Maintaining liquidity amid COVID-19 crisis
Insight | Posted by Innes N on April 16, 2020
There are no signs that the COVID-19 pandemic will ease up any time soon. In fact, it looks set to worsen, particularly in Indonesia. While various efforts to contain the pandemic continue, the reality is that the pandemic has led many countries to the brink of absolute crisis. Indeed, the International Monetary Fund has declared that the world is experiencing a far worse recession than that caused by the 2008 global financial crisis.
Finance Minister Sri Mulyani Indrawati has stated that Indonesia’s 2020 growth will decline to 2.3 percent. However, most observers agree that the economy will suffer a contraction should things turn out worse than expected.
In response, the government has reallocated some Rp 405.1 trillion (US$24.5 billion) from the 2020 state budget to fund the fight against COVID-19. This figure comprises Rp 75 trillion for the health sector, Rp 110 trillion for social protection, Rp 70.1 trillion in tax incentives and loans for small and medium enterprises (SMEs) and Rp 150 trillion for national economic recovery. All this is warmly welcomed.
Similarly, appreciation is due to the Financial Services Authority (OJK) for its new regulation that offers the prospect of special debt-restructuring facilities for micro, small and medium enterprise (MSME) borrowers that are experiencing difficulties as a result of COVID-19 and those with loans amounting to less than Rp 10 billion. However, the big question when facing any economic crisis is, what is the most important factor for fast economic recovery? In my experience as a banker who was deeply involved in the response to the 1998 crisis, the answer is liquidity.
During the 1998 crisis, not all sectors suffered equally. Indeed, some sectors actually prospered despite the general economic devastation. Those that were worst affected were corporations that had made highly aggressive investments and large banks owned by conglomerates that violated the principles of good corporate governance.
Even at the height of the 1998 financial crisis, solutions were still available for maintaining liquidity, such as tapping the global market. This was because the economies of many other countries outside Asia continued to be quite strong. In the end, the crisis in Indonesia gradually receded as increasing flows of global financial liquidity entered the country.
Many investors bought Indonesian corporations and banks at low prices. I remember how well-heeled individuals jetted into Jakarta from abroad just to buy luxury watches and expensive jewelry at knockdown prices from desperate Indonesian entrepreneurs looking to raise cash.
By contrast, today’s monetary issues are global in nature. Almost all countries are experiencing economic contraction. In fact, according to a report by McKinsey on March 25, the gross domestic products of the developed economies will experience negative growth, with the recession expected to continue until next year at least.
Unlike 1998, this time around the service sector, the backbone of the Indonesian economy, has been badly hit. The stay-at-home policy and the imposed large-scale social restrictions (PSBB) will severely hit a wide range of businesses: hotels, restaurants, cafés, travel, transportation, aviation, tourism and even manufacturing. Economic activity has almost ground to a halt, domestically and globally.
We need to urgently find solutions so as to maintain the liquidity flow to business. This is the key to survival and to avoid a prolonged economic crisis.
Simply put, a company’s liquidity comes from revenue (sales), while an individual’s liquidity comes from their income. Liquidity can be boosted by drawing on reserves, surpluses, cashing in time deposits or selling surplus assets, as well as by borrowing from financial institutions or from family and friends.
The pandemic directly disrupts the circulation of liquidity, because first, the income of both MSMEs and individuals has decreased; second, it is not easy to secure liquidity from financial institutions — according to information I have received, many banks have stopped providing new loans; third, it is not easy to secure liquidity by selling assets with few buyers around as now is not an ideal time for a shopping spree — the willingness to buy is closely related to the “feel good” factor, whereas the present time is one of concern and worry.
The OJK’s policy of providing an economic stimulus so that banks can maintain asset quality and nonperforming loans (NPL) ratios is welcome.
Also welcome are Bank Indonesia’s (BI) latest policies to address the impacts of COVID-19, which focus on maintaining monetary, financial and payment system stability, particularly in regard to the rupiah’s stability.
However, what is most important and requires the most attention is ensuring that banks and other financial institutions can maintain liquidity, especially in the case of small and not so well-managed banks and other financial institutions.
Therefore, the following steps are urgently needed:
First, an in-depth review of banks or other financial institutions: Are there any banks or other financial institutions that are likely to experience liquidity problems in the short term?
This is particularly important following the introduction of the OJK’s policy to allow the postponement of payments on loans for borrowers have been adversely affected by COVID-19. The impacts of this policy will be far reaching. For example, if large numbers of borrowers postpone installments on their motorcycles to finance companies, these companies will be unable to repay the loans from the banking sector.
Meanwhile, large and medium enterprises are experiencing severe delays in being paid. Consequently, they are unable to repay their own trade debts and loan interest, let alone principal. Many face the prospect of having to halt production and lay off workers. Ultimately, all this means that NPLs in the banking sector will soar, resulting in many banks experiencing liquidity problems.
Thus should the above review find that a bank or other financial institution is suffering from liquidity problems but has good financial performance and management, provision of liquidity assistance should be considered, as happened through the BI liquidity support (BLBI) program during the 1998 crisis. Liquidity assistance will be essential to allow such banks to continue lending.
Meanwhile, in the case of a bank or other financial institution identified as suffering liquidity problems due to evident mismanagement (such as lending to its own group companies through nominees, failing to address NPLs resulting in real cash flow, etc.), then policies will be required to force them to immediately consolidate or accept rescue.
Second, all mutual funds and investment products must be reviewed to identify as soon as possible a potential for default (remember the state-owned life insurance firm Jiwasraya and other similar cases). This review should be accompanied by focused and effective communication with investors to avoid panic in the financial markets.
Third, offshore US dollar corporate bonds needed to be monitored. If a potential for default is identified, an analysis of the systemic impact of such default should be conducted — would a default be tolerable or would it have an adverse domino effect on Indonesia’s entire economy?
Fourth, the country’s top 10 banks need to continue to lend selectively, especially to companies experiencing liquidity problems but with good business prospects overall, including MSMEs.
Fifth, liquidity flow to the market needs to be maintained through the top 10 banks by providing them with liquidity assistance so that they can continue lending, albeit at lower interest rates (both loan and deposit interest rates).