Financing Southeast Asia's Economic Development 9789812306128

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Financing southeast Asia's Economic oeuelopment

The Institute of Southeast Asian Studies (ISEAS) was established as an autonomous organization in 1968. lt is a regional research centre f()r scholars and other specialists concerned with modern Sourheast Asia, particularly the many-faceted issues and challenges of stability and security, economic development, and political and social change. The Institute's research programmes are Regional Economic Studies (RES, including ASEAN and Al'EC), Regional Strategic and Political Studies (RSPS). and Regional Social and Cultural Studies (RSCS). The Institute is governed by a twenty-two-member Board of'li·ustces comprising nominees from the Singapore Government, the National Universitv of Singapore, the various Chambers of Commerce, and professional and civic organizations. An Executive Committee oversees day-ro-day operations; it is chaired by the Director, the Institute's chief academic and administrative officer.

Edited bU DiCh

J. freeman

I5EA5 InSTITUTE OF SOUTHEAST ASIAn STUDIES, Singapore

First published in Singapore in 2003 by Institute of Southeast Asian Studies 30 Heng Mui Keng Terrace Pasir Panjang Singapore 119614 Internet e-mail: [email protected] World Wide Web: http://bookshop.iseas.edu.sg

All rights reserved. No part of this publication may be reproduced, translated, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior permission of the Institute of Southeast Asian Studies.

© 2003 Institute of Southeast Asian Studies, Singapore l"he responsibility/(Jr focts and opinions in this publication rests exclusively with the editor and contributors and their interpretations do not necessarily reflect the views or the policy ofthe Institute or its supporters.

!SEAS Library Cataloguing-in-Publication Data Financing Southeast Asia's economic development I edited by Nick Freeman. Papers presented originally at the ASEAN Roundtable on Financing Sustained Economic Development in Southeast Asia, 22-23 October 2001, Singapore, organized by the Institute of Southeast Asian Studies and supported by Konrad Adenauer Stiftung. I. Finance-Asia, Southeastern-Congresses. 2. Debt, Extcrnal-Asia, Southeastern-Congresses. 3. Banks and banking-Asia, Southeastern-Congresses. 4. Investments, Foreign-Asia, Southeastern-Congresses. 5. Venture capital-Asia, Southeastern-Congresses. 6. Stock exchanges-Asia, Southeastern-Congresses. 7. Capital investments-Asia, Southeastern-Congresses. I. Freeman, Nick J. II. Institute of Southeast Asian Studies. Ill. ASEAN Round table (200 I : Singapore) HC441 A843 200 I 2003 sls2002020280 ISBN 981-230-181-X Typeset by Stallion Press (India) Pvt. Ltd. Printed in Singapore by Seng Lee Press Pte. Ltd.

List ofTables List of Figures Acknowledgements Contributors

Vll XI Xlll XV

External Financing under Financial Globalization: An East Asian Perspective Akira Kohsaka 2 Managing the Debt Burden in Southeast Asia Homi Kharas and Sudarshan Gooptu 3 Commercial Bank Lending and Restructuring in the ASEAN-5 Countries Sakulrat Montreevat and Denis Hew 4 The Challenges of Micro financing in Southeast Asia John D. Conroy 5 Opportunities and Trends in the ASEAN Project Finance Environment Gary S. Wigmore and Giles Kennedy 6 Developing the Role ofVenture Capital in Southeast Asia Khalili Khalil

33

GO 97

162 176

Contents

vi

7 Reviving Foreign Direct Investment Inflows in Southeast Asia Hafiz Mirza

195

8 Developing the Fledgeling Debt Securities Markets in Southeast Asia Mario B. Lamberte

208

9 Developing and Deepening the Equity Markets of Southeast Asia Nick}. Freeman

245

10 Regional Financial Integration in Southeast Asia Ngiam Kee fin 11

The Role of Multilateral Lending and Development Agencies in Southeast Asia Santi Chaisrisawatsuk and Wisarn Pupphavesa

281

315

Appendix 1: Project Finance in Southeast Asia's Water and Sanitation Sector Eric Teo

343

Appendix 2: Financing Electricity and Gas Supply in Southeast Asia: The Role of Intergovernmental Co-operation Andrew Symon

349

Index

365

1.1 Net Capital Inflows to Emerging Markets 1.2 Pre-Crisis Macroeconomic Situation 1.3 Maturity Composition of External Debt

12 16 17

2.1

Public Debt as a Share of G D P

37

3.1

ASEAN-5 Bank Loans, Bonds, and Equities, as a Percentage of GDP, 1996-2000 ASEAN-5 Outstanding Loans of Commercial Banks, 1996-2000 ASEAN-5 Percentage Share of Bank Loans, by Economic Sectors, 1995-2000 Number of Commercial Banks in ASEAN-5, 1996-2000 Supply-Side Jndicators of Unwillingness to Lend of Commercial Banks in the ASEAN-5 Countries, 1996-2000 Demand-Side fndicators of a Slowdown in Bank Lending in the ASEAN-5 Countries, 1996-2000 Measures Employed to Alleviate the Credit Slowdown in the ASEAN-5 Countries Systemic Banking Crises in Selected ASEAN Countries, 1998

3.2 3.3 3.4 3.5

3.6 3.7 3.8

62 63 64 65

67 68 71

72

List o{Jables

viii

3.9 3.10 3.11

3.12 3.13 3.14

4.1 4.2

6.1 6.2 6.3 7.1 7.2 7.3 7.4 7.5

8.1 8.2

Singapore Domestic Banking Sector, after the Bank Mergers Capital Adequacy Ratio (CAR) in Thailand, Malaysia, and the Philippines, 1997-2001 Non-Performing Loan Levels (Excluding Transfers to Asset Management Companies) in Indonesia, Malaysia, Thailand, and the Philippines, 1998-2001 Financial Restructuring Measures in ASEAN-4 Countries Asset Resolution Strategies in Select Southeast Asian Countries Bank Foreign Ownership Ceiling and Business Differentiation

76

77

80 81 82 83

World Outreach of Microcredit Indonesia: Regulated Financial Institutions and Microfinance, 2000

120

Malaysian VCCs' and Asian VCCs' Perspectives Compared Types of Exit by Venture Capitalists (U.S. Study) Critical Success Factors for VCCs in the K-Economy

182 188 192

Growth in Real GDP per Capita, 1982-2001 Inward Foreign Direct Investment in South and East Asia, 1980-99 Percentage of Global FDI Share of Selected Developing Countries Top Ten Investors in ASEAN: Balance of Payments Flow Data, 1995-2000 Priority Policies to Encourage Foreign Direct Investment Into and Within ASEAN Indonesia: Maturity Structure of Government Bonds Indonesia: Corporate Bonds Maturity Structure, December 2000

100

196 197 199 200 204 219 220

List of Tables

8.3 8.4 8.5 8.6 8.7 8.8 8.9 8.10a 8.10b 8.11a 8.11b 8.12

9.1 9.2

10.1 10.2

10.3 10.4 10.5

Malaysia: Outstanding Malaysian Government Securities Classified by Original Maturity Malaysia: Outstanding Private Debt Securities Classified by Original Maturity Philippines: Issuance of Government Securities, 1995-2000 Philippines: Issuance of Commercial Papers Thailand: Maturity of Government Bonds under the 500 Baht B Programme Thailand: Maturity Structure of Corporate Bonds Indonesia: Major Issuers of Corporate Bonds, 1996-2000 Malaysia: New Issues of Private Debt Securities (Excluding Cagamas Bonds) by Sector Malaysia: Share of New Issues of Private Debt Securities (Excluding Cagamas Bonds) by Sector Philippines: Short-Term Commercial Paper Issues Philippines: Long-Term Commercial Paper Issues Thailand: Values of Corporate Bonds Issued During 1995-2000, Classified by Industry MSCI Weightings for Southeast Asia Compared (Mid-2001) Top Ten Multinational Enterprises, Ranked by Size of Foreign Assets, 1999 Summary of Current and Capital Account Liberalization in the ASEAN-5 Countries Major Regulations on Offshore Use of Currencies in Selected Asian Countries, 31 December 2000 ASEAN-4: Net Capital Flows, 1990-97 International Bank Lending to Emerging Asian Economies, 1996-98 Inflow of Foreign Direct Investment into ASEAN-5, 1985-99

ix

220 221 222 223 223 225 226 227 227 228 229 232

259 261

284

286 290 291 291

X

List ofTtzbles

10.6 10.7 10.8

Singapore: Capital Flows, 1996-2001 Absolute Covered Interest Differential Sources of Intra-ASEAN Outward Direct Investment Flows, 1995 to June 1999 10.9 Sources and Recipients of Net lntra-ASEAN Direct Investment, 1995 to June 1999 10.10 Milaysia: Net Portfolio Investment 10.11 Malaysia: Flow of Funds through External and Special External Accounts, 15 February to 2 June 1999 11.1 11.2 11.3 11.4 11.5 11.6

Cumulative World Bank and ADB Lending, GNI per Capita, and GDP Growth, by Country Cumulative ADB Lending and Technical Assistance to Southeast Asia, as at End 2000 Cumulative World Bank Lending to Southeast Asia, by Sector Gross Domestic Savings, Capital Formation, and Resource Gap in Southeast Asia Change in Consumer Prices, 1995-2000 Spearman's Rank Correlation Coefficients

292 295 299 299 302 303

324 325 327 329 331 333

1.1 1.2 1.3 1.4 1.5 1.6 1.7 1.8

Net Capital Flows, by Region, 1970-99 Net Capital Flows in East Asia Net Private Financing, by Region, 1992-2000 Gross Private Financing to Emerging Markets, 1995-2000 Real Effective Exchange Rates Exchange Rate Regimes and Foreign Exchange Controls Gross Capital Flows Degrees of Capital Account Liberalization

2.1

Conventional Deficits Only Partially Explain Changes in Public Debt Changes in Public Debt in Cambodia, Laos, and Vietnam The Buildup of Public Debt Has Been Mainly Due to Domestic Debt Issuance Primary Balances in ASEAN Countries, 1995-2000 Sovereign Risk and Devaluation Risk Premiums, January 2000 to April 2001

2.2 2.3 2.4 2.5 6.1 8.la

5 6 9 10 14 18 24 25 40 41 44 45 50

Self-Reinforcing Cycle of Economic Prosperity: The Bay Area Experience

178

ASEAN- 5: Outstanding Total Debt Securities

212

List ofFigures

xii

8.1b 8.2a 8.2b 8.3a 8.3b 8.4 8.5

9.1 9.2 9.3 9.4 9.5 9.6 9.7

9.8

10.1 10.2

ASEAN-5: Total Gross Issuance of Debt Securities, 2000 ASEAN-5: Ratio ofTotal Outstanding Debt Securities to GDP ASEAN-5: Ratio ofTotal Gross Issuance of Debt Securities to GDP, 2000 ASEAN-4: Distribution of Outstanding Debt Securities ASEAN-5: Distribution of Gross Issuance of Debt Securities, 2000 Ratio of Outstanding Debt Securities to GDP by Major Issuers Distribution of Outstanding Debt Securities by Major Issuers Number of Listed Companies in Southeast Asia's Main Equity Markets, 1990-2001 Market Capitalization of the Southeast Asian Equity Markets, 1990-2001 Capitalization of Southeast Asian Markets and Select U.S. Corporates, as at 25 September 2001 Market Capitalization of Southeast Asia and Hong Kong Compared, 1990-2001 Relative Performances of the Main Equity Market Indices in Southeast Asia, 1987-2001 Relative Performances of the Main Equity Market Indices in Southeast Asia, 1994-2001 MSCI's All Country World Free Index Weightings for Southeast Asia, Before and After the New Free Float Component MSCI's All Country Asia-Pacific Free Ex-Japan Index Weightings for Southeast Asia, Before and After the New Free Float Component Singapore: Foreign Equity Investment Thailand: Foreign Equity Investment

212 213 213 215 215 216 218

248 249 251 251 253 254

261

262 301 301

Creating this book has been a team effort. I wish to express my sincere appreciation to all the chapter contributors for their support in generating this volume, and for dealing with my incessant e-mail messages with such good humour. I am also very grateful to the Konrad Adenauer Stiftung (KAS) for its financial support of the ASEAN Roundtable 2001, on the topic of "Financing Sustained Economic Development in Southeast Asia'', from which this book directly emanates. Initial versions of the chapters in this volume were first presented as papers at the Round table in October 2001, and subsequently benefited from insightful comments made by discussants and other participants. I would like to thank all those who participated in the Roundtable, and particularly the paper discussants for their valuable comments on the papers presented. I also wish to thank the experts who took time out of their busy schedules to share their thoughts and experiences in a stimulating panel session on project finance in Southeast Asia. In addition to the chapter writers cited in this book, the following people provided very valuable inputs and insights during the Round table gathering, which undoubtedly helped strengthen and enrich this book: George Abonyi of Asia Strategy Forum in Bangkok, Charles Adams of the IMF in Tokyo, Marie-Anne Birken of Orrick Helen Yeo in Singapore, Soedradjad Djiwandono of ISEAS, Do Thi Kim Hao of the Hanoi Banking College, Kathryn Kerle of Moody's in Singapore, Leeber Leebouapao of the National Economic

xiv

Ackllow!n{r;cments

Research Institute in Vientiane, Worapot Manupipatpong of the ASEAN Secretariat, Wolfgang Moellers of KAS, Mya Than of ISIS in Bangkok, Hadi Soesastro of CSIS in Jakarta, Peter Step hens of the World Bank in Singapore, Bambang Subianto of AABS in Jakarta, Andrew Symon of Petroleum Argus in Singapore, Leslie Teo of the Monetary Authority of Singapore, Jean- Pierre Verbiest of the Asian Development Bank, and Vo Tri Thanh of the Central Institute of Economic Management in Hanoi. My sincere thanks also go to the staff at the Institute of Southeast Asian Studies for their sterling work in both helping to organize the Roundtable and preparing this volume for publication. Nick]. Freeman June 2002

John D. Conroy is Special Consultant at the Foundation for Development Cooperation, Brisbane. Nick]. Freeman is Senior Associate Fellow of the Institute of Southeast Asian Studies, Singapore. He is also a Senior Advisor to Mekong Capital Ltd. Sudarshan Gooptu is Senior Economist, Poverty Reduction and Economic Management Sector Unit, East Asia and Pacific Region, at the World Bank. Denis Hew is Fellow at the Institute of Southeast Asian Studies, Singapore. Giles Kennedy is an associate in Milbank, Tweed, Hadley & McCloy LLP's Singapore office and a member of its global corporate finance team. Khalili Khalil is Associate Professor, and Special Tasks Officer in the Office of the Deputy Vice Chancellor (Academic), Universiti Teknologi Malaysia. Homi Kharas is Chief Economist, East Asia and Pacific Region, at the World Bank.

xvi

Contributors

Akira Kohsaka is Professor of Economics at the Osaka School of International Public Policy, Osaka University, Japan. Mario B. Lamberte is President, Philippine Institute for Development Studies (PIDS), Manila. Hafiz Mirza is Professor of International Business at the Bradford University School of Management, United Kingdom. Sakulrat Montreevat is Fellow at the Institute of Southeast Asian Studies, Singapore. Santi Chaisrisawatsuk is at the School of Development Economics, National Institute of Development Administration (NIDA), Thailand. Ngiam Kee Jin is Senior Fellow at the Institute of Southeast Asian Studies, Singapore. Andrew Symon is the Singapore-based editor of Argus Asia Gas & Power, published fortnighly by the U.K. group, Energy Argus. He is also a research associate of the South Australian Centre for Economic Studies at the University of Adelaide. Eric Teo is Managing Director of Savoir Faire Corporate Consultants, and Council Secretary, Singapore Institute of International Affairs. Gary S. Wigmore is the managing partner of Milbank, Tweed, Hadley & McCloy LLP's Singapore office and is head of the firm's Asian Project Finance Practice. Wisarn Pupphavesa is Dean, Graduate School of Development Economics, National Institute of Development Administration, Thailand.

Ahira Hohsaha

1. Introduction In the 1990s, capital account transactions expanded far beyond current 1 account counterparts, across both developed and developing economies. This new ''financial globalization" trend has been produced by two recent 2 developments: financial liberalization and financial innovation. Both trends tend to blur distinctions in existing financial institutions, instruments, and transactions, and so shift the roles of government authorities from discretionary direct intervention in markers to rulebased indirect supervision and surveillance. Under these trends, however, net private - as well as total - capital inflows to the financial crisisaffected countries in East Asia turned negative, and remained so since 1997. And at this moment, we see no sign of their becoming positive in

2

Akim Kohsaka

the near future. As such, a series of financial crises have made clear that international capital flows carry risks as well as benefits. Indeed, since the early 1990s, views on the impact of international financial integration on developing economies have changed significantly. Financial globalization, or capital market integration, is forcing the policymakers of developing economies (and particularly "emerging market" countries) and international communities to cope with new policy challenges. Indeed, since the Asian financial crises, various efforts have been launched in a range of areas in pursuit of a more robust domestic as well as international financial system (International Monetary Fund [2000c]). Some areas are said to enhance transparency and accountability, better assess standards and codes, and more clearly identifY financial sector vulnerabilities. Generally, they are intended to contribute to better-informed lending and investment decision-making. Other areas include capital account liberalization, alternative exchange rate regimes, and involving the private sector in crisis resolution. They are intended to harmonize the new reality of jumped-up capital movements within domestic - as well as international - settings, and to restructure domestic and international institutions, and help them adapt to this new reality. The purpose of this chapter is to give some thought to this area. More concretely, based on our painful experiences of the financial crises of the 1990s, we should search for realistic policy principles, particularly in the field of macroeconomics, balancing the benefits of financial globalization with the costs of intrinsic market failures. Specifically, given the apparent intrinsic defects of capital markets in general, this chapter emphasizes the importance of a second-best mix of policy tools in developing countries with respect to exchange rate regimes, prudential regulations, and capital controls. The 1990s was a decade when a wide range of capital transactions was deregulated, along with financial globalization. In developing countries, particularly emerging market countries, capital account liberalization was vigorously promoted through expanding access to international capital markets, with the aim of reducing capital costs and enlarging alternative sources of external finance. As a consequence of rapidly accumulated external debt, and then a reversal of these flows (especially short-term flows), a series of currency and

]. Extemfll Fiwmcin;; under Fiwmcial Globalizrztion: An Fmt Asian Perspective

3

financial crises occurred in East Asia. Accordingly, it is quite natural to ask what was wrong with capital account liberalization, its pace, and its sequencmg. We should note here that it is inappropriate to discuss capital account liberalization independently of macro-management frameworks and microeconomic structures in the context of individual economies. Macroeconomic frameworks, such as exchange rate regimes, obviously affect capital movements. Microeconomic structures of financial institutions, as main actors in the international capital markets, also significantly affect capital movements. And, vice versa, capital movements affect both macro and micro institutions. Therefore, in discussing capital account liberalization, we must have a comprehensive perspective, including both macroeconomic policies and microeconomic structures in East Asia. That said, how can we make efficient use of capital markets despite their intrinsic failures? In this respect, actual policy choices must be based on a strong grasp of the institutional infrastructure in individual economies. In order to identify feasible policy choices, we must distinguish between realistic responses necessary for the time being and desirable policy courses in the long run, with knowledge of the institutional infrastructure that has supported both policy management and financial markets. The next section of this chapter briefly overviews patterns and components of international capital flows to emerging markets, highlighting diversities across periods, as well as across regions and individual economies. In Section 3, we briefly review policy lessons learnt from our experiences of the financial crises in the 1990s. Inflexible exchange rate regimes, volatile short-term capital flows and vulnerable financial systems are found to be some of the usual suspects. Section 4 pursues possible policy choices to cope with the fragilities associated with volatile capital flows to those economies. We emphasize the nonexistence of a unique all-weather solution, and the necessity of finding tailor-made prescriptions for individual economies. Policy issues related to capital account liberalization arc re-examined in Section 5, focusing on potential benefits of external financing on the economic growth of emerging market countries. We argue that unconditional capital account liberalization could be very dangerous, and requires a variety of pre-

4

Akira Kohsaka

conditions for full-fledged liberalization, which are not necessarily common among individual economies, and should be pursued in each historical as well as socio-political context. In the concluding section of the chapter, the remaining agenda will be briefly touched upon.

2. Patterns and Compositions of Capital Flows in East Asia Before discussing possible policy choices to cope with these increasing, but periodically volatile, international capital flows, this section briefly overviews patterns and components of international capital flows to emerging East Asian markets, highlighting diversities across periods, as well as across regions and individual economies. In the past three decades we have witnessed twin peaks in capital flows to developing economies (see Figure 1.1). The first was in the early 1980s, and the second was in the mid-1990s. Both peaks were followed by abrupt reversals of capital, from inflows to outflows, on a massive scale. But capital flows are not homogeneous and their behaviour can be different. Generally, foreign direct investment (FDI) is far more stable than other flows, such as portfolio investment and loans. Indeed, the first surge of capital flows to developing economies consisted mainly of debt flows, especially bank loans. Once they subsided, the more recent upsurge of flows was led by non-debt flows (that is, FDI), next by portfolio investments (that is, bond and equities issuance), and then by the recovery of bank and other loans. Before the Asian financial crisis in 1997, there were significant differences in the compositions of capital flows across regions. In the case of East Asia and the Pacific, the role of bank loans was relatively larger than other developing regions, such as Latin America, while both regions had in common the most important component: FDI (see Figure 1.2). Even these regional characteristics in capital composition, however, could obscure the differences among individual economies within each region. In Asia, one reason is the existence of China as a big absorber of foreign capital flows (Figure 1.2), largely in the form ofFDI. For China, the role of bank loans and portfolio investment is relatively secondary, although both are also large in absolute terms. Thus, it is not surprising to see that Southeast Asia's economies have experienced very different capital compositions. In Indonesia, bank and other loans led the capital

Figure 1.1 Net Capital Flows, by Region, 1970-99 Developing Countries

350,000 300,000

• Short-term debt flows [] Total long-term debt flows D Portfolio equity flows Cl Foreign direct investment

~ 250 ,000 t-L:Illl.__-G:_r::an:_ts'-----_ _ _ _

__if------- -

-

- - - - - - - ----,

.~ ~ 200,000 +---- - - - - - - - - - - - - - - - - - - - - - -- ~

(f)

::::>

t5o,ooo +--- - - - - - - - - - - - - - - - - -- - - -•rl

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

1988

1990

1992

1994

1996

1998

East Asia and the Pacific 180,000 160,000 140,000 120,000

j 100,000 ""::::> 80,000

• Short-term debt flows []Total long-term debt flows D Portfolio equity flows Cl Foreign direct investment ill Grants

~

(f)

60,000 40,000 20,000

1970

1972

1974

1976

1978

1980

1982

1984

1986

Latin America and the Caribbean 160,000 140,000 120,000 100,000

• Short-term debt flows []Total long-term debt flows D Portfolio equity flows 0 Foreign direct investment ill Grants

~

c

g

80,000

""::::>

60,000

~

(f)

40,000 20,000

1 -20,000

Source: World Bank, Global Development Finance , CD-ROM (2000) .

Figure 1.2 Net Capital Flows in East Asia Indonesia 25,000 20,000

• Short-term debt flows D Total long-term debt flows

15,000

D Portfolio equity flows

10,000

DGrants

0 Foreign direct investment

j

:;:;

5,000

(/)

:::>

-5,000 -10,000 -15,000

Philippines 10,000 8,000 6,000 w c 0

4,000

• Short-term debt flows D Total long-term debt flows

D Portfolio equ1ty flows D Foreign direct investment

DGrants

:;:;

"':::> (/)

2,000

1 -2,000 -4,000

Malaysia

15,000

• Short-term debt flows DTotallong-term debt flows D Portfolio equity flows f--

-

- - - - - - - - - -- -- - - -- - ---,Ac----'

D Foreign direct investment DGrants ~ 10,000

::;;

(/)

:::>

5,000

+--------------71'1'111~----------,;-~

1972

1974

1976

1978

-5,000 -'-··· · · - · - - - - - - - - - - - - -- - - · - -....................--·-·-------------~

Figure 1.2 (continued) Thailand 25,000 r .................. · ····· ·· · ···· ···· ·· ········· · ········ · ...... ................................... . ..... ................... ........... ... ...................................... . ····················· ........................................... ................. ...

20,000

• Short-term debt flows 0 Total long-term debt flows D Portfolio equity flows

15,000

0 Foreign direct investment DGrants

-~

~ 10,000 -+--

-

f-----------------------JI~------1

f - - - - - - - - -- - - -- - - - --A:---,

- - - - - - - - - - - - - -- - - --

1972

1974

'

------,-----,

1976

Korea 50,000 • Short-term debt flows

~

c 0

40,000

0 Total long-term debt flows

30,000

D Portfolio equity flows 0 Foreign direct investment

20,000

Cl Grants

~

"' ::> (f)

10,000

1972

1974

1976

1978

-10,000 -20 ,000

China 80,000 70,000 60,000 ~

.§ ~

"' ::> (f)

50,000

• Short-term debt flows 0 Total long-term debt flows D Portfolio equity flows D Foreign direct investment DGrants

40,000 30,000 20,000 10,000

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

Source : World Bank, Global Development Finance , CD-ROM (2000) .

1996

1998

8

Akira Kohsaka

upsurge, rather than FDI, which was also the case in Thailand (including huge short-term loans) until 1997. Malaysia observed FDI playing a leading role in ballooning capital inflows, while the Philippines' experience was somewhere in-between these four Southeast Asian economtes. Then came the Asian currency, financial, and economic crises of 1997 and after. The three capital components showed very contrasting developments during the crises (see Figure 1.3). The largest contraction was found in loans, but FDI either remained the same or showed a little increase, while portfolio investment flows were somewhere in-between. One of the interesting differences between the East Asian and Latin America experience is the rebound of portfolio flows to the former, which was is not the case for the latter. One reason again is the China factor. On the other hand, as far as bank and other loans are concerned, the inflow reversals were severe, and damaged real economies in the region, because of their heavy reliance on loans in the past. The sharp reduction of loans is particularly visible in charts depicting gross financing flows 3 to East Asia (see Figure 1.4). The rise and fall of bank loans can be attributed to a number of factors. High rates of return on assets, mechanisms to reduce information asymmetries, enhanced contract enforcement and moral hazard would be part of the explanation. Inevitably, however, bank loans tend to be pro-cyclical and are prone to reverse contagion, stemming from large exposures to emerging markets. Portfolio investment flows also share some of the same pro-cyclical and contagious characteristics as bank loan flows. For the time being, net capital inflows to Southeast Asia will remain negative or close to zero (see Table 1.1). One reason is that heavily indebted economies in the region still have to repay their external debts. The other is that declines in FDI inflows to Southeast Asia are being offset by larger FDI inflows to China. Net flows in bank loans will remain negative, and those in portfolio investment close to zero, against the background of the present unfavourable global financial situation. This situation is driven by such external factors as the global economic slowdown (including the technology sector), weakening growth in Europe and Japan, as well as such domestic factors as lacklustre structural reforms and political uncertainties.

Figure 1.3 Net Private Financing, by Region, 1992-2000 Emerging Markets 250 0 foreign direct investment 0 portfolio investment • bank loans and olher

200 150 100 ~

c

50

0

i:ii

lZ ::::> -50 -100 -150 -200

Asia 150

100

·'-....

~

Private capital flows, netb Private direct investment, net Private portfolio investment, net Other private capital flows, net Official flows, net Change in reservesc

37.4 12.2 45.5 -20.3 30.4 -20.7

42.4 23.2 63.7 -44.4 7.8 4.0

41.6 24.9 3.4 13.2 17.8 -23.3

63.8 40.5 39.7 -16.4 5.8 -29.0

68.3 56.5 25.4 -13.6 16.0 -13.8

72.7 60.8 17.7 -5.8 15.1 8.7

44.6 63.4 10.8 -29.6 7.0 7.6

36.7 62.8 5.1 -31.2 8.1 -3.1

39.0 67.2 6.7 -34.9 11.2 6.0

57.8 54.5 11.8 -8.5 6.2 -2.9

Memorandum Current accountd

~·

-45.9

-52.0

-37.1

-39.8

-66.8

-90.4

-56.3

-48.6

-57.9

-62.4

"'~

Net capital flows comprise net direct investment, net portfolio investment, and other long- and short-term net investment flows, including official and private borrowing. Emerging markets include developing countries, countries in transition, Korea, Singapore, Taiwan Province of China, and Israel. b Because of data limitations, "other net investment" may include some official flows. c A minus sign indicates an increase. d The sum of the current account balance, net private capital flows, not official flows, and the change in reserves equals, with the opposite sign, the sum of the capital account and errors and omissions. e Includes Korea, Singapore, and Taiwan Province of China. 1 Includes Indonesia, Korea, Malaysia, the Philippines, and Thailand. a

Source: International Monetary Fund, World Economic Outlook (October 2001, table 1.2, p. 7).

"" ;::; ;:. ,.__

:n;::; ;:.

;::

;::;

..,., "' ;;;· ;:. ;::;

;:;,.__ "' . Cj

B--

it ~ ,., ir

H"'

Yes. Danaharta was set up 1n June 1998

Established Financial Restructuring Agency (FRA) on 24 October 1997 to liquidate failed finance companies. Government established centralized Thai Asset Management Company (TAMC) in June 2001.

Proposal to set up private AMC 1s bemg considered. Recent rise in NPLs have resulted in calls by several banks for a state-owned AMC.

Private auction, tenders, securitization, business restructuring.

TAMC: debt and business restructuring, outsourcing, and foreclosure.

No AMC established.

Loans larger than RM5 million and mostly loans secured by property or shares.

No AMC established. All assets of failed finance companies transferred to FRA. T AMC plans to acquire 100% of state banks' NPLs and 25% of private banks' NPLs by end 2001. For private banks, loans greater than 5 milion baht and with collateral are eligible for transfer.

44% total NPLs in the banking system. 83%.

TAMC: Up to 50% of total NPLs in the banking system. 70% of closed finance company assets. TAMC: Minimal so far.

and has accumulated US$1 0.3 billion in assets.

AMC = Asset management company. NPL = Non-performing loan. Sources: World BanK (27 March 2001); Asian Development Bank (2001b); authors.

3. Commercial Ban/.: Lending cmd Restructuring in the ASEAN-5 Countries

83

Table 3.14 Bank Foreign Ownership Ceiling and Business Differentiation

Country

Pre-Crisis Ownership Ceiling

Current Ownership Ceiling

Malaysia

30%

Unchanged

Indonesia

49%

99%

Thailand

25%

100%

Philippines

30%

60%

Singapore

40%

Business Differentiation Only one licence issued since 1983 (Bank of China). Restrictions exist on opening new branches, including ATMs. World's 200 biggest banks rated higher than "A" are allowed to open branches in Jakarta. None The new General Banking law allows this limit to increase to 100% over a seven-year period. Foreign banks may set up branches with full banking authority. Various business restrictions, including opening of new branches and ATMs.

* In 1999, the Monetary Authority of Singapore (MAS) introduced an intermediate level of 12 per cent of shareholdings as a new threshold. MAS approval is still required before a single individual can increase his/her shareholding in a domestic bank above the existing 5 and 20 per cent thresholds. ATM = Automated teller machines.

Sources: Casserley and Gibb (1999); Gochoco-Bautista et al. (2000); various government sources.

3.5. Foreign Bank Ownership and Participation in the Domestic Banking Sector

Foreign ownership limits in Indonesian banks were raised from 85 per cent to 99 per cent in May 1999. The acquisition of a stake in Bank Bali by Standard Chartered Bank collapsed when a scandal broke out involving alleged side-payments by Bank Ball to a government-linked company, in order to participate in the joint-recapitalization programme (Enoch et al. 2001). Since the scandal, there has not been any new foreign capital invested in Indonesia's domestic banking sector. Foreign ownership of local Thai banks, which was restricted to 25 per cent before the crisis, was raised to 100 per cent in 1997. As a result, four locally owned commercial banks (Bank of Asia, Thai Danu Bank, Nakornthorn Bank, and Radanasin Bank) were acquired by foreign

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financial institutions. Foreign institutions were primarily motivated to conduct these acquisitions as a means to gain access to the branch networks and customer bases of the local banks. Although, the Malaysian government has not increased its foreign ownership ceiling of 30 per cent, locally incorporated foreign bankssuch as the Hong Kong and Shanghai Banking Corporation (HSBC), Standard Chartered, and Citibank - were believed to have increased their market share, particularly in retail business, as local banks have been preoccupied with both the merger exercise (see above) and NPL recoveries. In Malaysia, there are thirteen foreign banks operating, which together represent about 30 per cent of total commercial bank assets. Foreign banks' branch expansion is limited. In the Philippines, there has been an increase in foreign players in the domestic banking sector. The recent General Banking Law of2000 has allowed the foreign ownership ceiling (for foreign banks) to increase from the existing limit of 60 per cent to 100 per cent, over a seven-year period. At the same time, the limit for bank ownership, by foreign individuals or non-bank corporations, has risen from 30 to 40 per cent. The MAS had awarded six Qualifying Full Bank licences (QFBs) to foreign banks in the 1999-2001 period. The foreign banks were ABN Amro Bank, Banque Nationale de Paris (BNP), Citibank, Standard Chartered Bank, HSBC, and Maybank. Each QFB will have additional branches, off-premise ATMs, and ATM sharing facilities as privileges. Moreover, the QFBs will be able to share ATMs among themselves, resulting in a QFB network of ninety or more locations in Singapore.

3.6. Corporate Debt Restructuring Any discussion of financial restructuring in Southeast Asia is not complete without also looking at corporate debt restructuring. As discussed earlier, the Asian financial crisis led to a huge corporate debt overhang that still needs to be resolved. The progress made to date in corporate debt restructuring in Indonesia, Malaysia, and Thailand is discussed below. According to a recent quarterly survey by the Jakarta Initiative Task Force QITF), total corporate debt in Indonesia amounted to US$119 billion, as of December 2000. Of this amount, 48 per cent (US$ 57 billion) is owed to ofEhore creditors, and the other 52 per cent (US$62 billion) to domestic

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creditors. About 62 per cent (US$37.3 billion) of the onshore corporate debt is classified as non-performing. IBRA holds 80 per cent (US$29.9 billion) of all onshore distressed loans. Significant progress had been made in corporate debt restructuring by the JITF -about 58 per cent of corporate debt referred to the JITF had been resolved by October 2001. However, current requirements for financial institutions to sell converted equity within two to five years is worrying, since debt/equity conversions are important features in Indonesian corporate restructuring transactions. The World Bank has recommended that financial institutions be allowed to hold converted equity indefinitely, but to insist on maintaining the most conservative accounting procedures on such equity. As at the end of 2001, Malaysia's Corporate Debt Restructuring Committee (CDRC) had successfully resolved about 60 per cent of corporate debt under its portfolio. The CDRC had resolved thirty-seven cases amounting to RM34.5 billion. Out of a total of eighty-six applications with total debts ofRM66.8 billion, twenty-three cases were withdrawn (or rejected) and eleven cases were transferred to Danaharta. This leaves twelve outstanding cases with debts amounting to RM18 billion, which have yet to be resolved. A new chairman was appointed to the CDRC in August 2001, Datuk Azman Yahya (who is the former head of Danaharta), to take charge of speeding up corporate debt restructuring in Malaysia. A lack of clear guidelines has been identified as one of the main reasons for the slow pace of debt restructuring. Therefore, new initiatives were unveiled by the CDRC in early August 2001 to hasten the corporate debt restructuring process in Malaysia. These new initiatives included:

•

the establishment of a fixed time-frame of one year, beginning with the formation of a creditor's steering committee, to fully resolve the outstanding corporate debt of RM30 billion; to accelerate the debt restructuring process, financially distressed companies will be given three months to sign debt restructuring agreements, if75 per cent of their debtors give approval (previously a 100 per cent agreement was required); for new cases, assistance will only be considered by the CD RC for financially troubled companies with a minimum aggregate borrowings of RM 100 million (previously RMSO million);

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the borrower must have exposure to at least five creditor banks (previously two creditor banks).

Thailand's Corporate Debt Advisory Committee had resolved 45 per cent of corporate debt under its control by January 2001. However, the pace of Thailand's corporate debt restructuring had slowed down considerably. The completion rate of corporate debt restructuring has decelerated from an average of 86 million baht per month for the first six months of 2000 to an average of 61 million baht for the last six months of 2000. For the first quarter of 2001, the completion rate has slowed to an average of 47 million baht per month. According to the Thailand Economic Monitor (World Bank, July 2001), this decline in completion rate is due to the following reasons: Viable cases have been restructured, but the remaining cases arc more complex, and will take a much longer time to reach an agreement. An increasing number of distressed loans have been transferred to private AMCs, where they are not counted in the completion rate. Creditors and debtors were waiting for the TAMC to begin operations, in the hope that debt workouts will be more favourable when loans are transferred to the state-owned AMC. As of October 2001, about 48 per cent of corporate debt had been restructured, a mere 3 percentage point increase from January 2001. The recently formed TAMC has been given special legal powers to speed up corporate debt restructuring in Thailand. However, there arc concerns as to whether the TAMC will effectively implement corporate debt workouts, by enforcing co-operation among debtors. Moreover, most debt restructuring of NPLs belonging to private banks will be outside the framework of the TAMC. Current estimates indicate that less than half the proposed 250 billion baht in NPLs from private banks will be transferred to the TAMC.

4. Financial Safeguards to Strengthen the Domestic Financial System A country-wide banking panic can depress the output of an economy. The macroeconomic effect tends to be more severe in developing countries than in industrial advanced economies, as commercial banks

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dominate the financial sectors in the former. Consequently, there are fewer alternative channels of obtaining credit or raising capital in emerging economies (Eichengreen and Rose 1998). Therefore, financial safeguards should be put in place to strengthen the infrastructure of the domestic financial systems in Southeast Asia, in a bid to prevent a systemic banking crisis from occurring in the future. Some of these financial safeguards are discussed below. 4. 1. Strengthen Banking Supervision and Regulation

Banking supervision should involve improved monitoring, inspection, and examination of banks, to assess their ability to comply with relevant banking laws and regulations. It is important to strengthen banking supervision and regulation, to limit moral hazard, and to ensure that financial intermediaries have the incentive to allocate resources and perform their other functions in a prudent manner (Finance for Growth). The adoption of regulations that provide public disclosure of banks' financial conditions should enable depositors to distinguish between good and bad banks, should reduce asymmetric information flows, and therefore limit the occurrence of financial panic that can spread rapidly through the system (that is, systemic risk). 4.2. Market-Based Regulation: Subordinated Debt

In countries where there is weak supervision, a market-based system of regulation can be used to avoid moral hazard. Such a market-based system would require banks to issue subordinated debt to the private sector. This creates a situation where the debt holders are unlikely to be "bailed out", but instead are "bailed in", as they become stakeholders in the banking system. The issue of subordinated debt also contributes to the development of a private debt securities market, and thereby helps diversify the financial sector in a country.

4.3. Improvements in Risk Management Folkerts-Landau and Lindgren (1998) and Johnston and Otker-Robe (1999) identify three types of risk which banks need to better manage: credit risk, market risk, and liquidity risk. Johnston and Otker-Robe (1999) propose several measures to better manage credit risks, as follows:

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a limit on credit concentration in particular sectors of the economy; a foreign exposure limit on loans; an increase in the capital adequacy requirements for banks with large international business operations; an incorporation of various elements of cross-border risk in loan classification and provisioning requirements; close monitoring of banks' foreign currency-denominated, or indexed, loans extended to domestic borrowers.

To deal with interest rate risk (which is a type of market risk), the maturity structure of interest-sensitive assets and liabilities in each currency should be closely monitored, in an attempt to limit the occurrence of maturity mismatches. Exposure to derivatives transactions should be included in the bank's balance sheet, to better manage this form of market risk. Liquidity risk can be better managed by imposing liquidity requirements on banks. In the United States, bank examiners have recently been evaluating the soundness of bank management in controlling risk. Since 1996, the Federal Reserve and the Comptroller of the Currency have been assessing risk management processes at banks they supervise (Mishkin 2001). Central banks in Southeast Asia might be well advised to adopt similar measures to achieve best practices in risk management. 4.4. Strengthen the Ownership Structure

There should be more operational restructuring of banks, where the ownership structure of banks moves away from family- or individualcontrolled businesses, to one owned by multiple institutional investors. There are some positive advantages of more institution-orientated bank ownership structures, which include:

•

access to substantially more capital; professionally managed, with focus on maximizing shareholders' riskadjusted returns; no interference by external parties in management and credit risk assessment; easier to merge with other banks (which can enhance the overall efficiency of the banking sector).

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The number of state-owned banks should also be reduced, to promote efficient allocation of economic resources. Governments and government-owned enterprises (including banks) tend not to be driven by profits, and may channel credit to borrowers that may not necessarily generate high economic growth (Mishkin 2001). Also, the lack of a profit incentive will mean that state-owned banks are less likely to adopt risk management practices, or operate efficiently (to minimize costs and maximize revenue). 4.5. Financial Safety Net: An Explicit Deposit Insurance Scheme

A deposit insurance scheme can reduce the likelihood of bank crises, and also contribute to financial deepening in a developing country (Cull 1998). The scheme is normally designed to protect both the stability of the banking system and individual depositors (particularly small depositors). If the scheme is so designed, it can boost the confidence of depositors in the banking sector, by alleviating uncertainty, and contribute to increased deposits. Garcia ( 1999) calls for a deposit insurance scheme that encourages all parties that are directly or indirectly affected by the scheme to maintain a sound financial system. He highlighted several conditions for an insurance deposit scheme to be established:

•

the scheme should be explicitly and clearly defined in law and regulation, in order to enhance transparency; there must be effective supervision and regulation of the banking system; membership of the scheme must be compulsory, and insurance premiums must be risk-adjusted to mitigate adverse selection; the scheme should be well-funded, accountable to the public, and free from political interference.

4.6. Development of the Equity and Bond Markets

There is a wide range of financial instruments potentially available to raise capital for investment. The development of bond and equity markets would reduce the reliance on commercial banks as the dominant source of financing. After the Asian financial crisis, there is a need for some Southeast Asian countries to move further away from bank finance, and to rely more on capital markets as a source of funding (particularly

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corporate bond markets). However, Asian corporate bond markets are largely underdeveloped: the size of bond issues tend to be small; maturity is concentrated in the short to medium term; and secondary markets are highly illiquid. It may take some time for Southeast Asian countries to develop viable corporate bond markets, and a policy to quickly develop domestic bond markets may not be feasible (Shirai 2001). A two-prong approach, where the banking system is strengthened, while at the same time, corporate bond and equity markets are being developed, is probably a more realistic option. Moreover, bank loans and corporate bonds are likely to be complementary to each other for financing economic development (Yoshitomi and Shirai 2001 a).

5. Concluding Remarks Banks still perform an important role of domestic lending in the ASEAN-5 countries. However, the size of bank loans in the Southeast Asian economies tended to decline after the 1997 financial crisis. A sharp contraction in the lending growth of commercial banks in the ASEAN-5 countries was found during the period 1998-99. Nevertheless, the contraction seems to be bottoming out. The share of bank lending to the manufacturing sector has been on a declining trend for all the ASEAN-5 countries, except Indonesia. Meanwhile, there is an increasing trend of bond financing in Malaysia, Singapore, and Thailand after the crisis, and of equity market financing in the Philippines. Both supply and demand factors are found to determine the behaviour of bank lending in the ASEAN-5 economies. On the supply side, closures and ongoing mergers of banks have become a negative factor for credit availability. Meanwhile, balance sheet deterioration and liquidity preferences have deterred banks from extending credit. On the demand side, the growth of bank lending seems to be in tandem with that of industry sectors and the GDP as a whole. As an indicator of the balance between supply and demand for bank credit, lending rates of all ASEAN-5 countries have shown a declining trend. This implies excess demand for bank credit in the economies has been met. Many previous studies have attempted to answer whether the contraction in bank lending after the 1997 financial crisis resulted from the supply or demand sides,

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or both. Based on macro- and micro-level data on both firms' and banks' perspectives, the studies provided mixed results. Beside the different types of data, the definition of a credit crunch itself is not uniform, and varies among the studies. Evidence of the credit crunch phenomenon is not conclusive, although there seems to be grounds for a case in Indonesia and Thailand. Whatever the definition of a credit crunch is, the analyses confirm that there have been several simultaneous factors, from both the supply and demand for bank credit, taking place in the ASEAN-5 economies during and after the crisis. Implicitly, financial and corporate restructuring should accelerate to resolve problems on the supply side of bank lending. Simultaneously, accommodative fiscal and monetary policies should be implemented in a bid to boost the economies through the demand side of bank lending. The slow progress made in bank and corporate restructuring continues to impede full economic recovery in the region. Moreover, there is no "one-size-fits-all" strategy to bank restructuring. In fact, the ASEAN-5 countries have implemented different bank restructuring measures - where differing nuances depend on their socio-economic and political circumstances. Malaysia and Singapore are well ahead in bank restructuring, and both are in the midst of consolidating their banking sectors through mergers and acquisitions. In practice, policymakers will not be able to achieve all the economic objectives of bank restructuring without sacrificing at least one of the three objectives identified by Lindgren (1999). Hence, striking an appropriate balance is the key to a successful bank restructuring strategy. Opening up the banking sector to foreign financial institutions would bring benefits, such as new capital, financial innovation, best management practices, and greater financial disclosure and transparency. However, financial liberalization and deregulation has to be properly sequenced, as poor financial sequencing has devastating consequences to the real economy, as observed during the Asian financial crisis. Therefore, the domestic banking sectors need to be strengthened through bank restructuring and consolidation, so that local banks are better prepared to compete with new entrants, such as foreign financial institutions and non-bank domestic institutions (such as stockbroking companies). Besides the banking sector, authorities should also encourage

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the consolidation of their domestic stockbroking and insurance companies, so as to enhance competitiveness in the financial services industry. As in the United States, the Southeast Asian region will probably see an increase in merger activities berween banks and non-banks. Financial liberalization and financial deepening will have long-term positive effects on economic development in Southeast Asia. However, in the short term, governments might be well advised to adopt a gradual approach to the opening-up of their domestic financial systems. It is important to have adequate "breathing space" to strengthen the domestic financial infrastructure, putting in place the necessary financial safeguards, in a bid to avoid another financial crisis in the future.

NOTES I.

A credit crunch is primarily a supply phenomenon. It can be defined as an abrupt change in lending behaviour by banks, which modifies the relationship between credit availability and interest rates. There are at least two identifiable transmission channels that can worsen a crunch: (a) the borrowers' balance sheet channel; and (b) the bank balance sheet channel. Sec Ito and Silva (1999, pp. 5-7).

2.

A liquidity crunch arises when monetary policy is too tight, leading to insufficient loanable funds in the banking system to support economic activities. A credit crunch, on the other hand, reflects either banks' inability or unwillingness to extend credit to customers. See MAS (1999, pp. 38-39).

3.

Data sources: the fiscal cost as a percentage of GDP was taken from Honohan and Klingebiel (2000); peak NPLs as a percentage of!oans is from Caprio and Klingebiel (1999); the change in exchange rate is the percentage change in exchange rate against the U.S. dollar during the first quarter of 1998; the "real interest rate spike" equals the peak in the real money market during the crisis year; t(Jr the Philippines, the real discount rate was reported instead of the money market rate, due to data unavailability; the real growth in asset prices is the largest drop on a monthly basis in the stock market index during the crisis year, compared with the level of the stock market index in January 1997; and GDP data, exchange rate data, interest rate data is from the IMF's International Financial Statistics.

4.

In June 2001, the DBS made an unsuccessful hostile takeover bid for the OUB.

REFERENCES Agenor, P.R., J. Aizenman, and A. Hoffmaister. "The Credit Crunch in East Asia: What Can Bank Excess Liquid Assets Tell Us?" World Bank Working Paper

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2483. 2000 . Ariff, M. and A.M. Khalid. Liberalization Growth and the Asian Financial Crisis: Lessons for Developing and Transitional l:conomies in Asia. Cheltenham: Edward Elgar Publishing Limited, 2000. Asiaweek. "Production after the Meltdown", 16 April 1999.

Asian Development Bank (ADB). Corporate Governtmce and Finance in Etzst Asia: A Study of Indonesia, Republic of Korea, Malaysia, Philippines, and Thailand. Volume One (A Consolidated Report). 2000. . . Asia Recovery Report. March, June, and September 200 I a. . . Asia Economic Monitor. December 2001 b. .

Asian Policy Forum Report. Policy Recommendations for Preventing Another Capita! Account Crisis. ADB Institute, 7 July 2000. Bank Indonesia. Annual Report 2000. . Bank Negara Malaysia. Annual Report. 1997, 1998, 1999, 2000. __ . The Centml Bank and the Financial System in Malaysia: A Decade ofChange. Bank Negara Malaysia, 1999.

Bank of Thailand. Annual Report 2000. Bangkok: Bank of Thailand . Bangko Sentral ng Pilipinas. Annual Report. 1998, 1999, 2000. . Beck, T. and R. Levine. "Stock Markets, Banks, and Growth: Correlation or Causality". World Bank Working Paper. July 200 I. . Caprin, J. and D. Klingebiel. "Episodes of Systemic and Borderline Financial Crises". Mimeographed. World Bank, October 1999. Casserley, D. and G. Gib b. Banking in Asia: !he End of Entitlement. Singapore: John Wiley & Sons, 1999. Chan-Lau, A. and Z. Chen. "Financial Crisis and Credit Crunch as a Result oflnefficicnt Financial Intermediation - With Reference to the Asian Financial Crisis". IMF Working Paper WP/98/127. August 1998. Claessens, S., D. Klingebiel, and L. Laevcn. "Financial Restructuring in Banking and Corporate Sector Crises: What Policies to Pursue?" National Bureau of Economic Research Working Paper 8386. Cambridge, M.A.: National Bureau of Economic Research, 200 l. . Cull, R. "The Effect of Deposit Insurance on Financial Depth: A Cross Country Analysis". Mimcographed. 1998.

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Dcklc, R. and K. Klctzer. "Domestic Bank Regulation and Financial Crises: Theory and Empirical Evidence from East Asia". IMF Working Paper WP/01/6.). May 200 I. dmp:/ /www.imf.org/external/pubs/ft/wp/2001/wpO 165.pdf>. Demirguc-Kunt, A., E. Dctragiache, and P. Cupta. "Inside the Crisis: An b:mpirical Analysis of Banking System in Distress". World Bank Research Policy Paper no. 2431. August 2000. dmp:/ /ccon.worldbank.org/view.php?type=5&id= 1186>. Ding, W., I. Domac, and C. Ferri. "Is There a Credit Crunch in East Asia?" World Bank Working Paper no. 1959. August 1998. . Disyatat, P "Currency Crises and the Real Economy: The Role of Banks". IMF Working Paper WP/0 1/49. May 200 I. dmp:/ /www.imf.org/external!pubs/ft/ wp/2001 /wp0149.pdf>. Domac, I., and C. Ferri. "The Credit Crunch in East Asia: Evidence from Field Findings on Bank Bchavior and Policy Issues". Mimeographed. World Bank, November 1999. Dwor-Frecaut, D., M. Hallward-Driemeier, and F.X. Colaco. "Asian Corporates' Credit Needs and Governance". Chulalonglorn University-World Bank Knowledge Management Project. Eichengreen, B. and A. Rose. "Staying Afloat When the Wind Shifts: External Factors and Emerging Banking Crises". In Money, Capital Mobility and Trade: Essays in HonorojRobert A. Mundell, edited by C. Calvo, R. Dornbusch, and M. Obsrfeld. Cambridge: MIT Press, 1998. Enoch, C., B. Baldwin, 0. Frccaut, and A. Kovanen. "Indonesia: Anatomy of a Banking Crisis, Two Years of Living Dangerously, 1997-99". IMF Working Paper, May 2001. Finance for Growth. World Bank Policy Research Report. \'Vashington, D.C.: World Bank, 2001.

Folkerts-Landau, D. and C. Lindgren. "Towards a Framework for Financial Stability". IMF World Economic and Financial Survey, January 1998. Can, W.B. and L.Y. Soon. "Credit Crunch During a Currency Crisis: The Malaysian Experience". ASEAN Economic Bulletin 18, no. 2 (2001): 176-92. Garcia, C .H. "Deposit Insurance: A Survey of Actual and Best Practices". IMF Working Paper WP/99/54, 1999. Chosh, S.R. and A.R. Ghosh. "East Asian Aftermath: Was There a Crunch)" World Bank Working Paper WP99038, October 1999. Gochoco-Bautista, M.S., S. Oh, and S.G. Rhcc. "In the Eye of the Asian Financial Maelstrom: Banking Sector Reforms in the Asia- Pacific Region". Asian Development Bank, 2000. Gourinchas, Pierre-Okiveier, Rodrigo Valdes, Oscar Landerretche. "Lending Booms: Latin America and the World". National Bureau of Economic Research Work-

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ing Paper 8249. Cambridge, M.A.: National Bureau of Economic Research, April 200 I. . Honohan, P. and D. Klingebiel. "Controlling the t:iscal Costs ofBanking Crises". World Bank Policy Research Working Paper 2441, 2000. International Monetary Fund. "World Economic and Financial Survey: International Capital Markets Developments, Prospects, and Key Policy Issues". July 2001a. . · - - - . "Thailand: Selected Issues". IMF Country Report, August 2001 b. !to, K. and LE da Silva. "The Credit Crunch in Thailand During the 1997-98 Crisis: Theoretical and Operational Issues with the JEXJM Survey". World Bank, March 1999a. . ___ ."New Evidence of Credit Crunch in Thailand and Indonesia and Its Policy Implications". World Bank, November 1999b. . Jorno, K.S. Malaysian tClipse: Economic Crisis and Recouery. London: Zed Books Ltd., 2001. Johnston, R.B. and I. Otker-Robe. "A Modernised Approach to Managing the Risks in Cross-Border Capital Movements". IMF Policy Discussion Paper, 1999. Klingebiel, D. "The Role of Asset Management Companies in the Resolution of Banking Crisis". In Resolution of Financial Distress, edited by Stijn Claessens, Simeon Djankov, and Ashoka Mody. Washington, D.C.: World Bank Institute, 2001. Lamberte, M.B. "Credit Crunch! Credit Crunch I Credit Crunch?'' PIDS Policy Notes no. 99-08, August 1999. . Levine, R. and S. Zervos. "Stock Markets, Banks, and Economic Growth". American Fconomic Review 88, no. 3 (June 1998): 537-58. Lindgren, Carl-Johan, T.J.T. Balino, C. Enoh, A.M. Guide, M. Quintyn, and L. Tco. "Financial Sector Crisis and Restructuring: Lessons from Asia". IMF Occasional Paper 188, 1999. . Mishkin, ES. "hnancial Policies and the Prevention of hnancial Crises in Emerging Economics". World Bank Working Paper no. 2684, October 2001. Monetary Authoriry of Singapore (MAS). Annual Report 1998/1999. Singapore: MAS, 1999. . Mor·gan, J.P. "Asia-Pacific Outlook". 26 September 200 I. dmp://www.jpmmc.com/> Noble, G.W. and J. Ravenhill. The Asian Financial Crisis and the Architecture of Global Finance. Cambridge: Cambridge University Press, 2000. Pangestu, M. and M.S. Gocltom. "Survey of Recent Developments". Bulletin of fndonesirlll Economic Studies 3 7, no. 2 (200 1): 141-71. Rajan, R. and L. Zingales. "Financial Dependence and Growth". American Fconomic Review 88 no. 3 (June 1998): '5'59-86.

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Rodlauer, M., P. Loungani, V. Arora, C. Christofides, E.G. De La Piedra, I~ Kongsamut, K. Kostial, V. Summers, and A. Vamvakidis. "Philippines: Towards Sustainable and Rapid Growth". IMF Occasional Paper no. 187, 2000. Shirai, S. "Overview of Financial Market Structures in Asia: Cases of the Republic of Korea, Malaysia, Thailand and Indonesia". ADB Institute Research Paper 25, September 200 I. Takayasu, K. "Bank Restructuring in Asia". RIM Pacific Business and Industries II, no. 1 (2001). Thubdimphun, S. "The Impact of the Deterioration in the Thai Banks' Balance Sheers on Bank Lending". Masters thesis, Faculty of Economics, Thammasat University, May 2000. Yoshitomi, M. and K. Ohno. "Capital Account Crisis and Credit Contraction: The New Nature of Crisis Requires New Policy Responses". AD Bl Working Paper, May 1999. Yoshitomi, M. and S. Shirai. "Designing a Financial Market Structure in Post-Crisis Asia: How to Develop Bond Markers". ADB Institute Research Paper 15, March 200la. ____ . Technical Background Paper for Policy Recommendations fiJr Preventing Another Capital Account Crisis. ADB Institute, 7 July 200 I b.

World Bank. "Special Focus: Financial and Corporate Restructuring: An Update". World Bank, 27 March 2001. . . "Indonesia". World Bank, 28 March 2001. . _______ . "Malaysia: Social and Structural Change Update". World Bank, 29 March 200 I. . _."Thailand Economic Monitor", July 2001. .

John o. conrou 1. Introduction This chapter examines the circumstances of seven Southeast Asian countries in which institutional microfinance has developed to some significant degree. The treatment is broad-brushed, since it is written as a contribution to a wide-ranging discussion of the capacity of financial systems in Southeast Asia to finance the recovery of regional economies from financial crisis, rather than an attempt to update existing studies which describe microfinance comprehensively in the countries 1 concerned. This chapter aims to paint some details into the big picture with which this book is concerned. They are minor details, and might be regarded as trivial in financial terms, in the sense that the transactions described would scarcely register in the consolidated balance sheets of the financial sectors of any country in the region. However, these transactions are significant in the lives of millions of poor people who

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are not served by formal financial institutions. And while accepting that growth is essential for poverty alleviation, this chapter asserts that the participation of the poor in economic recovery and growth will be facilitated by their access to microfinancial services. The crude "trickledown" analogy for the diffusion of the benefits of growth may be discredited. But if, for heuristic purposes, we were to adopt that analogy and pursue its implications, microfinancing could be described as a process by which capillary systems are opened to enable the benefits of growth to flow to the poor, and to facilitate their participation in it. The financial service needs of the poor are simple, but their satisfaction can be life-enhancing. The poor need access to convenient, liquid, and safe deposit services which are protected against inflation by positive real rates of interest. With savings in reserve, the poor are able to smooth their consumption expenditures in the face of uncertain income streams. Savings provide a shield against catastrophic events which, by forcing the vulnerable to divest productive assets, would otherwise tip them over the dividing line between meagre sufficiency and poverty. "Micro"-insurance is a related financial product with potentially profound welfare benefits. Similarly, the poor- who make their living in a myriad of activities in the informal sectors of the region, many of them either landless or with insufficient agricultural land need access to credit to increase the productivity of their labour, or to free them from exploitative financial relationships. 1. 1. Defining Microfinance

Having established the significance of the subject, we proceed to definition. "Microfinancing" is the provision of financial services to poor and low-income households without access to formal financial institutions. In most of the countries to be considered in this chapter, such households form a clear majority. Given the book's concern with Southeast Asia, it is appropriate to adopt the definition of microfinance used in the Asian Development Bank's microfinance development strategy for the Asia-Paciftc region (ADB 2000a, p. 1): Micro finance is the provision of a broad range of financial services such as deposits, loans, paymenr services, money transfers, and insurance to poor and low-income households and their micro-enterprises.

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The ADB's definition is a good deal more inclusive than those adopted by many practitioners/ who would apply strict criteria for loan size and targeting of clients, excluding from consideration the supply of services to "low-income" people. Many would take such a stand even in a situation where (say) 75 per cent of a population are beyond the reach of regulated financial institutions, and where the population below the poverty line is (again, say) only 25 per cent. A more restrictive definition, while useful for some purposes, would prevent us from discussing here several significant regulated financial institutions, which are international leaders in their fields, and whose methods of operation have much to teach microfinance practitioners. Having said that, it is nonetheless important to remember that there is a clear distinction between the economic activities and financial service 1 needs of the small and medium enterprise (SME) sector, and those of the clients of microfinance institutions. The latter operate on a much smaller scale and exclusively in the informal sector of the economy. While there may be some overlap between the bottom end of the SME sector and the poor and lower-income people who form the constituency of micro finance, it is the needs of the latter to which this chapter is directed. "Microfinance" encompasses access to savings and other financial services, as well as credit. The term has come into greater currency since the early 1990s, and has largely (but not entirely) supplanted the term "microcredit" in the professional literature. The latter term is now recognized as unfortunate because its use has focused attention on a single aspect of microfinancial services, lending to the poor, and diverted attention from the need to develop systems of financial intermediation to which the poor have access. Savings is often described, in a memorable phrase, as "the forgotten half of rural finance" (Vogel 1984). Using the term "microcredit" perpetuates this amnesia. Microfinance institutions (MFls) are developing forms of "microinsurance" to protect the vulnerable from misfortunes, such as ill health, which can tip them over the edge into poverty. Estimating the potential demand for insurance services by the poor as quite substantial, Kunkel and Seibel ( 1997) refer to microinsurance as "the forgotten third of microflnance". In addition, microfinance practitioners are working to introduce newer services, such as money transfers (given the high

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degree of spatial mobility of the working poor, and the difficulties and expense they may experience in remitting funds to their families). 1.2. The Outreach of Microfinance

The Microcredit Summit, a U.S.-based movement which supports the growth of MFls targeting the poor, collates data submitted by MFis concerning the ourreach of their programmes. Self-reporting is a dubious basis for recording the achievements of grant-seeking organizations, many of which are not subject to audit in their own countries. The Summit attempts to have independent monitors assess the claims of the organizations concerned. On that basis, the Microcredit Summit reports a world-wide increase in the outreach of microcredit programmes responding to its surveys, as shown in Table 4.1. On a regional basis, the Summit Secretariat notes that Asian programmes reported 23.6 million clients at the end of 2000, of whom 10.5 million were classified as "poorest". From this it appears that the centre of gravity of the world micro finance movement is located in Asia. Looking at the country data, we see that Bangladesh houses a number of"mega-institutions", of which the Grameen Bank- with 2.4 million clients in the "poorest" category at the end of 2000 - is the leader. Other major institutions in Bangladesh include BRAC, with 1.6 million "poorest" clients, ASA with 1.01 million and PROSHIKA with 0.89 million. In the case of Bangladesh, it can be said that the level of donor interest and monitoring is such that the reported figures for these major institutions carry some credibility. Institutions in Southeast Asia do not feature prominently in the tables. From Indonesia, the BRI Units

Table 4.1 World Outreach of Microcredit Date End 1997 End 2000

No. of Programmes

No. of Clients

No. of "Poorest" Clients

618 1,567

13.5 million 30.7 million

7.6 million 19.3 million

Source: Microcredit Summit.

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(discussed at some length below) are shown as having 2. 7 million clients, of whom 0.125 million are among the "poorest". The table does not acknowledge the achievement ofBRI in having some 25 million deposit accounts, of which more than 16 million are savings accounts with balances averaging US$85. This may not be "microcredit" but it is certainly microfinance. The high profile achieved by micro finance in international development circles in the last ten or twelve years is due, more than any other factor, to publicity accorded the successes of the Grameen Bank of Bangladesh and the other Bangladeshi non-governmental organizations (NGOs) mentioned above, some ofwhich are also multi-faceted social and economic institutions. Broadly speaking, these have in common a basic organizational principle, the use of groups of women borrowers to overcome the problem of their lack of collateral. The donor community recognized the potential of microfinance as a tool for poverty alleviation with the formation of an international consultative group, the CGAP (Consultative Group to Assist the Poorest) in 1995, to which all major multilateral and bilateral donors have subscribed. The World Bank and certain bilateral agencies, notably USAID and GTZ, have a track record in the field dating back at least to the 1980s, or even further if one includes efforts to improve rural financial systems. The CGAP identifies and disseminates standards for the measurement and analysis of MFI operations, "best practice" modes of operation, and other information for microfinance practitioners and donors. Certain major donors, such as the ADB, have drafted microfinance strategies to guide their own efforts and those of member governments and MFis (ADB 2000a, www.adb.org/documents/policies/ microfinance). This has occurred in response both to CGAP's influence and the broader trend to explicit incorporation of poverty alleviation into programme criteria (notably in the PRSP, the "Poverty Reduction Strategy Paper" process, which the World Bank and the International Monetary Fund [IMF] now enjoin upon recipient governments). 1.3. Models of Microfinance

Among the proliferation of microfinance institutions (MFis) in developing and even some industrial countries, a number of distinguishable

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models have emerged. The Grameen Bank model, referred to above, has been applied in many countries in a wide variety of settings. The Grameen model requires careful targeting of the poor through means tests, usually with a focus on women, and intensive fieldwork by staff, to motivate and supervise the borrower groups. Groups normally consist of five members, who guarantee each other's loans. Some compulsory saving requirements are imposed, but in general quite limited voluntary saving occurs. Sustainability is achieved by increasing the scale of operations, and by decentralizing control and carefully managing costs. While some other models have as their goal the creation of autonomous institutions, this is not expected of the individual borrower groups. In Bangladesh, where the greatest numbers of Grameen-inspired institutions exist, considerable innovation is occurring; only the basic model is described here. The Village Bank is a widely replicated model, found mainly in Latin America and Africa, but with substantially less total outreach than the many Grameen Bank replications. Typically, an implementing agency establishes individual village banks with between thirty and fifty members, and provides capital (called the "external account") for onlending to individual members. Individual loans are repaid at weekly intervals over sixteen weeks, at which time the village bank returns the principal with interest to the implementing agency. A bank repaying in full is eligible for subsequent loans, with loan sizes linked to the performance of village bank members in accumulating savings. Peer pressure operates to maintain full repayment, thus assuring further injections of loan capital, and also encourages savings. Savings accumulated in a village bank can be loaned out to members (the "internal" account). The standard business plan calls for a village bank to accumulate sufficient capital in its internal account to enable "graduation" after three years, by which time loan capital has been accumulated entirely from internal sources. Hence village banks are intended to become autonomous institutions. Somewhat less structured than village banks (and a good deal less so than Grameen banks) are Credit Unions (CUs). These are democratic, non-profit financial co-operatives, owned and controlled by their members. CUs mobilize savings, provide loans for productive and

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provident purposes, and have memberships which are generally based on some common bond. The memberships of CUs are likely to be more heterogeneous than that of Grameen banks, although various CUs differ in the extent to which they include poorer and low-income households. CUs generally relate to an apex body that promotes primary credit unions and provides training, while monitoring their financial performance. In Asia, rural credit unions have been successful in some countries, both in terms of sustainability and of reaching out to the poor (notably in Sri Lanka). But they have been less successful in most other countries of the regwn. A fourth model, based on "self-help" groups (SHGs), is somewhat similar to the village bank concept, although less structured. Most prominent in India, SHGs have around twenty members who should be relatively homogeneous in terms of income. Their primary principle is the lending of members' savings, but SHGs also seek external funding to supplement internal resources. The terms and conditions of loans differ among SHGs, depending on the democratic decisions of members. Typical SHGs are promoted and supported by NGOs, but the objective (as with village banks) is for them to become free-standing institutions. Some NGOs act as financial intermediaries for SHGs, while others act solely as "social" intermediaries, seeking to facilitate linkages of SHGs with either licensed financial institutions or other funding agencies. The SHG model is a good platform for combining microfinance with other sectoral activities and their implementing agencies (maternal and child health and adult literacy, among others). However, the relatively loose structure of groups makes rapid expansion of outreach and tight monitoring of performance more difficult than, say, with the Grameen Bank model. In a quite different category from the four models discussed above, each of which has strong voluntary elements involving the action of NGOs or community-based entities, is what might be called a rural financial systems approach. As practised in Indonesia, this model exhibits a diversity of regulated financial institutions providing rural financial services. These range from a national-level institution with substantial outreach and extensive networks to small local institutions occupying particular market niches. Also, depending on the regulatory environment

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in a particular country, it may be possible for an NGO to transform a successful MFI into a regulated financial institution. The rural financial systems approach to microfinancing will be discussed below, with particular reference to Indonesia. The "transformation" process in which NGOs evolve to become regulated financial institutions will also be described, in the context of Cambodia and the Philippines.

2. Microfinance within Southeast Asia: Light and Shade Within Southeast Asia, there is considerable diversity between countries in the degree to which systems of microfinancing have emerged, and in the institutional forms developed or adapted for them. Before proceeding to a country-by-country discussion, it may be useful to suggest in broad terms the scope of this diversity. For the purposes of this chapter, it is convenient to categorize countries in Southeast Asia as either "market" economies, differing in the degree to which they have modernized their financial sectors, or "transitional" economies, differing in the extent to 4 which they have accepted the challenge of adopting market principles. Among the "market" economies of ASEAN, there are considerable differences, both in the incidence of poverty, which might stimulate microfinance initiatives as a response to disadvantage, and in the balance between private and public involvement in the process. For example, Malaysia and Thailand have considerably higher levels of per capita income than either Indonesia or the Philippines. In Malaysia, in particular, absolute poverty was (at least until the financial crisis from 1997) regarded as a residual and diminishing problem which could be eliminated early in this current century. The official Malaysian approach to eliminating poverty, and to the provision of microfinancing services as an element in that process, has been essentially "social-welfarist". Microfinance services for people without access to conventional financial institutions have been seen within the framework of a redistributive social policy involving substantial subsidies. In the case of Thailand, elements of subsidy (and implicit redistribution) have also been present in financial policy for lower-income rural people. However, for reasons which will be discussed below, there are marked differences between Malaysia and Thailand in microfinance

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policy and practice. One such difference is that, whereas the voluntary or NGO sector of financial service provision is relatively undeveloped in Thailand, an NGO with strong political backing is the major actor in Malaysia. And in Thailand, a government financial institution has primary responsibility for microfinancing, and has become both an international leader in its field and an integral part of the Thai financial system. Indonesia and the Philippines also provide some marked contrasts, both with one another and with Malaysia and Thailand. Indonesia has adopted a model of micro finance service provision based very largely on the operations of regulated financial institutions, whereas NGOs are of relatively limited significance. The emergence of sustainable and effective models of microfinancing within the formal financial system, many of them privately owned and operated, has been more a by-product of Indonesia's efforts at financial sector development than of any conscious policy to stimulate microfinance, per se. And by contrast, Indonesia also provides some examples of mass "microcredit" programmes involving NGOs and other community organizations (especially in the late Soeharto era), which were politically driven and not at all concerned with sustainability. Microfinancing in the Philippines has followed a more conventional course, based primarily on the energies of a burgeoning NGO community. The influence of Grameen Bank methods of service delivery has been very strong in that NGO community and the Philippines also has a regulatory environment favourable to the operation of small regulated banks suitable for microfinance. The Philippine government has explicitly incorporated microfinance into its poverty alleviation strategies, has encouraged NGOs to develop sustainable microfinance programmes, and is beginning to promote the transformation of successful microfinance NGOs into regulated financial institutions. In the "transition" economies there is a range of experiences and some marked contrasts. In terms of overall economic and financial sector development, Laos has made least progress, and its economic activities retain a substantial non-monetized component. In terms of developing a microfinance sector, it lacks important institutional and policy prerequisites. The cases of the other transitional countries discussed here,

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Cambodia and Vietnam, provide some instructive contrasts. In many senses, Vietnam is experiencing a more difficult transition to financial liberalization, given the continuity provided by a militarily undefeated socialist institutional and governmental structure, and the resistances to change within it. Also, an autonomous NGO movement, as distinct from mass organizations set up by the state, is still substantially lacking (though this could be seen as simply more evidence of continuity in the political culture of Vietnam). In Cambodia, however, the history has been one of abrupt discontinuity; the period of turmoil and uncertainty from the time of withdrawal of Soviet influence in 1989 appears to have left less entrenched resistance to change. Simultaneously, a governmental vacuum opened opportunities for the "INGOs", the international NGO movement (which was the vehicle for much bilateral development assistance in the early period). Among many innovations introduced as part of an INGO-led reconstruction effort in the early 1990s were "microcredit" projects. Some of these have flourished as indigenous NGOs, and have embraced financial intermediation functions. These successful institutions are now being incorporated into an explicit legal and regulatory framework for microfinance; the "transformation" process described above.

3. Country Case Studies 3. 1. Malaysia

Malaysia has a modern financial system with a diverse range of institutions, both private and public, including Islamic banks. Public institutions include development financing institutions- a development bank and an agriculture bank (Bank Pertanian), as well as the Credit Guarantee Corporation (CGC) which provides guarantees on lending by other financial institutions to SMEs. At the lower end, CGC has a credit guarantee scheme for "hawkers and petty traders", but loan sizes for this scheme suggest it is operating at a level somewhat above conventional microfinance. The smaller loans guaranteed by CGC would, however, qualifY in terms of the ADB definition with which this chapter commenced. There are also urban credit co-operatives, but these serve a salaried clientele, while rural credit co-operatives have minuscule

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outreach, and the co-operative movement as a whole is in a weak condition, with government now attempting to revitalize it. Essentially the only institutions engaging in micro finance are drawn from the N GO community, where there is one dominant MFI and a handful of minor operators. Among other factors, interest rate controls may have played some part in keeping commercial banks out of microfinance. McGuire, Conroy, andThapa (1998, p. 185) noted that Bank Negara, the central bank, restricted the spread between base and maximum lending rates in the commercial banking system to 4 per cent, less than would be required to cover the extra costs associated with microfinance lending. In the case of some loans guaranteed by CGC, the permissible spread was only 2 per cent, reinforcing this effect. There has been some engagement by regulated financial institutions with micro finance in other ways, however, and this is described below. Malaysia is the wealthiest country discussed in this chapter, and the only one classified as an upper middle income country by the World Bank. This is an important factor in the approach taken to poverty alleviation through microfinance in Malaysia, an approach deriving from the New Economic Policy (NEP) which operated from 1971 to 1990. The NEP was directed to reducing poverty and income disparities between ethnic groups, and particularly to improving the position of the bumiputera, the indigenous peoples of Malaysia.

3.1.1. Amanah !khtiar Malaysia: The Dominant Institution Malaysia's dominant MFI, Amanah Ikhtiar Malaysia (AIM), was established in 1987. Up to 1998, it had made some 103,000 loans and disbursed a total ofRM328 million (around US$86 million at the current exchange rate, considerably more if contemporary exchange rates are applied). Some 80 per cent or more of all funds loaned were for economic purposes, the remainder for "social" purposes (Sukor Kasim 2000). AIM's activities have been directed almost entirely to the alleviation of poverty among poor Malays.' It was set up with a charter "to disburse small loans on reasonable terms exclusively to the very poor households to finance additional income-generating activities" (Gibbons and Sukor Kasim 1990), but for all practical purposes has confined its attention to the bumiputera. This is evident from its outreach data, rather than from its charter.

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Believing that while the NEP had successfully reduced the number of households in poverty, the persistence ofhardcore poverty required a new approach, AIM adopted the Grameen Bank model, with some modifications to suit the Malaysian context. An official survey in 1989 indicated that some 94,600 households, or 2.2 per cent of the total population, were classified as "hard core poor", with incomes below half the level of the official poverty line. The indigenous Malay community was disproportionately represented among these poor households. AIM, intent on targeting the poorest among the poor, used the official periodic Household Income Survey as a guide and developed its own means test to identifY the hardcore category. By August 1994, AIM had some 6,100 Gramcen groups in operation, with a total membership approaching 30,000 borrowers. Assuming that its procedures to identifY the poor were both effective and consistently applied, this is quite impressive coverage of the target population, achieved in seven years. As discussed below, outreach might have been higher, but for political considerations. Total loans disbursed at that time amounted to RM37.9 million (US$14.8 million) and, reflecting the relative priorities accorded savings and credit, total savings were US$1.8 million. Some 28 per cent of lending was for agriculture, 46 per cent for trade, 1 5 per cent for animal husbandry, and 10 per cent for other activities (Conroy, Taylor, and Thapa 1995, p. 20). In Malaysia, because of the sensitivities of its Muslim clients and sponsors, AIM levied "service charges" on loans, rather than interest expressed in percentage terms. If calculated as interest on the principal involved, however, these charges were well below rates in the Malaysian commercial banking sector. For example, the average loan size for borrowers taking a third loan in 1994 was RM1,044 (US$427), for which the service charge equated to around 4.7 per cent flat, over the usual one-year loan term. Service charges on larger loans were somewhat higher in percentage terms, but these were only a small proportion of total advances; for all classes ofloans service charges covered only a portion of AIM's lending costs (Conroy, Taylor, and Thapa 1995, p. 21 ). Some 60 per cent of AIM's operational costs between 1989 and 1995 were covered by a Malaysian government grant, while the state governments granted additional support of up to 40 per cent annually. In consequence,

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AIM had limited stimulus to strive for self-sufficiency in its early years (McGuire, Conroy, and Thapa 1998, pp. 178-79). Loan capital was provided by central government grants, supplemented by soft loans from CGC and some commercial banks, especially those with a majority government shareholding. However, from 1992 a constraint on expansion of outreach operated, due to a government decision to channel a grant of US$7.3 million, intended for loan capital, over the period 1991-95, through YPEIM . an Islamic foundation. YPEIM, however, decided to programme the disbursement over a much longer period, a decision which according to a recent evaluation of AIM's programme, caused a serious cashflow problem, and undermined AIM's plans for expansion and the achievement of viability (Sukor Kasim 2000).

3.1.2. A Loss ofDirection Soft loan financing from regulated financial institutions, mentioned in the previous paragraph, tided AIM over cashflow difficulties from 1992, and indeed permitted an increase in loan ceilings from 1994, after the departure of the founding management. According to a recent evaluation, the average loan size jumped by 400 per cent between 1994 and 1998, and this was accompanied by an increase in portfolio at risk (Sukor Kasim 2000, p. 307). AIM's expansion from 1994, at which time it had reached some 50 per cent of its target group in peninsular Malaysia (Sukor Kasim 2000, p. xii), appears to have been more in terms of value ofloans outstanding than increased outreach to the hardcore poor. The evaluation notes that the restoration by central government ofloan capital funding in 1997 sparked a further upward revision of loan ceilings, coinciding with a blowout in operational costs. An increase in the number of "dropouts" from the programme, especially among poorer members, was noted from 1994, as loan sizes increased, a trend which accelerated from 1997. Citing "blatant disregard of the fundamental Grameen principles", Sukor drew attention to leakage [of loans] to the "not so poor" and the "non poor" .... It is viral for [AIM] to relay the message that their outreach is women who arc at the bottom two-thirds of the poverty household level as the author uncovered that due to relaxation on means testing, the less poor and the non-poor are motivated to become [AIM's] members. (2000, p. 324)

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He is particularly critical of two loan programmes introduced after 1997. The first was given the name "SPIN". The SPIN was directed to men in the fishing industry. The second was tided SP-n: for "single mothers" (female heads of households). Participants were offered an unprecedentedly high first loan of RM10,000 (US$2,650). With the diversion of AIM's attention to larger loans and better-off borrowers, the evaluator was also concerned about the implications of this development for credit discipline and portfolio quality. Whether the inclusion of larger borrowers is a problem per se is largely a matter of perception. Other MFis might do so to diversifY risk and improve overall sustainability, but the evaluator took the view that, in terms of AIM's charter, larger loans amounted to "mission drift". And there may be particular political circumstances affecting the choices made for AIM. In the event, the admission of people to the programme who are out of sympathy with its objectives has had a corrosive effect on sustainability. By the end of 1998, portfolio at risk (PAR) had risen to 3 per cent (Sukor Kasim 2000, p. xviii); not too serious as an end-point, but certainly a warning as a trend indicator. But by the end of2000, the PAR of the whole AIM programme, with RM 100 million outstanding, had increased to 10 per cent, with SPIN at 60 per cent PAR and SP-IT at 36 per cent (Sukor Kasim, personal communication, October 2001). These are levels which indicate grave problems for the AIM programme. In 1997, AIM decided to break with its early practice, by raising the interest rate on loans to a uniform I 9 per cent. Not only was this a substantial increase, it also expressed borrowing cost as a percentage of principle for the first time. The evaluation suggests this accelerated the loss of poorer clients from the programme, not just because an increase in costs would depress demand, but because many of the poorest are devout, and would find the interest charge unacceptable. While management's decision to increase charges is understandable, as being consistent with a movement away from subsidies, and progress towards financial sustainability for AIM, it does raise an important issue in the particular circumstances of Malaysia. An earlier discussion of funding policy, set in a comparative context (McGuire, Conroy, and Thapa 1998, p. 186) made the judgment that the then official policy of subsidizing microflnance was appropriate in the circumstances of Malaysia. It would

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still be appropriate to do so now, given the relatively small numbers of the hardcorc poor and the relative prosperity of Malaysia, provided that AIM settles on an objective set of targeting principles, without hint of political considerations, and concentrates on running a lean and cost-effective operation. At the end of 1998, AIM had forty branches and six area offices, serving some 39,000 borrowers and almost 56,000 members. The evaluation refers to the need for "a major and expensive rehabilitation exercise". The more recent trends in portfolio at risk appear to underline the correctness of this judgement.

3.2. Thailand Several studies (McGuirc, Conroy, and Thapa 1998; Mcycr and Nagarajan 2000) have noted that specialized microfinancc services arc not important in Thailand. Meyer and Nagarajan explain this in terms of a relatively prosperous economy and comparatively minor poverty problems. On the eve of the financial crisis in 1997, official estimates of the incidence of poverty in Thailand were between 10 and 15 per cent, depending on the measure used, and the poor were concentrated in the provinces of the north and northeast (McGuirc, Conroy, and Thapa 1998, p. 287). Meycr and Nagarajan also credit the large outrcach achieved by BAAC (the state agricultural bank, discussed below) with having reduced the need for specialized MFis. They note the geographic concentration of Thai poverty, and that cash and in-kind transfer payments support the poor in affected regions, and that they also benefit from government credit schemes. Perhaps for the reasons suggested by Mcyer and Nagarajan, NCO involvement in the provision of microfinancc services is extremely limited. McGuirc, Conroy, and Thapa (1998) could find only one, relatively small, organization that was exclusively engaged in microfinancc, as well as some multi-purpose NGOs which also operated microfinance programmes as an adjunct to their main activities. The lack of involvement ofNGOs as creators and operators of MFis- as seen, for example, in the Philippines and even Indonesia, and most particularly in South Asia- is striking. Among government-inspired schemes, as mentioned by Mcycr and Nagarajan, which provide some financial services to the poor, there is a mixture of government and non-government activity. Government agencies

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operate three main programmes, those of the Community Development Department (CDD), the Government Savings Bank (GSB) and the Urban Community Development Office (UCDO). McGuire, Conroy, and Thapa (1998, p. 302) describe the COD programme as "very much government driven, with a government department establishing revolving funds at the village level to be managed by local government authorities". The programmes of GSB and UCDO are described as "managed by independent boards, [which] operate by extending loans to co-operatives and community organizations, which are mainly non-government bodies owned by their members". Erhardt (1999, p. 11) gives a figure of some 1,200 thrift and credit co-operatives in Thailand in 1997, with almost 2 million members, but notes that they experience severe payment problems. For the rural sector as a whole, Meyer and Nagarajan (2000, p. 319) report a pattern of market segmentation which is somewhat stylized because of the lack of national survey data on rural financial services. They posit a scenario in which commercial banks serve large farms and agro-industries; BAAC largely serves small and medium farms, co-operatives, and associations; the poor and landless arc served mainly by informal finance and a few government programs and NGOs. Agricultural co-operatives and village-level credit unions may also reach poorer segments of the rural population.

A study of financial services available to poor and low-income entrepreneurs in Chiang Mai province, northern Thailand (Erhardt 1999), describes the modes of financing available in terms of a continuum, with formal, regulated institutions at the "high", or formal end. Most formal in this sense are the commercial banks, which, while they dominate the financial sector overall, have great difficulty dealing with micro or small entrepreneurs with limited or no collateral, who have no reliable records and whose requested loan size is below bank thresholds. Further along the continuum are the branches of BAAC, the agricultural bank, which is closer to the rural areas in terms of its branch network, and closer still in terms of its adoption of joint-liability lending for small loans to groups of small farmers. Less formal are the cooperatives, which include both agricultural co-operatives and thrift and credit co-operatives, and which occupy the next position on the continumn. Further along still are licensed pawnshops, at the margin of the regulated, formal financial sector. After this we cross over into an informal financial zone

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occupied by traders who extend credit, by means including hire purchase, then money lenders, Rotating Savings and Credit Association (ROSCAs), and finally- at the informal end of the continuum - a host of personal arrangements involving family and friends. It is worth noting that this account of financing options available in sample locations in Chiang Mai province makes no mention either ofN COs or of the various government-sponsored schemes mentioned above.

3.2.1. BAAC: The Bank for Agriculture and Agricultural Co-operatives The principal formal financial institution of relevance to low-income rural people in Thailand, referred to by Meyer and Nagarajan, is the Bank for Agriculture and Agricultural Co-operatives (BAAC), established in 1966. It has been the subject of a number of detailed studies (including Sacay, Randhawa, and Agabin 1996; Muraki, Webster, and Yaron 1998; Meyer and Nagarajan 2000). This chapter's account of the operations of BAAC relies primarily on the most recent of these studies, together with the conclusions of an earlier exploration by the Foundation for Development Cooperation (McGuire, Conroy, and Thapa 1998). The most remarkable thing about BAAC is the degree of its market penetration. As Meyer and Nagarajan (2000, pp. 321-23) report: The penetration of BAAC in rural areas is more significant than any other single rural financial institution in Asia. Some 4.7 million of the country's five million plus farm households arc registered for its services, although in any one year not all have loans. In 1996, 3.4 million households (72 per cent) were registered as individual branch clients, while the remaining 28 per cent were registered as members of 877 agricultural co-operatives and 29'5 farmers' associations that borrowed from BAAC. Therefore, directly or indirectly, it reached about 90 per cent of the country's farmers.

In terms of depth of outreach, the reach to the lower income groups, Meyer and Nagarajan (2000, p. 324) infer from the incidence of relatively small loans that "BAAC must be reaching fairly poor clients, if not the poorest of the poor. Moreover, the co-operatives and associations that on-lend BAAC funds possibly reach members who may be even poorer."(' A somewhat sterner, if still tentative, conclusion was reached by McGuire, Conroy, and Thapa (1998, pp. 290-91 ), who decided that:

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John lJ. Conroy BAAC does not specifically target the poor, and some commentators suggested that it may not reach the poorest Eum families. Moreover, the poorest people arc often without land and theref(>re arc not farmers. These people are not eligible to receive loans from BAAC, by virtue of its mandate as stipulated in its charter ... Therefore, while BAAC has huge out reach in the rural areas, it may not reach the poorest households.

McGuire et al. pointed out that the original BAAC charter restricted it to providing loans to farmers for on-farm activities. This was amended in 1992 to allow limited lending to farmers for agriculturerelated activities. Further amending the charter to allow lending for non-agricultural activities in rural areas has often been debated, and some progress occurred in 1999, as discussed below. However, McGuire et al. speculated that even if this were to occur: it is unlikely the bank will increase its poverty lending. While there is some pressure for it to do so, its cost structure and interest rate structure mean that it is unlikely that it could engage in poverty lending on a commercial basis.

Background data supporting this judgement arc documented by Meyer and Nagarajan (2000, p. 333). Despite efficient internal operations, BAAC has maintained spreads between deposit and lending rates which are rather low. It also cross-subsidized smaller borrowers at the expense of larger ones, has been subject to political direction on interest rates, and has discounted its wholesale loans to co-operatives and associations rather generously by comparison with the rates charged for individual loans. The other side of this coin is the bank's degree of subsidy dependence. BAAC receives subsidies in several ways. These include soft loans from donors, preferential rediscount facilities granted by the central bank, and exemptions the central bank has granted from reserve requirements on deposits, among others. A calculation for BAAC in 1995, of a "Subsidy Dependence Index" associated with Jacob Yaron, suggested that the bank could have managed without these subsidies by raising its average yield on portfolio from 11.0 to 14.9 per cent (Muraki, \'Vebster, and Yaron 1998). This is a highly creditable performance by comparison with most agricultural development banks in the developing world. Apart from these subsidies, BAAC received a very helpful boost from the government

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from 1975, when a direction was given to commercial banks to lend in the agricultural sector. This obligation could be satisfied by the banks' depositing any shortfall in their lending quotas with BAAC, where they earned a relatively low return on the funds. To a large extent this relieved the agricultural bank of the more expensive course of mobilizing savings in its rural constituency. Commercial bank deposits represented more than 70 per cent of BAAC'S deposits in the 1980s. This proportion (and the absolute amount involved) declined substantially in the 1990s, while BAAC's savings mobilization performance improved considerably. In 1995 some 3.4 million of its savings accounts (of a total of 4.1 million) held balances below US$20 1, which Meyer and Nagarajan suggest shows that poor people must have held some of these small accounts. They note also that the bank's deposit accounts in 1997 outnumbered its loan accounts by about one million. This is encouraging, but should be compared with the even better performance of Bank Rakyat Indonesia (BRI), discussed below in the section on Indonesia. Indeed, the achievements ofBRl may provide a benchmark for BAAC in its efforts to rebuild after losses suffered during the financial crisis from mid1997. Meyer and Nagarajan (2000, p. 347) sum up the weaknesses of BAAC. Those of particular relevance to BAAC's capacity to engage in microfinance include the fact that rural savings mobilization is still not a high priority, that BAAC is still subsidy-dependent, and that its lowinterest policy "is a disincentive for searching more aggressively for ways to make smaller loans efficiently". Finally, its policies and charter constrain BAAC from serving the rural non-farm sector fully (although legislation in 1999 did authorize it to offer a wider range of financial services in rural areas). In October 1998, BAAC came under the banking supervision of the central bank. Maurer et al. (2000, p. 5) note that with this change, "the bank has become subject to prudential regulation, such as capital adequacy and loan loss provisioning''. In a decidedly upbeat forecast, they suggest that " [m] ore stringent rules and performance standards may be painful in the short term but they will help BAAC in its struggle for financial viability and self..sustainability in the long run".

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They further suggest that, shielded by its obligations to the central bank, BAAC will be better able to resist political interference in its lending and loan-recovery operations in future. In addition, recent changes permitting BAAC to open a "non-farm window" will revitalize the bank's operations and foster its transition from the status of "specialized agricultural lending institution" to "universal rural bank" in coming years. Another view of the role of BAAC, which is surprisingly tolerant of its redistributive functions, comes from the 7 IMF. Robert Townsend, working on rural survey data from Thailand, has put forward the hypothesis that BAAC may be operating a "risk contingency system" for farmers. In times of crisis this system yields welfare gains for which the state pays by means of fiscal transfers to the bank. This is in many ways a troubling proposition; it surely cannot mean that the flow of fiscal resources to an agricultural bank should be taken as prima facie evidence that it is indeed performing the risk contingency function. If that were the case we could rewrite the history of every politicized agricultural development bank in the world. The judgement that a bank is performing risk contingency functions, sufficient to justify subsidies and the occasional recapi talization, would have to be made on careful case- by-case analysis, if at all. It will be interesting to see whether Townsend feels able to make that case for BAAC after further study. Townsend is more concerned about other measures currently being applied in Thailand. He refers to: social safety net programs put in place to help the poor in the crisis ... village funds and village banks are being promoted throughout the countryside and funded by government expenditure without hardnosed evaluation of the role of these institutions that are supposed to help the poor ... [while] the government sets up a small business credit guarantee fund, which I tear ... has close to I 00 per cent guarantee of small business loans. (IMF 2001 c)

The Thaksin government, elected in January 2001, has "prioritized fiscal measures to boost rural incomes, including suspending farmers' debts and creating village revolving funds" in response to an increase in the numbers of the poor by three million during the crisis (ADB 2001, www.adb.org/ documents/CSPs/THA/200 1I cspO 1OO.asp). Debt forgiveness measures often have corrosive effects, both on the balance sheets oHinancial institutions

4. The Challenges ofMicrojinancing in Southeast Asia

117

and on the credit culture in which they operate. And the creation of revolving funds simply as conduits for government money is seldom the most effective way to build rural financial institutions serving the poor. These measures suggest a more populist approach, which may employ the rhetoric of microfinance >vithout absorbing the lessons of its experience.

3.3. Indonesia The pattern of microfinance service provision in Indonesia differs from that observed in almost all other countries in which the sector 8 has achieved any significant outreach. There are two major differences. The first is that certain regulated financial institutions in Indonesia, both public and private, have been able to extend sustainable financial services deep into the countryside, reaching many of the poor. The second, closely related, difference concerns the role and status of NGOs, which in other countries underpin much microfinance activity. In Indonesia, prior to the fall of the New Order government in 1998, the Department of Home Affairs and its line agencies operated a comprehensive system of local administration. This gave the central government considerable capacity to implement its policies and programmes in the provinces. Coupled with the suspicions harboured by officials at all levels about NGOs, this meant that there was less scope in Indonesia for the spontaneous emergence of private NCO initiatives than in, say, the Philippines. The position of NGOs changed substantially in 1998, when in the wake of the financial crisis, the Habibie government and the international community gave responsibility for relief and reconstruction under the "Social Safety Net" programme to the Indonesian NGO community. NGOs continue to enjoy a more positive status, although the Indonesian NGO movement is still a minor player in the provision of microfinance services. Methods of delivering microfinance services found in Indonesia cover a wide range. Solidarity group-based lending approaches are commonly used by NGOs. However, most microfinance services are delivered on an individual basis, due to the dominance of the sector by regulated financial institutions, following normal banking practice. The poor also manage their own financial service provision using arisan, traditional

118

John D. Conroy

ROSCAs which are very common in Indonesia. Co-operatives also provide financial services to their members, traders provide credit for the poor as an element in transactions, and the state operates pawnshops. Patron/client financing relationships are widespread and tenacious outside the formal sector.

3.3.1. Bank Indonesia: The Central Bank Bank Indonesia (Bl) has regulatory oversight of most of the major institutions engaged in microfinance, and has participated actively in shaping them. In this it is unlike its counterparts in other countries with strong microfinance sectors, such as Bangladesh, for example, where the central bank has been largely irrelevant to microfinance. Following the emergence of the New Order government, a new central bank law was enacted in 1968. This law gave BI a strong "developmental" mandate. However, in 1983 a process of financial sector deregulation and liberalization commenced. A longer-term consequence of these reforms was the successful turnaround of the villagelevel financial operations of BRI, the state bank whose primary focus was the agricultural sector. The Pakto financial deregulation "package" in 1988 continued the liber10 Total

3.93

2.75 1.98 7.31

17.43

1.81

--

5.60 26.98 35.24 8.01 61.24 0.41 43.35 9.88

5.94 1.60 31.33

0.70 5.65 2.34 13.89

1.05

3.05

27.72 -

64.75 24.26

8.68 5.67

0.05

11.53 12.76

67.64

114.64

35.71

36.26

214.98

22.35

-

-

2000b (Sep.) 1.70 22.30 35.14 2.81 19.81 26.66 3.20

19958

19968

"'

100.00 100.00 100.00

100.00

100.00

40.98 -

56.49 21.16

118.07

100.00

-

-

11.01

7.58 5.46 20.17

48.81

5.00

------

5.36 5.93

3.27 3.17

-

1999b

0.14

1.55

-

1998b

2000b (Sep.)

1.44 18.89 29.76 2.38 16.78 22.58 2.71 2.77 2.68

0.61 4.93 2.04 12.12 2.66

8.78 2.37 46.32

19978

------------

-

24.31 15.87

61.64

-

Data of 1995-97 are approved public offering values and approved offering values in overseas market. Data of 1998-2000 are actual public offering and private placement values. - = No issuance of bonds. a

""S-

Percentage of Total

2.60 12.55 16.39 3.73 28.49 0.19 20.16 4.59

~

~ ;::-, ~

I::J

"' ;; k' ;;; ~-

::::t.

"' ~.

~ "tot

::i5'

V:

"

"'"' "::;""" "' :A ~-

b

Source: Securities and Exchange Commission, Thailand. 1\) 1\)

U'l

Table 8.9 Indonesia: Major Issuers of Corporate Bonds, 1996-2000 - - - -

No. of Issuers

~~~--~

Value (Rupiah Billions)

Percentage ~----

Industry

1996 1997 1998 1999 2000

1996

1997 ~------

-------~~

1998

1999

2000

1996

1997

1998

1999

2000

~-------

~---

Property

8

13

11

11

11

1,135.0

3,585.0

3,585.0

3,295.2

3,310.2

26.5

28.6

30.0

26.5

18.4

Wood-based and agro industries

2

4

3

4

6

400.0

1,150.0

800.0

1,800.0

3,300.0

9.3

9.2

6.7

14.5

18.3

Banking

6

8

8

8

8

1,169.7

2,419.7

2,419.7

2,669.7

3,050.0

27.3

19.3

20.2

21.4

17.0

1

1

2

4

-

300.0

300.0

400.0

2,400.0

2.4

2.5

3.2

13.3

1

1

3

4

275.0

275.0

2,225.0

2,173.0

2.2

2.3

17.9

12.1

11.0

11 .1

11.3

27.3 5.4 100.0 100.0

9.6

Consumer goods

-

Infrastructure

-

Financial

2

7

5

5

7

200.0

1,550.0

1,314.6

1,386.3

2,036.3

4.7

12.4

Others

4

7

7

6

9

1,380.0

3,260.0

3,260.0

674.1

1.721.0

22

41

36

39

4,284.7 12,539.7 11,954.3

12,450.3

17,990.5

32.2 100.0

26.0 100.0

Total

----

Source: Shidiq and Suprodjo (2001 ).

49 -----

·-----

-

100.0

Table 8.10a Malaysia: New Issues of Private Debt Securities (Excluding Cagamas Bonds) by Sector (RM Millions) - - - - -

Sector

1995 -----

-------

Agriculture, forestry, and fishing Mining and quarrying Manufacturing Construction Electricity, gas, and water Transport, storage, and communications Finance, insurance, real estate, and business services Government and other services Wholesale, retail trade, hotels, and restaurants Sub-total

1996

1997

1998

1999

2000

--------

- - - -

165 0 878.4 1 ,882.5 1,530.4 2,424 1,250.4 25 1,045

0 0 3,244.5 2,598.2 1,017.2 2,886 319.4 436.4 1,882.2

214.1 0 3,604.2 2,069.1 2,236.7 2,260 3,923.8 0 120

0 0 125 1,473.3 529 0 7,704.5 1,000 0

0 0 1,114.5 9,011 63.8 20 2,258.8 0 660

42.5 0 1,133.1 1,868.6 4,564.1 7,320.3 5,237 0 2,130.8

9,200.7

12,383.9

14,427.9

10,831.8

13,128.1

22,296.4

Government bonds

13,057.9

14,958

17,523.2

1,661.6

6,466.5

5,937.1

Total

22,258.6

27,341.9

31,951.1

12,493.4

19,594.6

28,233.5

-----------

Table 8.10b Malaysia: Share of New Issues of Private Debt Securities (Excluding Cagamas Bonds) by Sector (Percentages) -----

Sector

1995 ---------

-------

Agriculture, forestry, and fishing Mining and quarrying Manufacturing Construction Electricity, gas, and water Transport, storage, and communications Finance, insurance, real estate, and business services Government and other services Wholesale, retail trade, hotels, and restaurants Total

·-------

1996

1997

----------

1.79 0.00 9.55 20.46 16.63 26.35 13.59 0.27 11.36

0.00 0.00 26.20 20.98 8.21 23.30 2.58 3.52 15.20

1.48 0.00 24.98 14.34 15.50 15.66 27.20 0.00 0.83

100.00

100.00

100.00

-----·-

Source: Norashikin Abdul Ham id and Mahani Zainal Abidin (2001 ).

1998

1999

2000

0.00 0.00 1.15 13.60 4.88 0.00 71.13 9.23 0.00

0.00 0.00 8.49 68.64 0.49 0.15 17.21 0.00 5.03

0.19 0.00 5.08 8.38 20.47 32.83 23.49 0.00 9.56

100.00

100.00

100.00

·-----·

·-------·

Table 8.11a Philippines: Short-Term Commercial Paper Issues 1994

1995

1996

------

1997

1998

Pesos Millions

%of Total

Pesos Millions

%of Total

Pesos Millions

%of Total

Pesos Millions

%of Total

2,247

12.4

847

4.5

1,223

8.1

1,550

11.8

613

8.4

57

0.3

Wholesale trade

3,054

16.9

499

2.7

571

3.8

534

4.1

468

6.4

Transportation/ communications

2,002

11.2

839

4.4

803

5.3

1,825

13.8

Finance

9,256

51.3

15,407

81.9

10,675

70.5

8,645

65.6

5,629

Business services

720

4.0

1,277

6.5

394

2.6

236

1.8

Real estate

700

3.9

1,469

9.7

395

18,056

100.0

15,135

100.0

13,185

Sector Manufacturing Utilities

Total

-

18,869

100.0

* Short-term commercial papers have a tenor of one year or less.

Source: Securities and Exchange Commission.

Pesos Millions

1999

%of Total

Pesos Millions

2000

%of Total

Pesos %of Millions Total

30

1.5

77.0

202

10.0

1,055

90.1

64

0.9

36

1.8

17

1.5

3.0

533

7.3

1,748

86.7

99

8.4

100.0

7,307

100.0

2,016

100.0

1 '171

100.0

Table 8.11b Philippines: Long-Term Commercial Paper Issues 1994 Sector Manufacturing Utilities

Pesos Millions 900

1995

1997

1996

1998

1999

2000

Pesos %of Millions Total

Pesos %of Millions Total

%of Total

Pesos Millions

%of Total

Pesos Millions

%of Total

Pesos Millions

%of Total

Pesos Millions

%of Total

15

6,665

55

3,800

19

2,500

22

750

100

1,700

25

300

3

-

-

1,000

15

-

-

4,000

60

100

6,700

100

-

-

-

1,000

8

1,000

5

1,500

13

1,300

21

1,400

12

9,400

46

1,100

10

4,000

65

3,000

25

6,050

30

6,000

53

6,200

100

12,065

100

20,250

100

11 ,400

100

-

-

-

-

-

Wholesale trade Transportation/ communications Finance Business services Real estate Community, social, and personal services Total

Long-term commercial papers have a tenor of one to five years. Source: Securities and Exchange Commission.

*

750

230

Mario B. L1mberte

manufacturing, construction, and transport sectors (Tables 8.1 Oa and 8.1 Ob). During the height of the crisis, the finance sector became the single largest issuer of corporate bonds. In 2000, about 75 per cent of the issues were shared by the transport, finance, and electricity sectors. In the Philippines, the finance sector has been the largest issuer of short-term commercial papers (Table 8.11a). This mostly consisted of finance companies, which raised short-term funds for re-lending at longer terms, and for maintaining liquidity (Saldana 2000). As regards long-term commercial paper, the largest issuers before the crisis were the manufacturing, finance, and real estate sectors (Table 8.11 b). But this market dried up in the wake of the Asian financial crisis. There was a brief resurgence in 1999, led by the real estate, manufacturing, and transport sectors, but again it dried up in 2000. In Thailand, the commercial banking sector was the largest issuer of corporate bonds even before the Asian financial crisis. Its share even rose in 1998 and 1999 as some commercial banks issued large chunks of corporate bonds (Table 8.12). In 2000, the building and furnishing materials sectors became the largest issuer of corporate bonds.

2.5. Investor Base The investor base for debt securities in the five ASEAN countries appears to be limited. In Indonesia, the banking sector cornered more than 60 per cent of government bonds and corporate bonds. In Malaysia, the provident fund (EPF) had been the largest investor of government securities, accounting for 62 per cent of the total during the period 1995-2000. The second largest investor was National Savings Banks, at 17 per cent. EPF together with insurance companies, was also the major investor in corporate bonds, cornering about 73 per cent of the total outstanding corporate bonds, as ofNovember 2000. Commercial banks held 17 per cent of the total. In the Philippines, the Central Bank, banks and government-controlled pension funds accounted for about 77 per cent of total outstanding government securities. The Central Bank uses government securities for its open market operations, while banks and pension funds hold securities to meet statutory reserve and mandatory liquidity requirements. The rest are held by non-financial entities, including individuals and insurance companies. Banks are also

8. Developing the Fledgeling Debt Securities Marl'1,.

:,~«

I tzl Jakarta

9:>":>

:,~«

~

:,~«

9:>~

:,~«

D Kuala Lumpur

~

:,~«

\:)~

:,.§.'

lSl S'pore (mainboard)

\:)'

:,~«

0 Bangkok I

Source : CEIC Database.

independent Stock Exchange of Singapore formally incorporated. The SET in Thailand was established in late April 1975. The Jakarta stock exchange is the youngest of the "big five" equity markets in Southeast Asia, having only commenced operations in 1977. Most recently, in July 2000, Vietnam unveiled its first attempt at a secondary market for trading both equity and 6 fixed-income securities, located in Ho Chi Minh City. The following subsections will attempt to sketch out a brief profile of Southeast Asia's equity market development during the 1990s. 2.2. Listed Firms

As Figure 9.1 shows, the aggregate number of companies listed on Southeast Asia's five main equity markets rose considerably during the 1990s, from 800 in January 1990 to slightly over 2,100 in mid-2001a 2.6-fold increase. Notably, the Asian financial crisis of 1997-98 did not cause the cummulative number of companies listed in Southeast Asia to drop (for example, through the de-listing of bankrupted firms) , although there was a discernible levelling-off in initial public offerings

9. Developing and Deepening the hquity Markets ofSoutheast Asia

249

Figure 9.2 Market Capitalization of the Southeast Asian Equity Markets, 1990-2001 (US$ Millions) 900,000

D KLSE Main board •PSE ~JSX ---------------

I:'SI SES Mainboard

DSET

Source: CEIC Database.

(IPOs) in the 1998-2000 period. In the three-year period between January 1998 and December 2000, the regional picture was quite mixed, with the number of companies listed in Jakarta increasing by just four, Manila had a net increase of nine listed firms, Bangkok's SET actually contracted by fifty-one companies, eighty-three more companies were listed in Kuala Lumpur, and ninety-three firms in Singapore. Relative to other major stock markets during the 1990s, the increase in the number of companies listed on Southeast Asia's equity markets was fairly commendable. The number of firms listed in Hong Kong increased from just under 300 in January 1990 to 740 by mid-2001 (a 2.5-fold increase); Japan increased from 2,024 to 2,578 listed firms over the same period (a 25 per cent increase); and the NYSE increased

250

Nick j. heemrm

from 1,723 to 2,817 (a 63 per cent increase). And the same post-1997 plateau of IPOs is apparent across all these equity markets. Even the NASDAQ in New York, which enjoyed a significant increase in the performance of its index during the later part of the 1990s, saw the number of companies listed on its market contract from 5,466 to 4,436 (a contraction of 19 per cent), partly as a result of vigorous merger and acquisition (M&A) activity in the ICT sector. 2.3. Market Capitalizations and Trading Volumes

In terms of their market capitalizations (that is, the total value of all the shares listed on the equity market), Southeast Asia's stock markets have also witnessed some fairly commendable increases during the last decade or so, as shown in Figure 9 .2. The aggregate capitalization of Southeast Asia's five main equity markets increased from around US$122 billion in January 1990 to US$444 billion in December 2000 - a 3.6-fold increase. However, the cumulative capitalization of these five markets actually peaked in February 1997, shortly before the Asian financial crisis commenced, at US$837 billion- 47 per cent higher than where they "fetched up" at the end of 2000. Put another way, the market capitalizations of Southeast Asia's equity markets have almost halved in 7 the years since the Asian financial crisis, in U.S. dollar terms. Over the same period (that is, between January 1990 and December 2000), the market capitalization of the Hong Kong equity market increased by slightly more than eightfold, the NYSE by 4.4-fold, and Japan's market capitalization actually decreased by 25 per cent. When we look to see how Southeast Asia's combined market capitalization compares with some of the major global equity markets, the results are fairly humbling. As at mid-200 1, the five main equity markets of Southeast Asia had a combined market capitalization that was 46 per cent smaller than Hong Kong alone, an eighth the size of Japan, 3 per cent of the NYSE, and 12 per cent ofNASDAQ's market capitalization (or 2.5 per cent of the NYSE and NASDAQ combined). Clearly, in global terms, the Southeast Asian markets combined are a very small "blip" on the global asset allocation "radar screen"; and individually, at least three of these Southeast Asian equity markets (Bangkok, Jakarta, and Manila) are bordering on insignificance in global

Figure 9.3 Capitalization of Southeast Asian Markets and Select U.S. Corporates, as at 25 September 2001

300 c

250

aJ

200

_Q

( f)

=> 150

100 50 Q ~WL~~~L,~~~~WL~~~L,~~~~-L~ll,~L,~Y

Source: Asian Wall Street Journal.

Figure 9.4 Market Capitalization of Southeast Asia and Hong Kong Compared, 1990-2001

900,000 ,....---- - - - - - - - - - - - - - - - - - . . . . . . . . . . . . . , 800,000

+ - - - - - - - - - - - - - - =---1'1----- - - - -- - - - - l

700,000 + - - - - - - - - -------,:-f'-------=-----tt--- - - - - - 1 600,000

+ - - - - - - - - -.........-- - - - - - - - r l l - - - - - - ! i

500,000

+-- - - - - - - - - - P - - - - - ---!i

U)

c

~

::?: ~

=>

400,000 + - - - - - - - -f-;;;--------1----------?lj 300,000

+-- - - - - - - - - . . r - t JW.---l!\M\IF'I!r-----=:i---l!\M\I- - - -

200,000

+-------::::;o~"'=:---l!\M\1------------------l

1QQ,QQQ -l:::iiifiE;,iiJ!jjJWme:::----------

-

- - - - - -----1

0 +---,--,---,--,---,---,--,--,---r---,---.w~

~

~

~

~

~

~

~

~

~

~

~

~

~

~

~

-ASEAN Markets Combined

Source: CEIC Database.

~

~

~

~

~

~

- - HKSE

~

~

Nick J. Freeman

252 8

terms. Indeed, a number individual companies listed in the United States have capitalization figures that exceed those of entire Southeast Asian equity markets, as illustrated in Figure 9.3. As at late September 2001, General Electric had a market capitalization that was 56 per cent greater than the market capitalizations of all five major Southeast Asian 9 equity markets combined. Even in the regional context, Southeast Asian markets have lost ground relative to Hong Kong (see Figure 9.4), notably since late 1999, having had a higher aggregate market capitalization than Hong Kong until the onset of the Asian financial crisis. A broadly similar pattern is apparent with regard to trading volumes on Southeast Asia's equity markets; they have broadly increased during the 1990s, yet they remain substantially smaller than in the major markets. Whilst sometimes overlooked, the issue of providing adequate trading volume in emerging markets is an essential one for most institutional investors, who tend to shun illiquid markets (and by default, shun companies with shares listed on illiquid markets, regardless of the 10 fundamental qualities of such companies). 2.4. Indices

As Figure 9.5 shows, the performance of the Southeast Asian market indices in the decade prior to the Asian financial crisis appears to also have been fairly commendable. In the ten years prior to January 1997, the Southeast Asian market indices were all up by between 2.5- and 9.8-fold, suggesting that if investors had "bought the index" in January 1987, they would have enjoyed acceptable returns a decade later. That said, a considerable proportion of the rises in the Southeast Asian indices were recorded during the first half of the 1990s (most notably in the emerging markets "bull run" of 1993-94), and their performances since 1994 have been markedly less impressive, as shown in Figure 9 .6. This is particularly evident when one compares how the Southeast Asian equity market indices have performed relative to some other equity indices in the period between 1987 and 1994. Since 1987, their aggregate index performance has been below those of Hong Kong, the FTSE in London, and all the major U.S. indices (for example, Dow Jones Industrial, S&P 500, and NASDAQ Composite); only performing better than Japan's Nikkei Stock Average 225. And since 1994, the relative performance of

Figure 9.5 Relative Performances of the Main Equity Market Indices in Southeast Asia, 1987-2001 1,200

1,000

l _____________________________

~~ft------;-~~---

800 t-00

~

c

"'c ::>

~

600

11 C)

~

400

200

0+-~--r-----,--,-,--,----,-,-~-,-~-.---,-,--,--,-----,--,-,--,-,--,--,--,--~

~

~

~

~

~

~

~

~

~

~

o/ o/

~

~

~

~

ww~

~

~

~

~

~

~

~

~

~

~

~

#~#~#~#~#~#~#~#~#~#~#~#~#~#~#~ [ --+--Jakarta Composite

KLSE Composite

--..--Manila PSE Composite

Source: CEIC Database.

- ..., -

S'pore Straits Times 55

----Bangkok SET

Figure 9.6 Relative Performances of the Main Equity Market Indices in Southeast Asia, 1994-2001 140

120

100

"en~

80

2:'

"'c ::J

~ 11 0

~

60

40

20

0 ~

%

>'~>'~>'~>