As the economic news within the country and overseas is getting worse every week, with Bank Indonesia now foreseeing a growth as low as 4 percent this year, as against the government’s forecast of 4.5-5.5 percent – the monetary stance has to be eased further to bolster domestic consumption.

Bank Indonesia predictably lowered its benchmark interest rate for a third straight month last week by 50 basis points to 8.25 percent to prop up domestic market demand amid the sharp decline in exports as the country saw deflation for the last two months.

Despite the half-point cut, the differential between the BI rate and the United States federal funds rate remains quite high at 8 percent, considered still quite attractive to woo, or at least retain, foreign portfolio capital.

However, the significant interest rate cut would be rather meaningless in reinvigorating economic activities if most banks remain inordinately risk-averse.  

Latest data from the central bank showed new lending during the last two months of last year virtually stalled with a credit expansion of a mere 0.3 percent, as against the annualized growth rate of almost 30 percent during the first three quarters.

The central bank has introduced a set of new measures to encourage and enable banks to expand their lending portfolios without causing too big a risk of eroding their capital base.

However, the central bank needs to do some jawboning to force state banks, which still account for more than 35 percent of the total banking assets, to drive up lending to achieve the credit expansion target of 18-20 percent this year.

The impact of the fiscal stimulus of US$6.5 billion the government is pumping into the economy would be made less meaningful if lack of credit forced sound companies under because of a working capital squeeze.

The government and central bank need to better coordinate their intervention to help flush bank credit expansion.

True, the business risks in several areas, notably in the sectors depending largely on the international market such as labor intensive manufacturers, have increased.  But there are many other businesses that can still do well on the back of domestic demand in so far as the economy can still grow by 4 percent, much higher than the average 2.5 percent predicted for the whole of Asia.

The central bank admitted mutual distrust between big banks on one side and medium- and small-sized banks on the other still clogged interbank lending which is crucial for managing liquidity within the banking industry.

Though to our knowledge, there is not a single bank now under the central bank’s special surveillance, big banks still tend to be suspicious of smaller ones, seemingly not able to fully understand what is behind the balance sheets of their counterparts.

In normal times, banks rely on several mechanisms for providing the necessary information, such as accounting disclosures and credit rating agencies.  However, now is a not normal environment because accounting disclosures on complicated structured products are sometimes not adequate to reveal toxic assets.

This requires the central bank to further improve the quality of its bank supervision so that it can serve as a credible arbiter of information on the soundness of banks.                                         

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