

The IMF's first managing director, Stanley Fischer, held a marathon meeting on the weekend with Indonesia's top political leaders, who assured him of their commitment to the IMF-sponsored economic programs.

"The recovery should not make us complacent or overconfident, and lead to a return of business as usual," Neiss warned, pointing out that more measures would have to be introduced that would make the economic system more efficient, resilient and egalitarian.(rei)