The good, bad and the ugly - Asia's banking industry - Brief Article

Business Asia, Dec 13, 1999 by Alex Erskine

How banks rise to the challenge will hold the key to the new millennium in Asia

The Y2K phenomenon is upon us, and banking systems in many parts of Asia are suspect.

However, it is unlikely that resolving Y2K mishaps will be the worst challenge that banks face in the year ahead.

The really big issues will be restoring credit growth in the "good banks", while moving quickly to clean up the problems in the "bad banks".

Year 2000 is critical for three Asian banking reasons.

1) It will be a time for the stronger banking systems in Singapore, Hong Kong and Taiwan, as well as Australia and New Zealand, to show their real leadership domestically and regionally.

2) Urgent progress must be made in China to clean up its banking system -- which is insolvent but not illiquid and, therefore, is still lending -- before some disaster strikes. Entry into the WTO, with its timetable for entry of foreign banks, will catalyse action, which so far has been lagging.

3) The banks in the crisis-hit countries must resume well-founded lending to keep the economic recoveries going.

New lending to customers, based on cash flows, not asset speculation, is essential. The enormous cost in terms of growth potential forgone -- calculated conservatively by the IMF as ranging from 27 per cent of one year's GDP in Korea to 82 per cent in Indonesia -- might never be made up.

In Indonesia, restructuring has encompassed virtually the entire banking sector, but in Thailand, Malaysia and Korea the extent of the bail-out that has been necessary should not be underplayed (see table at right).

But not enough has been done to fully eradicate the nonperforming loans (NPLs) from the economies in question. NPLs still exist on the books of asset management agencies, if not in the banks themselves.

Not only are the crises in Indonesia and Thailand many times worse than other crises in recent history, but an added difficulty is that the global business climate will remain structurally deflationary, at least until Japan secures a positive rate of price inflation. This means that the conventional -- and convenient -- deceit of inflation is not available to erode away the losses.

Instead, there are only two ways out of the fiscal costs of the banking bail-outs, one hard work but the other intolerably painful. Either sufficient economic growth must be achieved to improve other elements of the fiscal deficit -- and incidentally earn the banks some good margins (see table at left) and hopefully turn some NPLs back into performing loans -- or taxpayers will have to directly shoulder the tax burden in a slower growth environment. The requisite tax bills would terrify consumers and business.

The moral for the banks in all the crisis-hit countries is clear: Increase lending now -- to those who will pay back interest and principal from operational cash flow -- to ensure that the welcome initial spurt of economic recovery does not fade after 2000, or see a much more difficult lending climate develop in the not-far-distant future.

ASIA'S FINANCE PICTURE

              Domestic Credit (% change
               over latest 12 months)

Australia                 9.8
China                    19.6
Hang Kong               -17.9
Indonesia                -2.9
Japan                     1.5
Korea                    17.2
Malaysia                 -1.4
New Zealand               6.1
Philippines              -3.8
Singapore                15.3
Taiwan                    2.3
Thailand                 -3.3

                Margin (Prime lending --
              1 month interbank (% points)

Australia                 2.8
China                     3.7
Hang Kong                 3.1
Indonesia                 1.0
Japan                     1.3
Korea                     3.8
Malaysia                  4.4
New Zealand               3.4
Philippines               2.3
Singapore                 2.9
Taiwan                    2.4
Thailand                  6.1

COSTS AND DIMENSIONS OF THE ASIAN BANKING SECTOR CRISES

As at 8/99         Fiscal    Liquidity     Asset      Non-Performing
(3/99 for NPLS)     Cost      Support    Management       Loans
                  % of GDP   % of GDP    % of GDP       % of GDP

Indonesia            45         17          20             22
Korea                15          7          10             23
Malaysia             12         13          17             35
Philippines          na          1          -              na
Thailand             na         22         21.5            53

As at 8/99           Restructured
(3/99 for NPLS)          Banks
                  % of banking assets

Indonesia                 92
Korea                     44
Malaysia                   9
Philippines                3
Thailand                  30

(*) Alex Erskine is the director of Erskinomics Consulting Pty Ltd and the former head of Asian research for Citibank N.A. in Singapore.