Access to Trade Finance in Times of Crisis

Book
Chapter

Chapter 7. The JBIC Financing Facility for Indonesia

Author(s):
Jian-Ye Wang, and Márcio Valério Ronci
Published Date:
February 2006
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Author(s)

The financial crisis that hit Thailand in the summer of 1997 expanded rapidly through the entire Asian region. Indonesia was not spared from the contagion. In fact, although Indonesia had enjoyed 30 years of uninterrupted economic growth and a broadly-balanced macroeconomy, confidence there collapsed suddenly. Capital fled, the currency entered a free fall, and depositors and creditors to Indonesian banks went in full retreat. As the banking sector of Indonesia had potential structural problems prior to the crisis, deterioration of the overall economic situation seriously weakened the system’s financial soundness. The banking sector crisis became the heart of the economic crisis in Indonesia.

Under these circumstances, local commercial banks in Indonesia faced immense difficulties in securing confirmation of their letters of credit from foreign commercial banks. In early 1998, the total value of Indonesian imports transacted through letters of credit plunged to less than one-third of the level in the precrisis period. Indonesian companies had difficulties importing raw materials and components in a timely manner. In addition, Bank Indonesia (the central bank) adopted a tight monetary stance in the face of continued pressure on the currency and also strengthened enforcement of prudential regulations. Therefore, the amount of credit available for lending to the corporate sector shrank and the cost of credit became very high. Indonesian companies, including exporters, were faced with severe shortages of working capital and became incapable of holding sufficient stocks of raw materials and components.

JBIC Financing Facility

Under the economic circumstances described above, in January 1998, the government of Indonesia requested support from the government of Japan in connection with letters of credit for imports of raw materials and other inputs used by the export industry. In response, the Japanese government asked the Japan Bank for International Cooperation (JBIC), which at the time was called the Export-Import Bank of Japan (JEXIM), to use its financing to help the export-led economic recovery of Indonesia.

Following discussion between JBIC and the government of Indonesia, a facility was established aimed at providing Indonesian commercial banks with credit enhancement that would enable them to extend trade credits. In June 1998, JBIC and Ministry of Finance of Indonesia signed a loan agreement in the amount equivalent to $1 billion. The loan took the form of an untied two-step loan and had the following features:

  • JBIC extended a loan to Bank Indonesia through Ministry of Finance of Indonesia;

  • The proceeds of the loan were credited with a bank account in the name of Bank Indonesia at foreign commercial banks that were designated as possible advising banks for letters of credit issued by Indonesian commercial banks;

  • Bank Indonesia and those foreign commercial banks entered into an agreement under which the foreign commercial banks were required to either (i) confirm letters of credit issued by Indonesian commercial banks and pay foreign exporters, or (ii) reimburse other foreign commercial banks that negotiated letters of credit issued by Indonesian commercial banks;

  • In return, under the same agreement, the foreign commercial banks were authorized to receive the amount of such payment or reimbursement by debiting the account of Bank Indonesia, upon sending a concerned bill and other shipping documents to the issuing bank of the letter of credit;

  • The issuing bank replenished the account of Bank Indonesia at the concerned foreign commercial bank in the amount of the concerned letter of credit within a predetermined period; and

  • If the Indonesian commercial bank was unable to replenish the account, the Ministry of Finance and Bank Indonesia replenished the account.

With these mechanisms, it was envisaged that letters of credit issued by Indonesian commercial banks would be honored and that trade financing would resume functioning smoothly.

In May 1999, Indonesia enacted new legislation banning Bank Indonesia from the letters of credit support operations. The government of Indonesia proposed that JBIC replace Bank Indonesia with the newly-established Bank Export of Indonesia (BEI) 41 to continue the financing facility. In addition, the government of Indonesia asked the JBIC to expand the facility in order to use a part of proceeds of the two-step loan for financing short-term working capital of domestic export companies (pre- and postshipment export financing), and subsequently for financing domestic importers who supply raw materials and components to domestic exporting companies. The JBIC agreed to these amendments of the loan agreement, step by step, during 1999–2000.

As Indonesian companies had been generally suffering from the shortage of working capital credit as described above, use of the two-step loan was accelerated after the amendments. The two-step loan was fully repaid in 2003.

Lessons from JBIC's Indonesia Experience

The Indonesian economy has been steadily recovering from the crisis, as was demonstrated symbolically by its graduation from the Paris Club debt rescheduling and IMF-supported program at end-2003. External support of trade finance for Indonesia is no longer an urgent issue. However, it would be useful to draw lessons from the implementation of the above-mentioned JBIC financing facility during the crisis.

First, it is important for official bilateral institutions to play a countercyclical role. In particular, during an international economic and financial crisis, they should not follow market-oriented practices but policy-oriented practices. They should provide a country in crisis with new financing to support trade finance, or more generally, the balance of payments, with a clear policy objective of mitigating adverse impact on the international economy during the period when other participants in the markets would extend no credit to the country or offer credit with a prohibitively high premium. Such operations of official bilateral institutions would no doubt benefit all parties in international finance and the international economy, and can be regarded as public goods in the same way as those of multilateral institutions. In this regard, it is critical that the international financial architecture, including but not limited to sovereign debt-related operation practices, be designed to assist such a countercyclical role for official bilateral institutions.

Second, the JBIC has found that untied loans are very effective in supporting a country in crisis. If the financing facility to support the trade finance of Indonesia had taken the form of tied loans, i.e., normal export credit, the facility would not have been utilized sufficiently. The flexibility of untied loans is essential to serve as an emergency support for trade finance or the balance of payments in a crisis country.

Third, regarding the design of the facility to support trade finance, two key points need to be emphasized:

  • The facility would preferably target not only direct imports of raw materials and components by exporting companies, but also indirect imports through domestic suppliers. In other words, the beneficiaries of the facility should include not only exporting companies but also other domestic companies that supply imported raw materials and components to exporting companies; and

  • The facility would preferably support not only trade finance but also finance working capital. In a financial crisis, most companies face difficulties in securing bank credit for their working capital needs, because commercial banks, with a pessimistic view of the economy, become cautious in extending new credits or rolling over existing credits. Domestic companies would thus be forced to limit their operations due to the shortage of working capital, which would delay the recovery of the economy. This situation would be exacerbated if enforcement of prudential regulations were to be rashly strengthened during the crisis. Although sound management of monetary policy and prudential regulations are certainly important, it is also important to take into account the adverse impact on domestic industries.

Fourth, the international financial community may benefit by preparing for a crisis even when it is not on the immediate horizon. Having a facility to support trade finance on a contingent basis prior to crisis would be useful, as it may be difficult to negotiate the establishment of such a facility in a timely manner once the crisis occurs.

Conclusions

The JBIC had extensive involvement in the emergency support packages for the Asian financial crises in the late 1990s. The JBIC extended sizable new loans to Thailand, Korea, Malaysia, and Indonesia in the midst of the crisis in coordination with international financial institutions. Some loans had parallel financing from the IMF. Those loans covered balance of payments financing gaps, provided trade finance, and supported domestic industries, including small and medium-sized enterprises in those countries. The JBIC believes that such loans helped to mitigate the adverse impact on the domestic economy of crisis-hit countries as well as on the international economy.

Although the Asian financial crisis is behind us, the JBIC continues to pay attention to the stabilization of the international financial system. The JBIC is willing to consider new facilities to prevent international financial crisis or new operations to eliminate the vulnerabilities of developing-country economies, in consultation with the government of Japan, the governments of developing countries, and international financial institutions.

Appendix 7.1. Japan Bank for International Cooperation (JBIC) 42

The JBIC is a government-owned financial institution that was created to implement the Japanese government’s external economic policy and promote economic cooperation through lending and other financial operations. Its main purpose, as stipulated in the JBIC Law (1999), is “to contribute to the sound development of Japan and the international economy and community.” As of the end of fiscal year 2003, 43 the JBIC’s outstanding loans, commitments, and equities totaled JPY 21 trillion ($190 billion) (Appendix Figure 7.1). The total amount of annual new commitments over the past several years has averaged approximately JPY 2 trillion ($18 billion) (Appendix Figure 7.2).

(In billions of Japanese yen)

Appendix Figure 7.1.JBIC: Total Outstanding Loans, Commitments, and Equities

Source: Japan Bank for International Cooperation.

(In billions of Japanese yen)

Appendix Figure 7.2.JBIC: New Commitments

Source: Japan Bank for International Cooperation.

JBIC has two separate operational windows: the International Financial Operations (IFO), which supports overseas activities of Japanese corporations and ensures the stability of international financial systems; and Overseas Economic Cooperation Operations (OECO), which supports developing countries in their efforts to achieve economic and social development. In the past, these two different operations were performed by two different agencies: the Export-Import Bank of Japan (JEXIM), and the Overseas Economic Cooperation Fund. They were merged to establish the JBIC in 1999 to make the implementation of these operations more effective.

The IFO’s window accounts for about two-thirds of JBIC’s new commitments. Of the JPY1.3 trillion ($12 billion) in new commitments in 2003, 38 percent was allocated to Asian countries, 29 percent to countries in the Americas, and 10 percent to European countries (Appendix Figure 7.3). IFO’s financing scheme includes export/import loans and foreign investment loans to directly support Japanese private corporations in their overseas activities, and untied loans to create an external environment for supporting the global activities of Japanese corporations. Japan is a participant to the Organization for Economic Cooperation and Development’s Arrangement on Officially Supported Export Credits, and the JBIC operates as an official export credit agency whose export loan conditions are subject to the Arrangement.

(IFO Financing Window)

Appendix Figure 7.3.JBIC: New Commitments by Region in 2003

Source: Japan Bank for International Cooperation.

The JBIC is unique in its mandate to support the international financial system through balance of payments support to developing countries. This mandate—which was inherited from one of the two JBIC predecessors, the JEXIM—enables the JBIC to extend parallel financing with the IMF program to fill financing gaps of a developing country facing financial difficulties. During the Asian crisis, JEXIM and the IMF cofinanced, in the form of an untied loan, loans totaling $4 billion to Thailand and $1 billion to Indonesia to support their economic adjustment programs.

Under the OECO’s window, the JBIC acts as an agency of Japanese government that provides official development assistance (ODA) loans on concessional terms to developing countries. This operation accounts for about one-third of the JBIC’s new commitments. Of the JPY588 billion ($5.3 billion) in new commitments in 2003, 90 percent was allocated to Asian countries (Appendix Figure 7.4). By sector, power and gas accounted for 48 percent of the total, followed by transportation at 23 percent, and social services (including education and water supply and sewerage) at 20 percent.

Appendix Figure 7.4.JBIC: New Commitments by Region in 2003

(OECO Financing Window)

Source: Japan Bank for International Cooperation.

The JIBC’s major funding source is borrowing from the Japanese government, followed by JBIC’s bonds that are issued in both domestic and international markets. In FY2003, the Japanese government’s guaranteed bonds issued in the international market accounted for 16 percent, and nongovernment guaranteed bonds issued in the domestic markets accounted for 8 percent of total funding. JBIC bonds were rated by Moody’s at A2 for nonguaranteed bonds and Aaa for guaranteed bonds, and by Standard & Poor’s at AA- for nonguaranteed bonds and AA- for guaranteed bonds, as of the end of April 2004.