Supplementary memorandum of economic, financial policies
Supplementary memorandum of economic, financial policies
The following is the supplementary memorandum of Economic and
Financial Policies (MEFP), the sixth review under the extended
agreement. The document is an attachment to a July 22 letter sent
by the Indonesian government to International Monetary Fund
(IMF).
1. Market sentiment has improved markedly since the last review,
helped by the peaceful completion of the June 7 parliamentary
elections. No loss of policy momentum is envisaged during the
transition to a new government, and bank and corporate
restructuring policies have been further strengthened. There
remains a strong consensus for the economic program and its
continuity is expected to be well safeguarded.
I. Macroeconomic Framework and Policies
The following improved growth and inflation outcomes are now
targeted by the program's revised macroeconomic framework:
Key Macroeconomics Objectives, 1999/2000 (April 1 - March 10):
Real GDP growth: 1.5% to 2.5%, Inflation (end of period): 4% to 5%,
Inflation (average): 10% to 12%, External current account balance:
US$2.5b, (Percent of GDP): (1.5), Gross official reserves
(end-period): US$27.5 to US$28.5
Growth prospects are benefiting from improving market
sentiment, higher agricultural incomes, and recovering
consumption demand. March-May export performance has also been
encouraging. Growing confidence is being reflected in the return
of some capital from abroad and a recent sharp rise in the stock
market. Price declines in each of the past four months, and the
strengthening rupiah, should entrench single digit inflation
during 1999. The external objectives of the program should be
well achieved. The flexible exchange rate system is accommodating
the appreciation of the currency toward its medium-term
equilibrium, and enjoys wide consensus.
2. The macroeconomic policy mix is becoming much more supportive
of recovery. In fiscal policy, achieving a deficit of 5.8 percent
of GDP remains the principal focus. We are determined to
safeguard the fiscal stimulus, and have taken the following
measures to avoid renewed spending shortfalls: (i) rehabilitation
programs have been accelerated for regions hit by the recent
social disturbances; (ii) allocations for infrastructure
maintenance and rehabilitation have been advanced; and (iii)
implementation of foreign-assisted projects is being stepped up
by increasing provisions for their local costs and streamlining
budget authorization procedures.
3. Monetary policy has delivered, over the past year, very
positive outcomes in terms of price stability, significantly
lower interest rates and positive interest rate spreads. The
exchange rate of the rupiah and the stock market prices have
strengthened markedly. The one-month SBI rate is now about 16
percent, half its level just two months ago, and we see room to
guide interest rates down cautiously further. The quantitative
monetary program remains appropriate.
II. Structural Fiscal Reforms
As foreshadowed in the May 14 MEFP, fiscal reforms to
strengthen the revenue base, improve targeting and monitoring of
safety net programs, and carefully sequence fiscal
decentralization will be phased in over the next year. While
reforms are necessary to safeguard fiscal sustainability, their
timing needs to be carefully considered to avoid detracting from
the fiscal stimulus in the near-term or upsetting market
sentiment.
Tax Reform
4. We have launched two government studies to review aspects of
the fiscal incentive framework. One study, on the tax free status
of the Barelang area (Batam and surrounding islands), will
complete its work by August 31. Another study, to be completed by
October 31, will develop a possible successor package to the
January 1999 decree on tax holidays to be implemented by the
start of the 2000/2001 fiscal year. Based on these studies, and
in consultation with the IMF, we will be prepared to take
appropriate measures to preserve medium-term revenue potential.
5. We are also phasing in improvements to the efficiency of the
value-added-tax (VAT). Between end-August 1999 and January 1,
2000, we will prepare and begin to implement a number of measures
to eliminate certain inefficient exemptions and zero ratings,
while ensuring prompt refunds for excess credits. The government
will also undertake a study, with IMF technical assistance, to
review the effectiveness of policies for the Integrated Economic
Development Zones (KAPETS), especially the fiscal concessions.
6. Regarding other aspects of tax and administration policy, we
will complete streamlining specific customs administration
procedures by January 1, 2000, and are preparing specific reforms
aimed at better targeting of large income tax payers. The
rationalization of the excise tax on cigarettes is planned for
April 1, 2000. We are also reviewing the feasibility of removing
unnecessary impediments to the ownership of land and buildings,
taking into account the experience of other countries.
7. Export and import tariff reform has been carried further in
June-July. The export tax on crude palm oil has been reduced to
10 percent and eliminated on crude palm kernel and crude coconut
oil. The maximum export tax on logs, sawn timber, rattan, and
minerals will be reduced to 15 percent by end-December 1999. In
this connection, the decree to raise the forest resources royalty
rate to 10 percent will be issued shortly. The import tariff on
motor vehicles was reduced substantially on June 24.
8. As part of our efforts to safeguard sustainability and
entrench fiscal transparency, we are embarking on a review to
take stock of any contingent liabilities and off-budget
activities. This review, chaired by the Ministry of Finance, will
be completed by October 31, after which all remaining off-budget
accounts will be audited before the end of the fiscal year. As a
first step, a Presidential instruction will be issued by August 7
to consolidate information on all bank accounts of government
agencies, with a view to minimizing the number of these accounts
and bringing them under centralized control by December 31, 1999.
A consolidated domestic debt management unit in the Ministry of
Finance will manage internal debt and government guarantees.
Authority for tax incentives is being consolidated within the
Ministry of Finance. The government is working to reform the
public pension schemes and reduce their budgetary burden. More
timely and accurate reporting of local government fiscal
operations will be developed.
Social Safety Net
9. Steady progress has been made in developing improved
guidelines for social safety net administration (including
sanctions against abuses) and, thereby, to help deliver the
fiscal stimulus. Comprehensive arrangements for information
dissemination, reporting, and independent verification have now
been finalized for the majority of key social safety net programs
in collaboration with the World Bank. Geographical allocations
are close to finalization. The government is currently
investigating a number of allegations of abuses in the social
safety net programs and has begun to publish its findings. Based
on this preparation, we are confident of implementing planned
social safety net programs in 1999/2000, and disbursements will
accelerate in the second fiscal quarter.
Fiscal Decentralization
10. The Regional Governance and Fiscal Balance laws, approved by
Parliament in April 1999, will decentralize substantial economic
power away from the center. The measures will be implemented
cautiously and in a carefully sequenced manner, beginning in
2001/2002, to ensure that central transfers to local governments
are commensurate with expenditure responsibilities and revenues
from their own sources, regional disparities in the quality of
public services are reduced, and macroeconomic control is not
jeopardized. Preparatory work has started to ensure that all
major revenue (including revenue sharing) and expenditure issues
are addressed, which is estimated will require a transition of at
least two years.
11. The proposed 25 percent floor for revenue transfers will be
implemented in line with the above decentralization framework. A
plan is being prepared for the effective devolution of
expenditures that will govern the size of the resource pool to be
transferred, with strong managerial oversight and local
accountability. Most existing special-purpose programs will be
converted into broad block grants in order to give progressive
autonomy to local governments. An effective grants administration
of fiscal allocations will be established, a major role of which
will be to move towards uniform standards of public services
throughout the country.
12. The Ministry of Finance is taking the lead in implementing
the fiscal and financial aspects of the governance and fiscal
balance laws, especially setting and enforcing subnational
borrowing limits, and developing a government financial
management system. Working groups are being established under the
Coordinating Minister for Development Supervision and State
Administrative Reforms, with the participation of Bappenas, the
Ministries of Finance, Home Affairs, and other ministries, to
implement proposed government regulations that will define: (i)
central government authority and organization after
decentralization; (ii) local government authority and
accountability, including local taxation, financial reporting and
auditing; (iii) the sharing of specified revenues in the new
intergovernmental fiscal arrangement; (iv) the basis for
allocation of general and special transfers among regional
governments; and (v) limits and conditions for borrowing by local
governments. In addition, each line ministry has started a review
of its own functions with a view to identifying which ones will
be decentralized. We are requesting further technical assistance
from the IMF, the World Bank and the Asian Development Bank with
regard to implementing fiscal decentralization.
III. Banking System Reforms
The banking reforms specified in the May 14 MEFP are being
implemented as envisaged. A principal focus continues to be on
loan collection and asset recovery by the state banks and,
crucially, IBRA whose portfolio (consisting of the 12 BTO banks,
its Asset Management Investments (AMI) for shareholder equity
assets, and its Asset Management Credit (AMC) for transferred
loans) accounts for three-quarters of the total asset value to be
resolved. At the same time, progress continues to be made in the
operational restructuring of the state and IBRA banks.
IV. Loan Collection and Asset Recovery
The institutional framework set out in the May 14 MEFP is in
place. Most importantly, all state and IBRA banks, and the AMC,
have publicized the names of their largest debtors (over Rp 50
billion), initiated restructuring negotiations, established loan
recovery units, and set monthly recovery targets through December
1999. All state banks, and IBRA's AMC and AMI, have appointed
international banks or advisors to assist their restructuring and
loan recovery programs. The major BTO banks are also in the
process of engaging international banks to assist with
restructuring plans and loan recovery management.
13. As of end-June, 784 debtors (accounting for over half of all
debtors with loan values above Rp 50 billion), have signed
letters of commitment providing for: (i) full disclosure; (ii)
cooperation with due diligence audits; (iii) a time frame for
concluding restructuring; and (iv) willingness to accept a
strategic investor or management changes. On the basis of these
letters of commitment, and other preparatory work, all debtors
with loan values exceeding Rp 50 billion are being classified
under four categories (A-D), depending on their willingness to
cooperate and financial viability. This exercise will be
completed by July 31 for all state banks, and by August 31 for
BTO banks and the AMC, thus establishing a core data base for
monitoring future progress by the interagency debt restructuring
committee. Noncooperating debtors (C-D categories) will be
publicized by August 31 for all state banks, BTO banks, and the
AMC; they will be subject to penalties, including prompt filings
for bankruptcy and foreclosure, within one month of publication.
14. The strategy aims at giving priority to the largest borrowers
on a uniform and transparent basis to maximize the returns to
government. All state and BTO banks have adopted a phased
approach, starting intensively with their 20 largest borrowers
(the 200 largest in the case of the AMC), and moving sequentially
to the next largest group of borrowers every 2-3 months. In this
way, it is expected that restructuring negotiations will be
underway with at least the 80 largest borrowers of each bank, and
about 380 obligors of the AMC, by end December, 1999, with the
target of completing at least 70 percent (by book value) of these
negotiations by March 31, 2000.
15. Loan recovery performance will be monitored by the new
interagency debt restructuring committee, chaired by a former
State Auditor and comprising representatives of the Ministry of
Finance, IBRA, the Jakarta Initiative, and the State Audit
Office, in close cooperation with Bank Indonesia. The committee
will ensure that debt recovery and restructurings follow the
guidelines established by the government, and are coordinated
among the state institutions. The guidelines include providing
for the establishment of creditor committees and the appointment
of lead creditors, as well as the involvement of the Jakarta
Initiative Task Force (JITF), whenever private (especially
foreign) creditors are significantly involved.
16. IBRA's AMI and AMC have established recovery schedules with
respect to their shareholder equity holdings, loans, and other
assets, aimed at collecting (net of expenses) at least Rp 17
trillion by March 2000. These proceeds will be transferred on a
quarterly basis to the government account at Bank Indonesia.
17. To meet these targets, IBRA's AMI will complete discussions
with all former owners of the 1998 BTO and BBO banks related to
their prudential violations by July 31, enabling the transfers of
shareholder assets to holding companies to be completed by August
31, 1999. Several holding companies are now being formed, and it
is envisaged that at least 6 of the 8 shareholder agreements will
be fully operational by end-August, with a full set of directors
and commissioners, as well as full title to all relevant assets.
Cases of non-cooperation will be referred to the Attorney General
for prosecution by August 31. A similar process has been launched
by IBRA with respect to the eight banks taken over in 1999 (BTO),
and the 38 banks closed in 1999 (BBO) with any necessary
shareholder asset transfers to be completed by end-1999. BI is
following the same approach with respect to the sixteen banks
closed in November 1997, to be completed also by end-1999.
Further, the AMC has scheduled monthly auctions through December
1999.
18. Loan collection efforts will be given full transparency. All
state and BTO banks and IBRA have been asked to release quarterly
reports on loan recovery performance beginning in September 1999.
IBRA will also publish quarterly income statements and balance
sheets from September 1999.
V. Bank Mandiri
The process of integrating four state banks into Bank Mandiri
is at an advanced stage, and follows closely the strategy
contained in the May 14 MEFP. In particular, an international
bank has been brought into the management of loan recovery; and a
performance contract has been signed with its top management.
19. Bank Mandiri has established the following key restructuring
targets:
Compared with the 26,500 employees of the four component
banks, Bank Mandiri's staff requirement has been assessed at
14,500. Of those made redundant, about 6,000 staff will be
covered by the voluntary severance scheme, by July 31, with the
remainder being placed in temporary contracts and phased into the
severance scheme by December 2001. The top management of Bank
Mandiri has already been changed.
In parallel, almost one third of the total number of branches
(210) will be closed over the next two years, with half of these
closures achieved by end 1999, and many branches significantly
downsized.
20. Bank Mandiri has prepared a paper proposing an accelerated
program for its capitalization. The Ministry of Finance has asked
a group of independent international experts to review Bank
Mandiri's progress in operational restructuring and assess its
request for accelerated capitalization. The report of the
international experts is expected by July 26. It is expected that
a final decision on the amount and timing of Bank Mandiri's
capitalization will be taken by September 15, in the context of
the next bi-monthly review.
21. As an interim measure, the Ministry of Finance has agreed to
the partial issuance of bonds to Bank Mandiri by July 31, at the
time of the legal integration of the four component banks. Thus,
government bonds equivalent to Rp. 80 trillion will be placed in
Bank Mandiri's balance sheet on July 31, representing slightly
more than half of the bonds requested by Bank Mandiri management.
The remainder of Bank Mandiri's capitalization bonds will be
provided in two steps, at September 30 and December 31, 1999,
linked to its compliance with its performance contract,
especially loan recovery and profitability targets.
Restructuring of Other State Banks and BTO Banks
22. We have also advanced the restructuring of BNI, BRI, and BTN
aimed at preparing BNI for majority divestment in about 3 years,
and developing BRI and BTN into specialized institutions focused
on micro finance and mortgage lending, respectively.
International banks or advisors have been engaged to help manage
loan recovery and prepare new business plans by August 15,
enabling performance contracts to be signed with bank managements
by August 31. On this basis, recapitalization by government bonds
will take place on September 30, 1999, December 31, 1999, and
March 31, 2000, tied to the achievement of benchmarks related to
loan recovery, as well as branch and staff rationalization, in
line with the recommendations of the consultants. These
benchmarks will be set by August 31. If rights issues are
initiated for these banks, government bonds will be held in
escrow until these dates.
23. We are accelerating the privatization process for the four
1998 BTO banks (BCA, Danamon, PDFCI, and Tiara) that were
recapitalized in early June. Toward this end, we expect to engage
international firms as privatization advisors by August 15. We
expect that BCA will be the first to be put on sale, during the
last quarter of 1999, after merging into it one of the banks
(RSI) taken over by IBRA in March 1999. Regarding Danamon, we
have announced that PDFCI and Tiara, together with six of the
eight banks that were taken over by IBRA in March 1999, will be
merged with it, prior to its sale offer planned for early 2000.
Toward this end, Danamon will prepare a business plan by August
31, setting out the process of integrating the eight banks,
improving efficiency, and demonstrating viability. The solvency
of these banks will be maintained during the privatization
process by performance-based management and regulatory contracts
that will be signed by August 31. The remaining bank (Niaga)
taken over by IBRA in March 1999 will be resolved separately.
None of the 1999 BTO banks will be individually recapitalized,
and the fit and proper test will be applied to any role played by
the former owners.
Private Bank Recapitalization and Restructuring
24. The recapitalization process for the eight eligible banks has
been completed. Private owners have made additional capital
contributions toward covering the revised estimates of capital
need, and the government has completed its own injection of
capital. In aggregate, these contributions have now restored the
eight banks to a CAR of 4 percent. MOUs have been agreed, as
envisaged, leaving the private owners in day-to-day control, and
with the first right to buy back the government's share by June
2002.
25. Bank Indonesia is on track to complete the comprehensive
evaluation of the 74 A-category banks by July 31. By that date,
it is envisaged that all owners, managers, and directors of these
banks who failed the fit and proper test will be removed, and
former controlling shareholders who failed the test will fully
divest their holdings. By July 31, BI will also complete its
review and discussion of individual banks' financial soundness
and business plans. Corrective programs to deal with unviable
business plans will be established, where necessary, with
individual banks by September 30. Through this process, and
regular supervision, BI will ensure that private banks remain
solvent.
Legal, Regulatory, and Supervisory Framework
26. We have taken the following steps to strengthen the oversight
role and functioning of IBRA's Independent Review Committee
(IRC): (i) a Presidential decree has been issued formally
establishing this Committee; (ii) a new chairman has been
appointed; and (iii) a permanent secretariat will be established
on site at IBRA, by end-August, followed by regular meetings of
the committee. To ensure transparency, and communicate the
Committee's findings to the public, the IRC will issue a
communique after each quarterly review meeting.
27. BI is taking a number of steps to improve supervision and
increase the transparency of its operations and accountability to
the public, including through IMF technical assistance.
Regarding supervision, and in order to maintain the integrity
of the newly recapitalized banking sector, we are progressively
introducing aggressive measures toward a comprehensive bank
supervisory process which fully incorporates the Basle
Committee's Core Principles by end-2001. We have completed an
assessment of the nine units at the core of BI's supervision
function. Based on this review, and with the assistance of the
IMF, we will complete preparation of, and adopt, a master
strategy for strengthening BI's regulatory, supervisory, and
examination activities by September 1999. This strategy will: (i)
assign clear responsibility for the supervision and regulatory
functions within the Board of Governors; (ii) establish uniform
supervision standards for all public and private banks; and (iii)
require formulation of an annual risk-based supervisory program
for each bank. All technical assistance projects on banking
supervision will be undertaken within the framework of this
master strategy.
Under the new central bank law, BI will henceforth be
regularly audited by the Supreme Audit, and the first audit under
the new law will be completed by November 1, 1999.
28. We have embarked on a second phase of comprehensive review of
the banking law and related regulations, in consultation with the
IMF, to be completed by December 31, 1999.
29. We are also taking specific measures to develop a bond
market, which will increase financing options for the central
government, as well as expand the range of instruments for
monetary control.
VI. Corporate Restructuring, Governance and Legal Reform
The caseload of restructurings of the Jakarta Initiative Task
Force (JITF) has steadily increased. As of July 7, 234 companies
with a combined debt of $24 billion were being assisted by the
JITF. Twenty-two agreements in principle, with a debt of $ 3
billion, have been reached. Restructurings are also underway
without the assistance of the JITF. Nevertheless, we are
deepening implementation of the corporate restructuring strategy
to accelerate the number and amount of restructurings.
30. First, regarding the Jakarta Initiative: (i) the Ministry of
Finance has released $ 2 million to the JITF ensuring that, by
July 31, all JITFs operational expenditures will be met and
arrears cleared; (ii) The JITF is now sufficiently staffed and
funds committed by the World Bank are available to finance its
activities; (iii) 20 new facilitators will be retained by the
JITF by July 31; and (iv) accelerated approvals of restructuring
filings under the one-stop facilitation process have already
begun to take place, within clear deadlines, including on a
lapse-of-time basis.
31. To improve implementation of the bankruptcy law: (i)
guidelines for the assignment and remuneration of ad hoc judges
as members of the panel in cases before the commercial court will
be put in place by August 31; (ii) salaries of the judiciary have
been raised, and will be effective July 31; (iii) an inter-agency
steering committee will be established by August 31, to carry out
all preparatory work necessary to the effective functioning of
the commission for investigating state officials wealth (and, in
particular, the judicial subcommission) as soon as the relevant
legislation passed in May (Law 28/1999) becomes effective in
November; and (iv) the necessary decrees and regulations to
implement this law will be issued by October 31. In addition, a
broad anti-corruption law is currently under discussion in
Parliament, and is likely to be passed within the next month.
32. Restructuring will also be encouraged by the measures we are
taking to improve corporate governance. A high-level committee on
corporate governance policy and implementation will be formed by
July 31 with members from the private and public sector. The
strategy will include measures to rationalize the regulatory
framework, emphasize transparency of business practices, increase
the accountability of corporate insiders to shareholders and
regulators, and increase the effectiveness of enforcement by
regulatory agencies. These measures are also crucial to
strengthening market discipline, reducing the scope for
corruption, and preparing for private sector-led growth.
VII. State Enterprises and other structural issues
Considerable progress has been made in recent months in
implementing the programmed privatization effort for 1999/2000.
Next on the agenda is the privatization of a large palm
plantation and gold/nickel companies, followed by regional
airport and container concession companies, and fertilizer,
steel, and additional plantation companies. We have reaffirmed
the reliance in all cases on competitive and transparent bidding
procedures. The program already contains the commitment to
conduct independent audits to international standards on all
enterprises scheduled for privatization. The Ministry of State
Enterprises is committed to (i) privatizing the majority of state
enterprises in line with the privatization master plan; (ii)
improving the efficiency and governance of those that will
temporarily remain in state hands in preparation for
privatization; and (iii) preserving budgetary control. The
authorities will examine, with help from the World Bank and the
Asian Development Bank, the most effective ways of achieving
these aims.
33. The special audits of three public entities (BULOG,
Pertamina, PLN) were completed in June 1999. Their reports are
currently being reviewed by the government and the findings will
be published by August 31, 1999. The Reforestation Fund audit
will be completed in August 1999; after its review by the
government, the findings will be published by October 31, 1999.
In each case, corrective actions will be taken as necessary. A
second round of special audits for enterprises with strategic
significance and public exposure has been drawn up. The list
includes the principal national airline, the toll road operators,
the port corporations, and the domestic telecommunication company
(and its joint operations), among others. This second round of
audits will be completed by December 31, 1999 by international
consultants, and the results will again be published.
34. A major concern is the precarious financial position of the
state electricity corporation (PLN) and the implications of
recent arbitration decisions against the enterprise. The
potential scope for higher electricity prices for industrial
users and large household users is under examination, as these
tariffs are still below PLNs average production cost and lower
than other countries in the region. Rates for small household
users are not expected to be revised in the near term, thus
achieving better targeting of electricity subsidies. PLN is
pressing ahead with the renegotiation of their contracts for
electricity purchases from independent power producers (IPPs),
which are being conducted on a commercial basis without direct
government involvement. Discussions have already begun with the
first group of IPPs.
35. As part of our strengthened environment policy, specifically
regarding forest management, we will implement a broad-based
consultation process, seeking assistance from the World Bank, the
ADB, and other stakeholders prior to implementing major forest
policy reform.