Special Liquidity Loans

KOMPAS/TOTOK WIJAYANTO

Governor of Bank Indonesia (BI) Perry Warjiyo (second from right) accompanied by BI Deputy Governor (from left) Rosmaya Hadi, Destri Damayanti, and Erwin Rijanto, when they wanted to give information to reporters regarding the results of the BI Board of Governors\' Meeting in Jakarta in Jakarta on Thursday (20/2/2020).

Concerns about the role of the House of Representatives emerged when the government issued Regulation in lieu of the Law (Perppu) No. 1/2020 on March 31 because the additional funds provided by the government to handle the coronavirus outbreak reached Rp 405.1 trillion (US$27.38 billion).

There were also worries about the risk of misappropriation of the special liquidity loans (PLK) that would be distributed, as what happened with the Bank Indonesia Liquidity Assistance (BLBI) program in the past.

One of the reasons for the issuance of this Perppu is that the COVID-19 outbreak has the potential to disrupt Indonesia\'s economic activities. One of the implications is that economic growth, which under the assumption of the state budget (APBN) was estimated to reach 5.3 percent in a severe scenario, as conveyed by the Finance Ministry, dropped to 2.3 percent and in a very severe scenario minus 0.4 percent. This decline in growth largely depends on how long and severely the spread of COVID-19 influences/paralyzes community activities and economic activities.

A Perppu is usually issued when the state experiences an emergency. The most recent one was made in order to overcome the threat of an outbreak that endangers the national economy and/or financial system stability.

A Perppu is usually issued when the state experiences an emergency. The most recent one was made in order to overcome the threat of an outbreak that endangers the national economy and/or financial system stability. This Perppu restores BI\'s function as a lender of the last resort (LoLR). Thus, BI regains the authority to grant special liquidity loans as regulated in Law No. 23/1999 concerning BI, which has been changed to Law No. 3/2004 Article 11 (4): "Bank Indonesia can provide Emergency Funding Facilities [FPD] to prevent systemic crises whose funding is guaranteed by the government" because this article has been revoked and declared invalid — Article 53 Paragraph (1) letter b of the PPKSK Law or Law No. 9/2016 concerning prevention and handling of the Financial System Crisis.

Special liquidity loans in Indonesia are not new. Prior to Law No. 23/1999, BI in its function as LoLR could provide special liquidity loans to problematic banks as regulated in Article 29 (1), Article 32 (3) and General Explanation of Law No. 13/968, which states: "As a LoLR, BI can provide liquidity credit to banks to overcome liquidity problems faced in an emergency.”

The role of the LoLR, which is attached to BI, is very important for crisis prevention and handling. The ability of the central bank to provide very large amounts of cash in a short amount of time, which is not owned by government institutions, is one of the factors that gives the central bank a LoLR role.

KOMPAS/TOTOK WIJAYANTO

Activities at PT Bank Mandiri (Persero) Tbk\'s Cash Center, Jakarta, Friday (8/5/2020). Bank Indonesia estimates that the national cash needs for the Ramadhan and Eid al-Fitr period this year will be Rp 157.96 trillion, down 17.7 percent compared to the same period last year.

In an emergency situation as stated in Perppu No. 1/2020, the speed of crisis handling is a must and if not addressed immediately, a crisis will really occur. The state is obliged to save the national economy, in accordance with Article 33 (4) of the 1945 Constitution, in the emergency condition of COVID-19.

Also read: Taxation in the Middle of the Outbreak

The special liquidity loans granting policy

Provisions and procedures for making decisions regarding the provision of special liquidity loans and sources of funding originating from the APBN to assist bank financial difficulties that had a systemic impact in the past were stipulated in a memorandum of understanding (MoU) between the Finance Ministry and the governor of BI on March 17, 2004. Later, the mechanism for providing special liquidity loans, which in the past was referred to as emergency funding facilities (FPD), was outlined in Finance Ministerial Decree No. 136/2005 dated Dec. 30, 2005, concerning FPD and Regulation No. 8/1/2006 dated Jan. 3, 2006.

Article 18 (1) of Perppu No. 1/2020 states that in the case of systemic banks that have obtained short-term liquidity loans as referred to in Article 17 (l) still experiencing liquidity problems, systemic banks may submit a special liquidity loans request to BI. Furthermore, Article 18 (2) states that with regard to systemic bank requests as referred to in Paragraph 1, BI coordinates with the Financial Services Authority (OJK) to request a Financial System Stability Committee (KSSK) meeting.

Then, Article 18 (3) states that in the meeting that was referred to in Paragraph (2), the KSSK discusses and decides on the granting of special liquidity loans by considering: (a) assessment by OJK that contains at least information on the current financial condition of the systemic bank concerned and (b) BI\'s recommendation by taking into account the results of the assessment conducted by OJK as referred to in letter a.

Finally, Article 18 (4) states that further provisions regarding the scheme and mechanism for the provision of the special liquidity loans are regulated jointly between the Finance Ministry and the governor of BI. In accordance with this regulation, the OJK is basically responsible for analyzing systemic risks that can disrupt financial system stability, while decisions on the provision of emergency financing facilities are taken jointly between BI and the Finance Ministry.

There are two important issues to underline in the special liquidity loans grant policy. First, related to collateral, as the name implies, special liquidity loans are less secured lending especially when compared to a short-term loan facility (FPJP), provided by BI for problematic banks in short-term funding. That means, there is a credit risk (for the government that provides funds) in the provision of special liquidity loans.

Referring to international best practices, generally, Emergency Liquidity Assistance (ELA) is seen as unsecured lending (high risk loans) from the central bank so that there are exceptions in the determination of collateral. For example, in Article 37 (1) of the Japanese Central Bank Law explicitly states that ELA is unsecured lending in order to maintain financial stability and the US Central Bank Law, Federal Reserve Act, Section 10A Provision of Emergency Advances for Bank Members\' Groups, Article 1 (The authority of the central bank to make emergency advances): "The Federal Reserve can make emergency advances [...] despite having no sufficient number of assets that are eligible and acceptable, still allow the bank or several banks to obtain sufficient loan facilities from the Federal Reserve through rediscounts or downpayments other than those provided in section 10b."(Manna M, 2009).

The KSSK was formed as a forum for coordination and information exchange among the four institutions in maintaining the financial system stability.

Second, the decision-making process needs to be carried out quickly considering the special liquidity loans’ decision is carried out jointly by the chairman of the board of commissioners (OJK and the BI Governor). To improve the effectiveness of coordinating related institutions in maintaining financial stability, the Finance Ministry, the governor of BI, the chairman of the OJK board of directors and the chairman of the Deposit Insurance Corporation (LPS) board of directors signed a joint decision to establish the KSSK.

The KSSK was formed as a forum for coordination and information exchange among the four institutions in maintaining the financial system stability.

‘Ultimate LoLR] government

Special liquidity loans in Indonesia are loans or a financing facility from BI to troubled banks that have liquidity problems and still meet the level of solvency set by the OJK (in coordination with BI) and have a systemic impact based on the decision of the Finance Ministry and the governor of BI and the funding becomes a burden on the government.

However, in conditions of a systemic crisis (banking crisis), the large amount of cash is not always available. Therefore, BI as a LoLR must provide emergency liquidity assistance (FPD) to commercial banks to overcome liquidity problems that have a systemic impact (systemically important banks), especially in a systemic crisis condition, such as the 1997-1998 banking crisis, where the government provided a blanket guarantee.

In providing this blanket guarantee, the government acts as the ultimate LoLR. Meanwhile, BI is only providing bailouts in terms of funding (bridging).

Provision of FPD by BI in the condition of this systemic crisis is an emergency and is a form of saving the national economy so that the government is responsible for the provision of FPD and its funding becomes the burden on the government through the APBN mechanism in accordance with the mandate of Article 33 (4) of the 1945 Constitution concerning the national economy. In providing this blanket guarantee, the government acts as the ultimate LoLR. Meanwhile, BI is only providing bailouts in terms of funding (bridging).

With the existence of clear and transparent provision of special liquidity loans, the determination of systemic impacts and the provision of special liquidity loans can be done by the BI governor (in coordination with the chairman of the OJK board of directors).

Also read : The Peak of the Pandemic is Difficult to Determine

With special liquidity loans requirement being very selective, namely only for solvent banks and having systemic impacts and adequate collateral requirements, it is believed that bitter experience and fears of moral hazard, such as the BLBI and Century Bank cases, will not be repeated.

The more important thing is that a transparent policy on special liquidity loans will serve as an effective crisis management tool. Clarity of accountability will be able to increase BI\'s credibility, reduce political interference and moral hazard, and encourage market discipline that will ultimately drive the financial system stability.

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Nugroho Agung Wijoyo

Nugroho Agung Wijoyo, Mid-level Policy Analyst, Fiscal Policy Agency, Finance Ministry.