Moral hazards in banking

Moral hazards in banking

If the differences of views between Finance Minister Bambang
Subianto and the central bank's Governor Sjahril Sabirin
regarding the extent of disclosures to be made in the upcoming
bank cleanup are any indication, we can expect a package of
measures dead on arrival due to a complete lack of credibility.

Bambang redressed some of the damage done to the credibility
of the monetary authorities by the two-week delay of the sweeping
bank restructuring program in revealing early last week the main
elements of the bank-reform package now being fine-tuned. He
tried to describe the complexity of the forthcoming announcement
to justify the postponement and demonstrate a high degree of
transparency and accountability within the decision-making
process.

He said the announcement, rescheduled from Feb. 27 to March
13, would reveal, among other things, the names of blacklisted
bankers (directors and owners), banks violating the legal lending
limits (connected lendings), banks' liabilities to the central
bank, the core elements of their business plans and other
pertinent data which will entirely expose all the basic facts
about these banks to the public and to the market.

However, Sjahril argued two days later that the government was
still reviewing the benefits and disadvantages of such extensive
revelations, especially with regard to the names of errant
bankers, citing legal aspects as one of the factors being
seriously considered.

It is hard to find any reason for the government not to make
disclosures as full as possible in the forthcoming bank bailout
program, when high standards of transparency and accountability
would go a long way in building up the credibility of the
measures.

Invoking the banking secrecy stipulation as an excuse to limit
the March 13 announcement strictly to generalities will risk
making the government a laughing stock and validating the
public's suspicions that the bank reform program is all about
politics. The banking secrecy provision in the Banking Law
No.10/1998 covers only information related to depositors.

Denying the public the essential information on key indicators
about banks will create moral hazards among both bankers and
depositors and make market discipline ineffective since the
government's blanket guarantee on deposits launched in January,
1998 does not impose any ceilings. Depositors, including middle
and top income people, and creditors will not bother to assess
the soundness of a bank and will instead look mostly at the level
of interest rates offered. They rest assured that whatever
happens to their banks their money will be reimbursed by the
government.

Bankers too will find more leeway to indulge in unsound
practices, robbing their banks. Unfettered by the discipline of
public scrutiny, bankers are not afraid of making incompetent or
self-serving decisions that undermine not only their banks but
also, through the multiplicity of its transactions, the whole
industry; systemic risks. After all, under the current capital
standard requirement, owners' money accounts for only slightly
more than 4 percent of a bank's total assets.

Lack of a tough disclosure process is especially damaging in
Indonesia where financial accounting and reporting requirements
are not as stringent as in many other countries. Worse still, the
system of checks and balances is not effective because the
regulatory bodies not only are severely short of credible
enforcement powers. They are also highly vulnerable to political
pressures.

The government should have realized by now that one of the
reasons the nation is lagging so far behind its neighbors such as
Malaysia, Thailand and the Philippines has been an absence of
political leadership on banking reform and law enforcement and of
credibility of the policy-making decisions.

Dying banks mean no new loans to fuel an economic recovery,
and weak, politicized law enforcement means allowing bad bankers
to plunder the taxpayers' money and encouraging chronic debtors
to thumb their noses at creditors.

It is most imperative therefore that the long-awaited package
of bank restructuring measures should be designed in such a way
as to impose the most stringent market discipline on the
recapitalized banks and also to impose strong law enforcement on
bad bankers and recalcitrant debtors.