RI needs credit clearing body

RI needs credit clearing body

By C.J. de Koning

JAKARTA (JP): When a client puts money in a bank in Indonesia,
or anywhere else in the world, he or she expects the bank to act
in an honest, trustworthy manner. The money must be secure and
safely looked after. When a bank lends money to a client, this
same trust is or should be the key to the bank's client
relationship. Honesty toward the depositors and by the borrowers
is the lubricating oil on which the financial system in any
country operates.

Honesty is not a financial or an economic factor. It reflects
the character of the individual or the organization. During
Indonesia's current financial crisis, the calls for more honesty
have been strong, and culminated in the democratic election of
the current government.

Why is it that so little attention has been paid to the
interrelationship between individual and corporate honesty and
the economic and financial policies that have been pursued over
the last two years? Could policies that encourage honesty contain
the seeds for faster economic growth?

In June 1997, just before the financial crisis started, the
volume of outstanding credits -- the lending side -- of the banks
was about US$315 billion. Foreign banks provided some $140
billion and local Indonesian banks the equivalent of some $175
billion. The clients for the foreign banks were the Indonesian
government with $60 billion, local banks with some $15 billion
and Indonesian corporates with some $65 billion.

All these credits were foreign currency credits, mainly in
U.S. dollars.

The clients for the local banks were local corporates and
local individuals and the principal currency of lending was the
rupiah.

On the funding side -- the depositor side of the banks -- the
picture looked similar, but one has to be aware that the $140
billion represented foreign savings ploughed into the Indonesian
economy. Financial investors had simultaneously built up a market
capitalization of the Jakarta Stock Exchange which reached the
equivalent of $100 billion at the same time, approximately half
of which was provided by foreign investors. The experience of
foreign banks was a loan-loss ratio very much in line with other
Asian markets. In comparison to other markets, there was
certainly no additional risk premium for exceptional dishonesty
among Indonesian clients.

After the Thai baht devaluation and the subsequent changes in
Indonesia's exchange rate policy, which opened the door to
unhindered rupiah fluctuations, foreign banks reassessed their
volume of lending and the risks associated with this volume.

They started to withdraw from U.S. dollar lending to
Indonesian corporates, something made easy by the short-term
nature of many loan agreements and the ratios on capital adequacy
incorporated in many of them. The Indonesian government called on
the International Monetary Fund (IMF) for help. Sixteen small
local banks were closed on Nov. 1, 1997.

This had a profound effect on the trust that local depositors
and foreign banks had placed in the Indonesian banking system. It
ended up with a blanket volume guarantee (principal plus
interest) for the local depositors from the Indonesian government
and the repayment of all international trade finance obligations
of all non-performing local banks to foreign banks, again by the
Indonesian government.

The impact that a change in the level of trust can have upon
the volume of outstanding international trade finance can be
illustrated by the fact that this volume fell from some $13
billion in September 1997 to $1 billion a year later. Just as
striking is the reduction in the size of the market
capitalization of the Jakarta Stock Exchange. It dropped from
$100 billion at the end of June 1997 to $14 billion a year later.

The volume reduction that both foreign bankers and foreign
investors on the Jakarta Stock Exchange were seeking, temporarily
far outstripped the short-term capacity of Indonesia to generate
foreign currency earnings. The country also did not have the
foreign currency reserves to absorb such outflows.

The result was a dramatic rupiah devaluation. The government's
policy response was raising rupiah interest rates to over 70
percent per annum. This not only raised the interest rates on
deposits, but, of course, also on the rupiah loans.

With local incomes declining for nearly all individuals and
for corporates, the effect was a massive move from performing to
non-performing loans. A recent estimate put the cost of local
non-performing loans at the equivalent of $75 billion, which is
more than the 1997 year-end total local banking sector ($68
billion).

It will probably remain an eternal mystery why in the context
of the outstanding loan volumes, the government chose to raise
rupiah interest rates rather than Indonesian borrowers' U.S.
dollar interest rates.

After all, the financial crisis was brought about by a very
substantial reduction in dollar lending and portfolio investment
volume and not by an excessive growth in rupiah lending.

Indonesia also did not use another policy option which was to
underpin the local equity market. Both Malaysia and Hong Kong
applied this measure, and in retrospect with substantial success.

Last but not least, the IMF funds made available neither
restored the foreign lending volumes to Indonesia's corporate and
banking sectors, nor restored orderly rupiah credit markets.

Indonesia still needs foreign and domestic funds if it wants
to return to former economic growth levels.

The way forward can never be to bring half the Indonesian
population and nearly all companies to court. Court action is
needed for those who abuse the system and act dishonestly. For
those cases, a proper functioning bankruptcy court is a must.
However, the illusion that by having a court, the volume of
lending will grow again should not be created. Lending -- just
like deposit-taking -- is closely associated with honesty in the
banking system. There are ways in which honesty can be encouraged
rather than the no-win behavior of running away from previous
obligations.

The key consideration is that most companies and individuals
want a financial future as well as recognizing that they have a
financial past. Of course, the past situation will have to be
agreed upon between the lender and borrower, but this does not
automatically restore normality.

The future may be strongly supported by setting up a system
that follows the current behavior of both companies and
individuals. As Indonesian companies and banks were, are and will
be very dependent on U.S. dollar loans, a first initiative may be
to set up an Indonesian Credit Clearing Corporation.

This corporation, which may be run by an independent
international auditing firm, could be the country's international
payment clearing agent for all payments in foreign currencies
which arise out of international credit in whatever form. In
other words, only cash payments for immediate delivery of goods
and services are to be excluded. The feeders to this system could
be the foreign banks involved in lending to Indonesia or in
arranging finance for Indonesian borrowers in the capital
markets.

Second, Indonesian borrowers could also be requested to
register.

The potential benefits are clear. The volume of international
borrowing can be followed very precisely and instantly. Second,
the companies that do pay on time can be "white" listed, which
means they can be made available on request and with the approval
of the borrower to the foreign bank or banks with which the
company plans to enter into a banking relationship. Companies
that have agreed with their foreign bankers on a debt
restructuring and are fulfilling their payment obligations can
once again be "white" listed rather than blacklisted. It is in
the interest of any company that wishes to use foreign credits,
to get its name on the "white" list as soon as possible.
Companies that wish to have a financial future will do so.

For domestic borrowers, especially individuals, it is also
important that the past is settled as soon as possible. A well-
established tradition in other countries -- for instance in
Brazil and in the Netherlands -- is to have a Bureau of Credit
Registration. The function is essentially the same as the
proposed Credit Clearing Corporation, which is to know and make
known to relevant banks whether the person is on time with his
payments.

The difference between the Credit Registration Bureau and the
proposed Clearing Corporation is that in the latter case the
payment settlements are also channeled via the corporation. This
is not the case for the bureau.

Both "white" lists encourage orderly credit behavior; they
promote honesty and transparency in the banking system. In the
current times of banking disorder, they could prove to be the
fastest way to create order again.

The writer is a director of ABN AMRO Asset Management in
London.