Indonesia signs new Letter of Intent with IMF
Indonesia signs new Letter of Intent with IMF
The following is the first part of the complete text of the new Letter of Intent signed by the Indonesian government and the International Monetary Fund on Thursday. The second part of the text will appear on Friday.
Jakarta, Indonesia
January 20, 2000
Government of Indonesia and Bank Indonesia
Memorandum of Economic and Financial Policies Medium-Term Strategy and Policies for 1999/2000 and 2000
I. INTRODUCTION
1. With the completion of Indonesia's political transition, and the election of a government with a wide popular mandate, Indonesia now has an historic opportunity to join its neighbors in a strong recovery and enhance the wellbeing of the Indonesian people.
2. Much was achieved under the previous extended arrangement when Indonesia made significant progress in restoring macroeconomic stability, dealing with the financial crisis, advancing structural reforms, and assuring food security. The macroeconomic achievements include the elimination of inflation, the stabilization of the rupiah, and recovering foreign exchange reserves. The financial sector has begun to stabilize, interest rates have fallen below pre-crisis levels, and bank restructuring and recapitalization have started.
3. However, much remains to be done to revive the real economy and lay the foundation for a sustained recovery that would increase employment, reduce poverty, and assure equality of opportunity. These challenges constitute the principal agenda of the State Policy Guidelines that have been approved by Indonesia's democratically elected Parliament. Based on these guidelines, the government has now adopted a comprehensive economic program that would accelerate the restructuring of Indonesia's economy and meet these challenges.
II. MEDIUM-TERM ECONOMIC STRATEGY
4. The medium-term strategy has four main planks. First, to make the macroeconomic policy mix fully supportive of recovery while entrenching basic price stability. Second, to reinvigorate bank, corporate, and other restructuring policies, which are crucial to sustaining an economic recovery accompanied by lasting poverty reduction. Third, to rebuild key public institutions, thereby strengthening Indonesia's capacity to implement economic and social policies with popular support, transparency, and good governance. Fourth, to improve greatly natural resource management, arrest the long-term deterioration in the environment, and ensure the sustainable use of natural resources for future generations.
A. Medium-Term Macroeconomic Framework
5. The strategy envisages restoring a growth rate of 5-6 percent over the medium term, and Bank Indonesia (in the context of the new Central Banking Act) has adopted a target of keeping inflation below 5 percent annually. Although the external current account would weaken over the next several years, as investment picks up, official financing and improvements in private capital flows (including the return of flight capital) should readily offset the decline in the current account surplus. We are confident that the need for exceptional balance of payments financing would be eliminated by the end of the program period, while the import coverage of liquid reserves would be maintained at about six months. The government debt-to-GDP ratio should decline from its recent peak of about 100 percent to about 65 percent by 2004, helped by falling interest rates and IBRA's asset recovery.
6. Key to attaining these objectives will be a range of fiscal reforms, affecting both revenues and expenditures. These reforms will be introduced concurrently with implementing fiscal decentralization by June 2001, consistent with the Regional Governance and Fiscal Balance Laws, and without increasing the General Government deficit.
B. Restructuring Policies
7. Financial and corporate reforms lie at the heart of the program, and the government is resolved to carry these forward in an integrated and coherent way. The strategic objectives of our bank restructuring program are four-fold: (i) capitalize all banks to at least 8 percent CAR by end-2001, as a precondition to the eventual replacement of the comprehensive guarantee by self- financed deposit insurance; (ii) ensure that the banking system is restructured at minimum public cost; (iii) enhance supervision and instill much improved governance in the banking sector; and (iv) deepen bond and equity markets, allowing dependence on bank finance to be reduced.
8. In tandem with bank restructuring efforts, corporate restructuring needs to move ahead with much greater momentum in order to restart credit flows that are needed to sustain the recovery. This will require changing the incentive structure faced by corporate debtors and strengthening the institutional structure for corporate restructuring.
The government intends to do this by giving new political leadership and direction to the corporate restructuring strategy, improving the implementation of the bankruptcy law, enhancing the governance framework in the judiciary, instructing IBRA to intensify implementation of its sequenced strategy toward its corporate debtors, and strengthening procedures for non-IBRA-led restructuring.
9. To ensure that the benefits of economic recovery are widely shared among the Indonesian people, the strategy includes a wide range of structural measures. Thus, reforms to strengthen agriculture, increase the opportunities to the small scale sector, improve targeted spending programs, and upgrade the human infrastructure will help ensure that recovery is accompanied by sustained poverty reduction. They will be supported by measures to deepen competition in the economy, inter alia, through the restructuring and reform of the state-owned enterprises, especially in the energy sector.
10. In particular, the program for the reform and privatization of the state-owned enterprises represents a central element of the government's broader strategy for improving the performance of the public sector, and enhancing overall corporate competitiveness. While privatization is expected to generate considerable revenues over the coming years, and support public debt reduction, this is not seen as its sole objective. Rather, the ultimate objective of the privatization program is to create efficient and viable enterprises. In all instances, privatization will be undertaken transparently using best practice procedures.
C. Rebuilding Economic Institutions
11. There is widespread consensus in Indonesian society that key economic institutions need to be rebuilt or strengthened in order to command the trust of the people and allow the smooth implementation of the medium-term policy agenda. Insufficient attention to institution building over a long period led to a steady erosion in the governance framework for economic and social activities, contributing to the depth of Indonesia's financial crisis, and burdening the recovery process.
Reversing this situation will not be easy; our early priorities will be in the public sector (fiscal management and civil service reform), financial sector (IBRA, the state-owned banks, and the regulatory and supervisory institutions), the judiciary, and the institutions responsible for corporate governance.
12. The task of improving governance in fiscal management is vast and complex, and crucial to regaining public confidence as well as sustaining fiscal adjustment and public debt reduction. The tax system needs to be reformed to ensure that it is broad-based, nondistortionary, equitable, and transparent. Tax administration has to be overhauled to ensure that regulations are implemented faithfully and in an even-handed manner.
The governance of spending programs must be greatly improved and the allocation of funds redirected toward poverty alleviation to promote interregional equity and increase efficiency in the provision of public goods. Fiscal transparency needs to be enhanced by identifying and auditing off-budget activities and bringing them under the consolidated budget. Wages to public servants need to be increased, in line with improved governance and within the government's fiscal capacity, so as to create a more professional civil service with high standards and integrity.
13. Implementing fiscal decentralization will require new institutions which will need to work in close consultation with regional authorities and civil society. A Consultative Regional Autonomy Council will be established shortly to oversee implementation of decentralization. A grants administration (a Fiscal Balance Secretariat) will be established to design the rules for transfers. The Ministry of Finance has been designated as the lead agency for implementing all fiscal aspects of decentralization, in consultation with the Fiscal Balance Secretariat. A full-time fiscal decentralization advisor is being appointed to the MOF. The accountability of lower levels of government will need to be developed, and the regional tax base increased; toward these ends, a review of tax legislation and administration has been launched, and regulations for regional financial management will be developed by June 2000. A central database for regional government financial information will be established to support central policy formulation.
14. The newly independent Bank Indonesia (BI) has a great responsibility to support the recovery, by maintaining price stability, rebuilding bank supervision, and ensuring a high level of disclosure of banking activities. Prudential supervision of the financial system needs to be carried as quickly as possible to international standards. Effective oversight of BI will be exercised through regular reporting to Parliament.
15. Improving public confidence in the integrity of the judiciary and in the efficacy of the legal process is a vital objective of institutional reform and key to economic restructuring. Thus, we have adopted a comprehensive agenda of legal and judicial reform with four key programs aimed at good governance in the legal system and administrative law reform; improved administration of justice; legal education, testing and discipline; and improved legislative capabilities. The program includes measures to reduce the opportunities for corruption (by improving the transparency and speed of legal proceedings) while, at the same time, creating powerful disincentives for corrupt practices (including prosecutions of the parties that engage in such practices). We also intend to enhance the role of the Attorney Generals Office, reform the court system, and seek: parliamentary confirmation for all appointments to the Supreme Court. The IMF, World Bank, and AsDB will assist in mobilizing financial and expert assistance to the Attorney General's Office.
16. IBRA is crucial to meeting the objectives of restoring a sound banking system as well as promoting corporate restructuring and asset recovery to reduce the public debt. To accomplish these tasks, IBRA needs to be protected from narrow political interests; it also needs to be administered by professionals in a transparent manner, and have an unassailable governance structure, including a strong oversight body. The government is committed to assuring these conditions, and establishing a fully effective governance structure in consultation with the IMF, the World Bank, and the AsDB. We expect that IBRA will largely complete its work in restructuring financial institutions and recovering asset value during the period of the program.
17. The governance structures of other economic institutions are also being reviewed and improved to upgrade corporate governance. This will include adopting a new code of corporate governance, strengthening capital market regulation at the Securities and Exchange Commission (BAPEPAM), and improving the oversight of nonbank financial institutions at the Ministry of Finance.
D. Improved Natural Resource Management
18. Indonesia's natural environment has continued to deteriorate during the crisis. Weak policy implementation and weak market institutions have combined to undermine Indonesia's base of natural resources. We recognize the key role natural resources play in the Indonesian economy and are determined that our policies and programs ensure their sustainable use for the benefit of this and future generations.
19. Our policy and institutional framework for natural resource management will focus on three key objectives. First, we will include greater consultation and stakeholder participation in decisions affecting our natural resources, particularly in the formulation of new policies, and the location and selection of public investments. To ensure that these decisions are based on good information, we propose to expand and improve environmental monitoring of Indonesia's air, water, forests, and marine resources. Second, we will move towards a pricing structure for natural resources that better reflects their true value. And third, we will pay special attention to improving forest management and ensuring a sustainable production of goods and services from our forest resources.
III. MACROECONOMIC POLICIES FOR 1999/2000 AND 2000
20. Consistent with the medium-term framework, our near-term macroeconomic policies are based on growth being in the 1-2 percent range in l999/2000, strengthening to the 3-4 percent range during FY 2000. Low single-digit inflation will be entrenched. The external reserve position will be further strengthened. Fiscal, monetary, and external policies have been formulated to contribute to these outcomes, and will be regularly reviewed to address risks that may materialize.
Fiscal Policy and the Social Safety Net
21. The fiscal deficit for 1999/2000 is currently estimated at about 3 3/4 percent of GDP. Inclusive of the settlement of arrears, the budgetary financing need is estimated at about 5 percent of GDP. This is below the original program because of development spending shortfalls in the first half of the year (associated with the political transition), and higher oil prices and revenues. An ongoing recovery in development spending should ensure positive fiscal stimulus during the second half of the fiscal year. The financing need will be fully met by privatization receipts, asset recovery, and foreign financing.
22. We have established clear principles for the FY 2000 budget which was submitted to Parliament today. First, to strike a careful balance between supporting the economic recovery and starting the process of reducing government debt. Second, to continue to avoid domestic bank financing. Third, to initiate a range of structural tax reforms, whose full impact will accrue over-the medium term. Fourth, to start the process of gradually reducing untargeted subsidies, while protecting small household users from their impact, and strengthening targeted poverty- alleviation programs. Fifth, to begin to restore public sector wages, especially for the most senior officials, concurrently with administrative reform and stringent penalties on corruption. On this basis, we expect that the FY 2000 budget deficit will be 5 percent of GDP, financed about equally from domestic (asset recovery and privatization) and foreign sources.
23. The wage differential with the private sector is very high; particularly at the top echelons, and correcting this differential is an integral part of civil service reform, and will be accompanied by anti-corruption efforts. With these key objectives in mind, we have decided to raise the basic wages of public employees in two installments of 10 percent each, to be implemented on April 1 and Oct. 1, 2000, thus achieving a total wage increase of 2.0 percent during the year. Larger increases will be given to higher civil service echelons, including state officers and the judiciary. With these increases, total personnel expenditure is projected to increase by 16 percent to Rp 45.7 trillion.
24. There are three main elements to our social spending: the social safety net (SSN); poverty alleviation programs; and targeted fuel and energy subsidies. Overall social spending is projected to be Rp 8.5 trillion in FY 2000. Of this total, SSN programs are projected at Rp 2.7 trillion and have the following principal components: (i) the rice distribution (OPK) program; (ii) a health component; (iii) specific employment programs, including to enhance women's employment; (iv) a program to provide funds directly to communities; (v) scholarships to needy students and block grants to targeted schools; and (vi) poverty alleviation. These programs have enhanced monitoring provisions and other safeguards to prevent abuse and protect implementation, including frequent reporting on key performance indicators' independent verification, and close involvement by NGOs and civil society. They are being supplemented by the new poverty- alleviation programs which are projected at Rp 4.5 trillion in FY 2000, and are being designed also in close consultation with the World Bank and the AsDB. The new programs will be implemented with the same monitoring provisions and safeguards. The proposed mechanisms aimed at protecting low income households from the energy tariff increases are projected at Rp 1.3 trillion in FY 2000.
Monetary and Exchange Rate Policies
25. Firm base money control, combined with a flexible exchange rate policy, have anchored prices and strengthened the rupiah, and there will be full continuity of these policies. Although the uncertainties of August-October interrupted the process of making monetary policy fully supportive of recovery, the declining trend of money market interest rates has now resumed. Given the absence of inflation, there remains room to guide interest rates down cautiously further, as in the other Asian countries.
26. The monetary program for the remainder of 1999/2000 results in a base money increase for the fiscal year as a whole of about 9 1/2 percent, to Rp 86 trillion. Compared with the previous projection, this program is based on a slightly higher level of net BI reserves. An indicative monetary program for 2000 has also been formulated to accommodate anticipated higher growth. With improved confidence reducing currency demand, base money is targeted to increase to about Rp 92 trillion by end-December 2000. This base money program provides for the recovery of bank credit to the private sector, and will be reviewed periodically to ensure that it remains fully supportive of recovery and responsive to unanticipated capital inflows.
Balance of Payments and External Policies
27. The external current account surplus in 1999/2000 is projected to reach about $5billion (3.1 percent of GDP), about $2.5 billion above previous projections because of the reduced fiscal expansion and stronger oil export prices. Liquid reserves are now projected to be $25 billion by the end of the fiscal year, or about 6 months of imports; its coverage of short-term debt will improve to over 70 percent.
28. With the onset of recovery and a strengthened currency, we expect the current account surplus to decline in 2000, consistent with the pattern experienced in the other Asian countries. Current projections point to the current account surplus falling to about $2 billion in FY 2000. Export volume growth should strengthen, although this is expected to be outweighed by a recovery of imports (which will still remain well below the pre- crisis level). In the capital account, private capital flows should improve, but new-pressures are expected from at least two sources: (i) corporate reschedulings are likely to be associated with prepayments on account of arrears; and (ii) banks are expected to make payments consistent with contractual obligations under the first exchange offer.
29. Consequently, we expect an external financing gap to emerge again in FY 2000, of about $4.3 billion, linked closely to the fiscal deficit. We are confident that the full amount of official external financing will be available. We have requested another principal rescheduling from The Group of Official Creditor Countries of Indonesia for the 24-month period through March 2002; estimated relief during FY 2000 is about $2.1 billion. We have been in touch with our multilateral creditors (especially the World Bank and the AsDB) and bilateral creditors (especially Japan) and have received assurances that the remaining amount of financing should be available from these sources during FY 2000.
IV. STRUCTURAL REFORMS
A. Fiscal and Trade Policy Reforms
30. A range of structural fiscal reforms is being implemented to underpin the increased efficiency, transparency, and institution building planned for the public finances. Policies governing tax holidays and free trade zones are being rationalized to keep the tax system from being used to promote or discourage specific sectors, industries, or regions, thus reducing abuse and evasion. The efficiency of the value-added tax (VAT) is being improved by phasing out unnecessary exemptions. Concrete steps are being taken to improve tax and customs administration, improve the targeting of large taxpayers, and combat fraud. An audit of the tax office is expected to be completed by March 2000. Two new amendments to tax laws (the VAT law and the Tax Procedure law) are being prepared for submission to Parliament by February 2000 to strengthen the auditing and refund procedures and broaden the tax base. A reform plan is also being implemented to rationalize excise taxes on cigarettes. We will complete an audit of the agricultural credit program (KUT) by March 2000 to improve its efficiency and clarify its future role.
31. The Ministry of Finance intends to complete two reviews aimed at delivering much increased fiscal transparency by end-March 2000. The first review aims at consolidating information on all bank accounts controlled by government agencies. The second review takes stock of off-budget funds. Based on these reviews, we will consolidate off-budget accounts and funds, where appropriate, by June 30. Any funds remaining outside the budget will be subject to annual audit. In addition, we have instructed the State Audit Board (BPKP) that any future internal audits of financial operations of all government agencies take full account of all extrabudgetary sources of support. This will begin in 2000 and will include the military.
32. We recognize that quasi-fiscal activities may also arise from the operations of foundations and we intend to bring their activities and accounts under government review and audit. The Ministry of Law and Legislation will form a working group to make policy recommendations and to draft legislation on foundations to be submitted to Parliament by end-April 2000. The legislation will require foundations to file a public statement of activities, including audited accounts.
33. We reaffirm our commitment to maintain a liberal trade regime, avoid introducing any new trade barriers, and remove remaining distortionary elements in the trade structure. As part of the 1995 tariff reduction plan, we recently reduced the import tariff on a number of items from 10 percent to 5 percent and, by end-2003, we will establish a three-tiered tariff structure (0, 5, and 10 percent) for all goods except alcohol and automobiles. During the program period, we will eliminate all exemptions to import tariffs (except those which are part of international agreements), and remove all existing non-tariff barriers (except those for health and safety reasons). As a step toward replacing all export taxes and levies by resource rent taxes, the maximum export tax on logs, sawn timber, and minerals was reduced to 15 percent by end-December 2000. This will be followed by a review of forestry sector taxation policy starting January 200O, in consultation with the World Bank. At the same time we will ensure that the forest resource royalty rate (PSDH) captures at least 60 percent of the economic rent from logs and, thereby, protect Indonesia's forests. Finally, we will eliminate all other export restrictions (e.g., licensing requirements or government approval on logs, coffee, and wood products), by end-2000, with the exception of those needed under the multi-fiber agreement.
B. Fiscal Decentralization
34. The government is committed to implementing fiscal decentralization according to the approved legal framework. The decentralization framework specifies principles for sharing natural resource-based government revenue, notably of oil (devolution of 15 percent of onshore nontax revenue), gas (30 percent of onshore nontax revenue) and forestry (80 percent of revenue? to regional authorities, and establishes a General Allocation to regional authorities (at least 25 percent of total domestic revenue). Implementation of these principles would double transfers and shared revenues to 6 percent of GDP by 2002, in step with the decentralization of most administrative and social welfare functions. As a result, the share of regional government spending is expected to double, to about 40 percent of total spending by 2002, by which time it should total 7 percent of GDP. We will ensure that fiscal transfers to the regions promote equity by taking regions' revenue capacity and spending needs into account; this will be the task of the grants administration.
C. Banking System Reforms
35. Banking reforms lie at the heart of the economic program, and an ambitious agenda for the year 2000 has been adopted. In many areas, strong measures have already been taken to signal the government's determination. The Financial Sector Policy Committee (FSPC), which reports directly to the President, has been established to give clear political leadership and direction in the areas of banking and corporate restructuring. The FSPC is headed by the Coordinating Minister for Economy, Finance, and Industry, and includes the Minister of Finance, the Minister for Investment and State-Owned Enterprises, the Minister of Trade and Industry, and the Chairman of BAPPENAS. The Governor of Bank Indonesia will be invited to attend meetings. The FSPC is in the process of establishing a secretariat, including a coordinator to liaise with IBRA and the JTTF.
Improved Governance in Banking
36. The government has taken a strong set of measures to reassure the public, as well as markets, that the Bank Bali investigation is being credibly advanced, and that systems and procedures have been strengthened to prevent any recurrence. The Attorney General is undertaking an investigation into the corruption aspects of the Bank Bali matter, assisted by PwC, and has so far made one indictment in the case; additional actions are expected to be forthcoming as the investigation proceeds.
37. We are taking steps to ensure that future settlements under the guarantee scheme are made expeditiously and that the process is not compromised in any way. Thus, an international accounting firm contracted by IBRA completed a preliminary examination of all pending interbank claims in mid-December 1999, allowing a first round of eligible claims to be paid at end-December. Based on this examination, and in close collaboration with the IMF, the World Bank, and the AsDB, IBRA will publicize new and fully transparent procedures for processing claims under the guarantee in February 2000. The eligibility of the remaining claims is expected to be determined during February through a further review conducted with the full cooperation of BI. All of the claims deemed eligible in that review will be settled promptly thereafter.
38. A comprehensive study, in collaboration with the World Bank, has been launched to develop a strengthened governance and oversight framework for IBRA, and an interim report is expected during February 2000. On the basis of this report, recommendations will be developed and final decisions taken no later than March 31, 2000. Meanwhile, a number of essential steps have been taken to strengthen IBRA: (i) the government has reconfirmed IBRA's status as the sole publicly funded entity in charge of asset recovery; (ii) the President has issued an instruction clarifying that IBRA will report to his office on all policy issues; (iii) IBRA is finalizing its accounting policies on the basis of advice from international auditors; (iv) the first audited accounts of IBRA's operations, covering its position as of December 1999, will be publicized by end-April 2000, followed by regular quarterly and annual audited financial statements; and (v) an Ombudsman's office will be established within IBRA by end-January, 2000 to respond to all inquiries from the public. The Independent Review Committee continues to exercise oversight over IBRA.
Loan Collection and Asset Recovery
39. The institutional framework and sequenced strategy for loan collection and asset recovery, focused on the largest borrowers, continues to be implemented. The strategic objectives for March 31, 2000 are to complete restructuring MOUs for about 50 percent of the loan value of IBRA's cooperating Category A debtors; and to complete the valuation of the assets of at least 50 percent of loan value of cooperating Category B borrowers. We are resolved to take timely and evenhanded action against all noncooperating debtors (Categories C and D). Their loan obligations and payment records have already been made public, and IBRA's Legal Department is now pursuing a strategy to ensure these accounts are settled in an expeditious manner. The first round of formal legal actions were taken in December 1999. In addition, all state/BTO banks and IBRA will start in February releasing quarterly reports on recovery performance on loans in categories 3, 4, and 5.
40. IBRA is on track with its recovery schedule aimed at collecting at least Rp 17 trillion in cash by March 2000; and had already recovered Rp 7.9 trillion by Nov. 30, 1999. IBRA has adopted a minimum cash recovery target of Rp l6.3 trillion for FY 2000, including sales of assets and companies from its AMI (Asset Management Investments) and recoveries on loans from its AMC (Asset management Credits). In addition, IBRA is launching a transparent process of outsourcing and/or sale of its smaller loans (less than Rp 50 billion), with the first such disposition scheduled to take place by end-March 2000. IBRA publishes frequently, through the press, a schedule of auctions of noncore assets, as well as transparent procedures for all asset sales.
41. IBRA has also made decisive progress toward completing discussions with, and transferring shareholder assets from, former owners or i998 and 1999 BTOs (banks taken over) and BBOs (banks closed). With regard to the 13 1998 BTO and BBO banks that had violated prudential regulations, the asset transfers from seven bank owners are to be completed by Dec. 31, 1999; those from two further bank owners are expected to be completed by April 2000. The cases of the noncooperating shareholders of the remaining four banks will be publicized in February 2000 and, if not resolved, referred for prosecution to the Attorney General, who will initiate court proceedings during March 2000. We expect to finalize negotiations with the 46 1999 BTO/BBO banks by May 2000, and complete all associated asset transfers by end-October 2000.
State and BTO Bank Restructuring
42. State bank restructuring is being implemented under the oversight of an interdepartmental Restructuring Committee, and with the following safeguards. All state banks have been required to prepare business plans will the help of international advisors, and to contract with international banks for their loan work-outs. The Ministry of Finance is establishing a fully funded and staffed monitoring unit to ensure compliance of the state banks with their performance contracts. The monitoring unit has ensured that all state banks have transferred to IBRA all of their category 5 loans (as well as any loans with provisions of more than 50 percent), as of Sept. 30, 1999, together with all loan documentation. Henceforth, all state banks will be subject to an annual audit by international accounting firms, beginning with their end-l999 positions.
43. Progress is most advanced in Blank Mandiri. Two branches of capital have now been injected into the bank, the latest one (for Rp 75 trillion) on Dec. 28, 1999, bringing the total bonds provided to Rp 178 trillion. As a result, the bank's CAR has been raised to above 4 percent, based on the December position estimated by an international accounting firm. Any difference with the:he final audited end-1999 accounts will be met by (or repaid to) the government in early 2000, as soon as these accounts become available.
44. At the same time, Bank Mandiri is taking decisive actions to improve its operational performance in line with operational and financial1 targets specified in the interim investment and management performance agreement signed on Dec. 28, 1999. Efforts are underway to improve services by hiring additional line managers, and outsourcing the information technology system at headquarters. To improve financial management, the bank has established special teams to secure full information on the bank's daily cash flow, and to complete the reconciliation of interbranch items inherited from its component banks by Feb. 29, 2000. To improve transparency, the bank is publicizing the terms and conditions of all its loan restructuring deals.
45. Concerning BNI, we intend to follow a similar restructuring, starting with a management review. Following an international executive search, a new management team will be appointed following the shareholders'meeting. The government and the new management will sign performance contracts by Feb. 29, 2000. Thereafter, the new management will finalize agreement with an international firm to enter into a twinning/management agreement by March 31, 2000 to implement the full business plan, with special emphasis on governance, risk management and the workout of non-performing loans. The first tranche of recapitalization will be provided only upon completion of the preceding actions, expected by March 31, 2000. The remaining tranche will follow the completion of the end-1999 financial audit, and implementation of the business plan, expected by June 30, 2000.
46. BRI's financial plan, refocusing the bank on its traditional activities of retail banking and microfinance, has been reviewed by an international consultant and the full business plan is expected to be reviewed and approved by the Restructuring Committee in February 2000. Management is being reviewed and new members recruited through an international executive search. We expect that a new management team will be in place by February 15, 2000. BRI will begin in March to divest its corporate loans except for certain traditional customers that will constitute a maximum of 20 percent of its total portfolio. The process of divesting corporate loans will be completed by end-2000. The first tranche of recapitalization is expected to be provided by April 15, 2000, upon completion of the preceding actions; the remaining tranche will be provided following the completion of the end-1999 financial audit and satisfactory implementation of the business plan, expected by June 30, 2000, including the future roles of BTN and of the housing credit program.
47. We intend to achieve majority privatization of BCA in 2000. Toward this end we intend to launch BCA's initial public offering of shares in March 2000; as a first step, a filing will be made with BAPEPAM by-end January.
48. Danamon's divestment process will be delayed until its mergers with eight BTO banks can be completed. One bank (PDFCI) was merged into Danamon in late-December 1999, following approval of the merger by BI; the remaining mergers should be completed by September 2000. We have provided Danamon with a strong management team, which was approved by Bank Indonesia on Dec. 15, 1999, and business plans and a management contract were in January 2000. On this basis, in May 2000, Bank Danamon will be provided with recapitalization bonds of about Rp 30 trillion to allow it to finance the remaining mergers. A timetable for achieving majority privatization in 2001 will be drawn up by September 2000.
49. Steps are also being taken to resolve two banks-Bank Bali and Bank Niaga--which were taken over when their owners failed to come up with the funds necessary to participate in the private bank recapitalization scheme. We plan to sell both banks by open tender during the first half of 2000.
Private Bank Restructuring
50. BI is determined to ensure the soundness of the 73 A-category banks. All owners and managers of these banks have been subject to fit and proper tests, and those who failed have been replaced. BI further required owners of banks whose capital fell below 4 percent to raise capital to that level by Jan. 20, 2000, and it will take corrective actions against those banks where the owners fail to comply with the requirement. Banks whose business plans needed revision or correction to ensure compliance with the requirement to achieve CARs of at least 8 percent by end-2001 have now submitted revised business plans, and these have been reviewed. All A-category banks will be monitored on a quarterly basis to ensure they comply with their business plan; BI will take appropriate corrective actions in all cases where these targets are not being achieved. Performance of the private banks jointly recapitalized with the government will also be subject to quarterly monitoring by IBRA and BI, and any substantial deviations will be reported to the Ministry of Finance for appropriate resolution.
Legal, Regulatory, and Supervisory Framework
51. The first audit of Bank Indonesia under the new central bank law, conducted by the Supreme Audit (BPK) with the assistance of an international accounting firm, was completed and sent to the Parliament on Dec. 31, 1999. In response, BI has adopted a timebound program of follow-up actions, aimed at addressing the issues raised by the audit, which will be implemented in cooperation with the BPK during the coming year. The action program comprises a range of measures to clarify BI's financial position, improve the bank's internal controls, and strengthen its supervision standards.
Special audits are being commissioned to verify and revalue BI's financial and tangible fixed assets, and assess the bank's off-balance sheet positions by end-April 2000. Should this work reveal the bank has a capital shortfall, the government will provide an immediate injection of funds so that the bank meets statutory requirements. At the same time, BI will take steps to divest its financial subsidiaries, and to tighten internal controls and strengthen information systems. The overall aim would be to obtain an unqualified auditor's opinion for the end- 2000 financial accounts.
52. The authorities are adopting a comprehensive approach to achieve and maintain the soundness of the overall financial sector. Bank Indonesia will provide the IMF with monthly bank-by- bank data beginning with end-December 1999. The Board of Bank Indonesia has approved a master strategy for enhancing bank supervision.
The strategy to be assisted by the IMF will guide implementation of the reforms necessary to bring supervisory and examination activities up to international standards, fully consistent with the Basle Committee's Core Principles, and ensure that technical assistance projects on bank supervision are effectively coordinated.
It is envisaged that BI will maintain substantial on-site supervisory presence at each state bank. Similar master plans will be developed by end-March 2000 for the oversight of the nonbank financial sector (pension funds, insurance companies, and finance companies), and securities markets by the Ministry of Finance, with the assistance of the World Bank and the AsDB. We will also review and strengthen the law on pension funds during 2000.
53. We have issued additional bonds for bank capitalization and are taking steps to develop a government bond market. The Ministry of Finance, with the assistance of AusAid, has established a unit to manage the public debt. Our progress and plans in this area include the following:
As of end-December 1999, the government has issued bonds, totaling about Rp 500 trillion rupiah, for the capitalization of Bank Mandiri, the private and BTO banks, and to compensate BI for its past liquidity support and the settlement of interbank claims. It is expected that some Rp 140 trillion in additional bonds will need to be issued by mid-2000, principally to complete the recapitalization of the state banks. The interest burden on the budget of these bonds is projected to peak at about 4.7 percent of GDP in FY 2000 before declining in subsequent years.
A portion of the capitalization bonds for banks with net open foreign currency positions will be in the form of foreign exchange-linked (rupiah-denominated) bonds, to enable these banks to close their positions in an orderly manner.
A number of steps have been taken to begin secondary market trading of government bonds over the next year. A committee is being formed with participation from the Ministry of Finance and BI to facilitate development and regulation of the market, and a book-entry system is now operational within Bank Indonesia for record-keeping and transfers of government bonds in paperless form.
Regarding the tradability of the recapitalization bonds, banks have (since Dec. 9, 1999) been permitted to transfer up to 10 percent of their bonds into a "trading portfolio." Initially, these bonds may be used as collateral for borrowing. Starting in February 2000, banks will be permitted to trade these bonds in the secondary market. The portion of bonds in the trading portfolio will thereafter be increased progressively.