Liquidation debate

Bank Indonesia Governor J. Soedradjad Djiwandono should have felt uncomfortable at having to answer questions from reporters before Wednesday's cabinet meeting on the possible liquidation of troubled banks, even though the questions would have been expected after Finance Minister Mar'ie Muhammad touched on the same sensitive topic Tuesday.

Soedradjad was quite right to reiterate bluntly that liquidating a troubled bank was not a simple process and was meant to be the last resort after all rescue efforts had failed. We reckon the central bank governor wanted to stop any unnecessary debates. After all, Bank Indonesia has established monitoring and supervision mechanisms to minimize the risks of having to close down banks. Soedradjad's top priority now is to further improve the effectiveness of the mechanisms and to enforce the rules imposed on the banking industry consistently.

The crux of the problem is that many aspects of banking operations are sensitive, as can be seen from the banking secrecy provisions in the banking law. Debating in public the troubles of a particular bank, let alone disclosing its name, could have devastating repercussions.

Banks and finance companies are special because of their fiduciary responsibilities and the crucial role of public trust in their survival. Moreover, an unexpected bank failure could trigger a domino-like collapse throughout the entire banking system. So it would not only be counter-productive but might also threaten the survival of the finance companies or banks if their problems and names were laundered publicly.

The US$1.2-billion run on deposits at financially distressed finance companies in Bangkok last week and early this week is a vivid example of what could ensue if the existence of troubled banks or financial institutions was announced in such a manner that the general public could accurately guess their names. It has not helped that many banks and finance companies in Thailand (like their Indonesian counterparts) have incurred bad loans estimated at $2.5 billion, as a result of too-aggressive lendings to the property sector. Financial analysts would agree that these bad loans should be addressed to maintain the soundness of the financial system.

But the bad loans alone would not have triggered the massive run on the troubled Thai finance companies over the last few days had the central bank of Thailand handled properly the announcement of the finance companies that had to increase their registered capital. The virtual singling out of the troubled finance companies worsened the situation instead of helping to accelerate the solving of their problems. The affected institutions lost the trust of most of their depositors and creditors who understandably ran for their money. One should remember that most banks own maximally only between 10 percent and 12 percent of their total assets while the remainder belong to depositors and creditors.

It is because of their fiduciary responsibility that banks and finance companies are always subject to tougher disclosure requirements. Their financial reports must be audited by publicly certified accountants and scrutinized by examiners of the central bank. This does not mean that problems do not crop up now and again but they should not be disastrous if the central bank's early-warning system is effective enough.

It would therefore be much better to stop the latest debate on bank liquidation right now. The question as to whether a problem bank should be liquidated or not has been clearly answered by Government Regulation No.68/1996. Issued last December, this regulation stipulates the procedures for liquidating a bank and the measures which have to be taken before a bank can be put into liquidation.