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By Elizabeth Pisani
863 words
24 July 1990
Reuters News
(c) 1990 Reuters Limited

JAKARTA, July 24, Reuter - Indonesia's banking industry is heading for a shakeout as the central bank squeezes rupiah liquidity in order to curb speculative lending.

Interest rates for overnight funding have swung erratically between 12 and 40 pct in recent weeks due to the squeeze and local bankers warn the uncertainty is dangerous.

But top economic minister Radius Prawiro, speaking in an interview, responded, "Their horizon is a one-day horizon. That's short-term. We'd rather have them screaming for a bit than have the whole system collapse."

Since Jakarta announced financial deregulation in October 1987, some 32 new private banks and 14 joint venture banks have opened shop, and at least another 44 are queued up to follow.

Over 1,000 new branches of existing banks have opened, competing for prominent locations and flashy buildings. Savings and time deposits had more than doubled to 34,893 billion rupiah (19 billion dollars) at the end of April from 15,878 billion before deregulation.

The torrent of funds and cut-throat competition brought the cost of money down and loans grew even faster, to 63,606 billion rupiah at the end of 1989 from 22,430 billion in mid-1987.

But bankers and regulators fear the pressure to turn deposits into loan assets has led to sloppy lending that will turn sour when Indonesia's export boom slows down.

"Mismanagement can be hidden very nicely by an economy that's going well," said James Riady, president of Lippo Bank, one of Indonesia's fastest growing private banks.

"If you can borrow from other banks at 11 pct in the money markets and then lend on to your clients at 23 pct, it looks like good business," said one Asian banker. "But it's totally artificial liquidity."

To put a stop to this sort of speculation, the central bank, Bank Indonesia, has been draining funds from the market.

In January it announced an end to subsidised loans, mostly for export. Such loans totalled eight billion dollars in 1989.

Over the past three months it has consistently sold short-term paper, mostly to the giant state banks which used to provide the interbank market with much of its funds.

"Nobody can work with a speculative economy," Radius said. "We have to reduce the money supply and tax windfall profits. Unless inflation is kept in check, it will erase benefits of growth and hit the pocketbook of the man in the street."

As more funds are sucked into the central bank, competition for remaining funds grows, and banks with rupiah to lend have been able to ask as much as 40 pct for overnight money.

"When you're paying 40 pct for your money from other banks, suddenly your loans at 23 pct don't look like such good business," the Asian banker said.

Foreign banks are hit hardest by erratic interest rates because of a law which restricts foreign exchange exposure to 25 pct of capital on any given day. If they run long-dollar positions, they have to cover by borrowing rupiah overnight, where a 40 pct overnight rate can take its toll.

But Radius said, "Foreign banks scream that interest rates are too high but they are bringing in new capital, swapping it into rupiah with the central bank at a cost of around 16 pct, and then lending it out at 30. They can't complain too much."

Whether they call it a "consolidation" like Radius, a "shakeout" like Riady or a "crash" like long-time foreign bankers in Jakarta, almost everyone agrees that the Indonesian banking sector will run into difficulties soon.

Central Bank Governor Adrianus Mooy told bankers last week he was planning better supervision that would act as an early warning system to prevent a collapse.

Bank Indonesia is adamant it will not bail out any bank that gets into really deep water. But if a bank were to fail and take its small depositors with it, a run on all banks would be quite possible, local bankers say.

"You wouldn't be able to move in this city for the queues outside banks," one foreign treasury manager said. On the interbank market things would look no better, he added.

"There would be a domino effect. In this market, if one bank fails you can assume almost every other bank is exposed to it."

Radius said mergers and aquisitions were more likely than bailouts: "There is likely to be some kind of consolidation."

A shortage of qualified bankers and a move by top quality borrowers to raise money more cheaply on the stock market, rather than from banks, contribute to bankers' woes.

But once the system shakes out the inefficient and ill-managed banks, growth potential is solid, bankers say.

"We need to monetise the system, to increase savings and reduce the propensity to consume. From that point of view there are not too many banks," said Radius.

"Gross margins are still very high," said Riady, estimating them at around seven pct. "After a shakeout the strong banks will be healthier and better managed than now."


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