No. 4 — January 28, 2000


Weekly Review

--- by Marc Castellano

In what would amount to a dramatic policy reversal, Tokyo may agree to restructure nearly $1 billion worth of loans extended to Indonesia. The final decision will be made by the Ministry of Foreign Affairs and the Ministry of International Trade and Industry. The prospective restructuring plan covers loans from the Japan Bank for International Cooperation — the aid agency created from the October 1999 merger of the Export-Import Bank of Japan and the Overseas Economic Cooperation Fund — and trade insurance issued by MITI.

In recent years, other creditor nations have suspended debt payments to help Jakarta overcome fiscal shortfalls. Tokyo, however, simply provided more loans when Indonesia could not come up with money. Japanese aid administrators repeatedly have voiced the opinion that providing debt relief or rescheduling loan payments invokes moral hazard, an outcome that contributes to poor financial discipline and wasteful spending.

Last November, Indonesia's debt to Japan became the central focus of bilateral relations. Jakarta, in the midst of formulating a budget plan for FY 2000, was mulling the idea of asking Tokyo to forgive a significant amount of what it owes. Indonesia has some $80 billion in foreign debt, roughly half of which is due to Japan. Coordinating Minister for Economy, Finance and Industry Kwik Kian Gie let it be known that he was prepared to ask Tokyo for a reduction in loan principal, saying that without such help, a viable budget plan could not be compiled. However, Vice Finance Minister for International Affairs Haruhiko Kuroda responded coolly to this trial balloon, ruling out future assistance if any debt were canceled. He added that such a step would hurt Indonesia's international credit rating and send the rupiah plummeting.

Ultimately, Jakarta did not ask Tokyo for debt relief but indicated instead that it was looking for ways to manage its tremendous debt burden, including the option of refinancing in accordance with international rules. For its part, Japan agreed to continue assistance as long as Indonesia did not ask for debt forgiveness.

The issue resurfaced in the context of the January 20 release of Jakarta's new letter of intent to the International Monetary Fund, which was submitted simultaneously with its FY 2000 budget plan. Indonesia is struggling to contain its massive public debt — estimated by the World Bank to have exceeded 100 percent of gross domestic product in 1999 — and to rebuild international investor confidence, which continues to be shaken by enduring political instabilities and financial troubles. The country was hit harder than its neighbors by the financial and economic crisis that erupted in mid-1997.

Last August, a private audit of Bank Bali, one of several insolvent financial institutions covered by a government restructuring program, found evidence of questionable dealings to the tune of up to $80 million (see JEI Report No. 41B, October 29, 1999). As a result, the IMF suspended its lending to Indonesia, cutting off a critical source of funding. Japan also froze its aid program. More recently, an independent audit concluded that Indonesia's central bank may be technically bankrupt. A recapitalization effort, if needed, would severely strain Jakarta's limited resources.

Jakarta's IMF-approved economic plan, aimed at addressing these problems as well as speeding bank and corporate restructuring, has cleared the way for the multilateral financial institution to disburse the initial tranche of a $5 billion loan that has been frozen since last September. The IMF-Indonesian agreement also enabled Tokyo to finalize two pending yen loans from the Japan Bank for International Cooperation that are part of the Miyazawa Plan. One, totaling ¥71.9 billion ($599.4 million at ¥120=$1.00), is designed to help the poorest members of Indonesian society. The other, an ¥11.5 billion ($95.8 million) loan extended as well on concessional terms, will help support economic restructuring.

In announcing his administration's new economic plan, President Abdurrahman Wahid said that he would tackle Indonesia's public-debt problem in part by selling government assets. He also will seek a new two-year debt-rescheduling agreement with the Paris Club of official creditors, an international group of lenders that negotiates unified settlements with nations in imminent danger of default. Moreover, the president said, Jakarta will solicit international assistance to make up an expected $4.3 billion budget shortfall.

Tokyo in effect finances more than half of the expenses of the Indonesian government, normally providing roughly ¥190 billion ($1.6 billion) a year in development aid. Despite its traditional opposition to flexibility on fiscal commitments, Japan is considering making an exception for the cash-strapped Southeast Asian country. At a recent press conference, a Foreign Ministry official denied that Tokyo never had rescheduled Indonesia's debt. He added that such an arrangement could be reached in a multilateral context and that Tokyo is open to considering requests for debt restructuring "in coordination with the international community."

The jury is still out on whether Japan is going to join the crowd of creditor nations that have agreed to negotiate new terms for Indonesian loan payments. That action would mark a watershed in Tokyo's foreign aid policy.

The views expressed in this report are those of the author
and do not necessarily represent those of the Japan Economic Institute

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