Fiscal stimulus key for economy

Monday, December 22, 2008 Vincent Lingga, The Jakarta Post, Jakarta

Government and private sector analysts have a consensus prognosis: Indonesia's economic growth will markedly slow down next year because of the international credit crunch and the deep recession in the United States, Europe and Japan.

However, with the news on the global economy getting worse every week, they differ on the extent of the downturn. The government, the central bank, the World Bank, the International Monetary Fund and the Asian Development Bank still expect the gross domestic product (GDP) to grow by between 4.5 and 5 percent, while private sector analysts forecast an expansion ranging from 2.5 to 4.5 percent.

Depressed demand in the world's economic powerhouses has begun to hit Indonesian exports, pushing down commodity prices and forcing manufacturing companies to reduce employment. In the third quarter the economy grew 6.1 percent -- the slowest in the past six quarters -- as declining prices for palm oil, rubber and coal slashed the value of exports.

Growth in the last quarter could be less than 6 percent with the second round impact of the global economic downturn hitting all sectors of the economy harder.

Although overall growth for the whole year could still hover at 6 percent thanks to robust expansion in the first half, the economic landscape next year will be bumpy and jagged.

Private consumption, which accounts for 65 percent of growth, will slacken because of steep falls in commodity prices and the erosion of consumer purchasing power by the estimated 11.30 percent inflation this year and the 20 percent depreciation of the rupiah over the past two months alone.

Exports, already hurt by depressed demand in the developed world, will further be hindered by the tighter credit markets, making it more difficult for companies to secure working capital and payments for international shipments.

This is different from the 1997-1998 economic crisis when export-oriented businesses continued to do very well. Companies depending largely on export markets will suffer because of the recession in the developed economies.

In fact, manufacturers have begun feeling the pinch, as evidenced by the wave of employee layoffs that started last month and which, it is feared, will escalate next year as the full impact of the global crisis makes itself felt.

Political spending during the parliamentary elections in April and the following presidential election will be an additional boost to private consumption but surely not as strong as in the 2004 elections because of the negative impact of massive wealth destruction on the Jakarta stock market in October.

According to the Central Statistics Agency, between July and September, the contribution of foreign trade (exports and imports) to economic growth was virtually negligible.

Even though the country is not largely dependent on foreign trade (which contributes only about 20 percent of GDP), given the size of the economy ($400 billion), it will still feel the brunt of the global downturn via the financial channels -- both from higher risk aversion on the part of investors as well as extremely tight liquidity conditions (due to the credit crunch).

The crash of the Jakarta stock market in October, which shaved off almost 60 percent of market capitalization as the composite index collapsed from 2,800 early this year to as low as 1,100, reflected the withdrawal of foreign portfolio capital and at the same time spelled the end of the investment boom.

This also means that the nearly 400 listed companies can no longer rely on the stock market for long-term funds. Consequently, they will slash capital expenditure, thereby reducing the possibilities for investment and job creation.

The only good news is moderate inflation, probably controlled at 6 percent for the whole of next year.

But even though inflationary pressures have eased because of the falling prices of food and fuel, there is not much leeway for Bank Indonesia (BI) to ease its monetary policy substantially.

So don't expect a significant lowering of the BI rate from its current level of 9.25 percent because of the international financial volatility and the vulnerability of the rupiah to speculative attacks.

The high interest rates will further hit consumer spending and new investment.
Weaker domestic demand and an expected slowdown in manufacturing exports will reduce imports, but the risk of imported inflation will remain high if the rupiah remains highly vulnerable to speculative attacks.

The biggest challenge for both the government and the central bank, therefore, is maintaining public confidence in the rupiah. With an 8.25 percentage-point differential with the U.S. funds rate, rupiah financial assets are still attractive for depositors and investors.

But given all the volatility and the uncertainty in the international financial market and the risk of the crisis taking a sudden turn for the worse, the rupiah could be severely hit as people may lose confidence in it.

In such circumstances, the interest rate differential would become less meaningful as depositors and investors may simply move their money to safer places (flight to safety).
Here lies the issue of the government guarantee for bank deposits, which is still limited to Rp 2 billion ($165,000) per account compared with the blanket 100 percent guarantee available in Hong Kong, Singapore and Malaysia.

But this issue is also directly related to the condition of the banking industry.
The Finance Ministry, which oversees the Deposit Insurance Corporation, seems not fully comfortable yet with the quality of the central bank's supervision of the 125 city-based banks and hundreds of secondary (rural) banks.

Introducing a blanket guarantee without strong supervision of the banking industry could put taxpayers at risk of having to pay out for another huge bailout as they did after the 1997-1998 banking crisis.

Banks will also have to brace for a new wave of nonperforming loans (NPLs), especially in areas such as plantations and mining, due to the steep fall in commodity prices between August and October.

This risk could slow down the pace of new bank lending, but not to the point of a severe credit crunch.

Given the grim prospects for private consumption and investment, government spending should take up the role of the locomotive of growth. An aggressive fiscal stimulus package must take up the slack, or the economy will plunge into the worst-case scenario of growth below 4 percent.

Fortunately, the government has fully understood the urgent need for pump priming to offset the anticipated sharp decrease in the growth of private consumption and investment.

The Finance Ministry has been accelerating the implementation of its investment program in labor-intensive projects such as infrastructure (for example, highways and rural infrastructure), with total spending expected to reach Rp 200 trillion within the next two months alone.

Most analysts agree that with a government debt-to-GDP ratio of less than 30 percent -- compared with more than 100 percent at the height of the crisis in 1998 -- and with a fiscal deficit of just around 1 percent of GDP, the government has a lot of leeway to increase its deficit spending next year.


Larger budget spending is needed not only for the construction of infrastructure but also for expanding the social safety net into public-employment works and providing assistance to financially distressed businesses in anticipation of a sharp economic downturn.

The problem is that almost half of the country's population of 227 million still lives on less than US$2 per day (the international poverty line). They live on the edge of the absolute poverty line, so that even a slight downturn in the economy could plunge a hundred million poor into abject poverty.


Given the tight international and domestic liquidity conditions, which make borrowing costs punitively high, the government made the right move in approaching the World Bank, Asian

Development Bank and bilateral sovereign creditors such as Japan and Australia for larger standby loans.


All in all, the economy will muddle through at a much slower pace next year. Growth could still hover at more than 4 percent if the government succeeds in implementing its pump priming measures and takes forceful and credible steps to maintain stability in the banking industry and the rupiah exchange rate.

Commentary: Distrust among banks the cause of liquidity problem

Vincent Lingga , The Jakarta Post , Jakarta Tue, 11/25/2008 7:14 AM Headlines

Almost one week after Sinar Mas Multi Artha, the financial unit of the powerful Sinar Mas business group, signed a preliminary agreement to acquire 70 percent of Bank Century, this small bank remained in a liquidity crisis, forcing the central bank to put it under the control of the state-owned Deposit Insurance Corporation last Friday.

Sinar Mas’ commitment to take control of Bank Century should have reignited market confidence in this small bank and enable it to get access to interbank loans. But it didn’t.

The big question is then: Is liquidity in the banking industry so tight that this publicly listed bank was unable to secure interbank loans to resolve its illiquidity even with the strong support of the Sinar Mas Group?

The answer is a resounding “No”.

Analysts and bankers estimate that Bank Indonesia’s lowering of the minimum reserve requirement at banks last month from 9.5 percent to 7.5 percent unleashed between Rp 50 trillion (US$4.5 billion) and Rp 70 trillion in new lending resources. Moreover, the pace of bank lending has slowed down from its annualized rate of 35 percent in the first three quarters.

But why are many banks still complaining about tight liquidity and businesses groaning over what they claim to be a tightening of credit?

“The problem is not liquidity because industry-wide the level of liquidity is adequate. But banks awash with liquidity are reluctant to lend to others out of fear their money will not be repaid,” Bank Indonesia’s research and regulatory director Halim Alamsyah said.

He revealed there had been suspicions among money market players, notably between small banks, as one bank did not trust the soundness of another bank, hindering interbank lending.“That is why we (Bank Indonesia) have recommended that the government introduce a blanket guarantee on all liabilities of banks, including interbank loans and letters of credit,” Bank

Indonesia Deputy Governor Hartadi Sarwono said.

There seems to be information asymmetry within the banking industry.

Theoretically, banks that are not under the special surveillance of Bank Indonesia (the central bank) are assumed to be sound.

But the suspicions between banks have spread widely. This condition is, to a limited extent, similar to the environment in the financial market in the United States since September, when the financial crisis turned into a total crash following the bankruptcy of the Lehman Brothers investment bank.

Such mutual distrust should not have hit banks in Indonesia because they do not own, or have not bought, the toxic assets (subprime mortgages and derivatives) that fueled the U.S. financial crisis.

Several bankers said the segmentation within the banking industry has widened to the point where big banks are increasingly uncertain about the quality of small banks’ assets.

Faced with huge difficulties of their own, banks have tightened their purse strings, lending less and driving up the cost of credit to consumers and corporations — thus compounding the already grim outlook for the world economy.

Uncertainty about the depth and length of the global slowdown is making things much murkier. But the combination of a battered banking system and shell-shocked consumers suggests things could get particularly tough for many businesses. So banks prefer to secure as much cash as they can now to make sure they can see their operations through the downturn.

Many bankers also are nervous that borrowers who look solid today may turn out not to be so solid within the next few weeks or months. In the current environment, bankers are nervous that other banks might shut them out, out of fear, and stop extending them short-term credit.

Doesn’t this mean a distrust in the quality of banks under the supervision of the central bank?Certainly a blanket guarantee, as recommended by the central bank and most businesspeople, will with one stroke remove the clog within inter-bank lending.

But this may simply encourage reckless lending practices and bad bank governance practices, further exposing taxpayers to the risk of having to pay for another big bailout.

However, if banks fully trust the integrity and reliability of Bank Indonesia’s bank oversight, it should be possible and easier for them to better identify which banks are reliable.

In normal times, banks have several mechanisms for providing the necessary information, such as accounting disclosures, quarterly balance sheets and credit rating agencies. But the financial situation now is irrational and volatile.

Special Report: Commodities boom ends as speculative bubbles evaporate

Vincent Lingga , The Jakarta Post , Jakarta Fri, 11/14/2008 11:02 AM Business

Indonesia benefited greatly from the boom in the prices of primary commodities since the middle of last year as palm oil, rubber, coffee and cocoa as well as coal, pushed up the Jakarta stock market index to its peak of over 2,800 in April, 2008, bolstering exports and generating greater purchasing power for millions of smallholders in Sumatra, Kalimantan and Sulawesi.

However, the boom cycle abruptly ended last August after the United States financial crisis turned into a crash, setting off a global credit crunch and driving the global economy into a recession-led economic downturn, bringing down the Indonesian (IDX) stock index at one point to below 1,100.

The prices of most commodities collapsed to as low as one third of their market quotations only three months before. Crude palm oil tumbled down from its peak of US$1,300/ton to below $400 last month, rubber from $0.33/kilogram to $0.15, coffee from $2.54/kg to $1.5 and cocoa from almost $3/kg to $1.8.


This development validated analysts' views that what had so far been dubbed as speculative bubbles did play a big part in the earlier sky-high prices of commodities.

Growing global demand probably was the reason for the gradual rise in palm oil prices from an average $470/ton in 2006 to $780 in 2007, but speculative bubbles fueled the rise up to the range of $1,000-1,300 between January and July this year.


The fundamentals of the supply and demand equation were also responsible for the gradual rise in crude oil prices from $20 a barrel to US$40 earlier in the 1990s, and even up to US$60 by mid-2005, but speculative sentiments helped fuel the steep increase to as high as $147/barrel last July before falling steeply to below $60 now.


Even such high-growth emerging economies as India and China with a combined population of more than 2.3 billion people could not have all of a sudden gobbled up enough palm oil, rubber, coal and other commodities to generate such steep price rises in the first half of this year.

The problem is that the price elasticity of both demand and supply is low for commodities like palm oil, cocoa, coffee and rubber. Put another way, neither the underlying supply nor the demand for such commodities could have changed so quickly. Consumers will still drink one or two cups of coffee even if its price rises sharply, but will not suddenly take ten cups when its price falls. Likewise, people do not abruptly stop frying food even if the price of palm oil skyrockets.


As debt instruments suddenly became illiquid and risky, investors sought safety in commodities. That surge of cash created a new bubble which has recently burst.

Investors such as hedge funds and even such solid institutions as pension funds made speculative purchases as they diversified into alternative investments away from the uncertainties in the financial market.


The sub-prime mortgage crisis started raising its ugly head in the United States in early 2007.
Analysts observed the flood of money from investors into the commodity futures markets, thereby distorting spot markets for physical commodities.


However, speculation by investors to avoid the uncertainty within the financial market was not the only factor behind the one year boom-cycle.The fundamentals of the supply-demand equation also played a part as the global economy enjoyed one of its high growth periods.


According to the International Monetary Fund, the world economy grew faster, expanding by an average 4.5 percent, 50 basis points higher than most analysts had forecast earlier.

As most analysts have often noted, global economic expansion had been driven mainly by major emerging economies, notably China and India, which grew at an annual average rate of nearly 10
percent for several consecutive years. Given their large populations, this development generated a dramatic rise in demand, particularly for natural commodities.





Government-induced distortions have also blunted price signals. In many emerging economies, including Indonesia, governments control the prices of important fuels such as gasoline and food staples.



Even though several countries have removed such price distortions, many others, notably major producers, kept prices fixed, thereby blocking the transmission of market reactions from higher prices to weaker demand.To reduce carbon emissions, the U.S. government encouraged biofuel production by subsidizing these fuels. Consequently, the demand for biofuel feedstocks such as maize and vegetable oils exploded.


The World Bank estimated biofuel demand was the biggest single reason why food prices soared in the past two years.

Hence, all in all, demand shocks caused by speculative bubbles, higher-than-estimated economic growth and misguided government policies combined together to fuel the commodities boom in the first half of this year.

But now, the world economy is suddenly accelerating into a recession-led downturn and the financial market has crashed, leaving behind a liquidity crunch which has consequently removed the demand shocks caused by previous robust economic growth and speculative bubbles.

The strongest message of this roller-coaster market development is that only the fundamentals of supply and demand are able to generate sustainable price trends in primary commodities.

Commentary: Sri Mulyani, the bedrock of SBY’s economic management

Vincent Lingga , The Jakarta Post , Jakarta Tue, 11/11/2008 7:13 AM Headlines

President Susilo Bambang Yudhoyono’s political debts from his 2004 presidential election campaign seem to be haunting him still, even to the point of occasionally impairing his economic judgment. Yudhoyono was warned of the big risk of conflicts of interest within his Cabinet when he appointed Aburizal Bakrie, then chairman of the Bakrie conglomerate, as the chief economic minister at the outset of his administration in October 2004.


Aburizal remains in the Cabinet, although now with largely diluted power as the coordinating minister for the public welfare. However, his presence in the executive power center continues to cast a shadow over the credibility of the government’s policymaking.

The government’s flip-flop handling of the trading suspension on the Bakrie Group’s Bumi Resources coal mining company since early last month is only the latest example of how the integrity of the government’s economic management has sometimes been compromised to protect the Bakrie interests.


Given the legislative and presidential elections next year, there are now increasing concerns not only about who is really managing the economy with Yudhoyono and Vice President Jusuf Kalla both gearing up for their campaigning. There are also major concerns over the integrity of the economic management itself.

Fortunately, as with the situation in the 2004 election year, when we had Boediono as the finance minister and the vanguard of economic management under then president Megawati Soekarnoputri’s administration, now we have the “iron lady” Sri Mulyani Indrawati as both the finance minister since late 2005 and the acting chief economic minister since June.

Boediono, who is highly respected in both international and domestic circles, was then more than any other person responsible for restoring and maintaining our macroeconomic stability between 2001 and 2004.


Likewise, Mulyani’s integrity, competence and courage to stand up to pressure from vested interests, even from such a politically well-connected conglomerate as the Bakrie Group, serve as the bedrock of the credibility of the government’s economic management.

At a time when Yudhoyono, Kalla and several other Cabinet members from various political parties are busy with their political posturing for next year’s elections, Mulyani and Boediono, currently the governor of Bank Indonesia, make up the automatic pilot of the country’s economic management. 


The rumors last week that Mulyani and her core team at the Finance Ministry threatened to resign over the powerful political pressure on her to compromise economic policies simply revealed her true character, her courage to stand up even against her boss when it came to the principle of sound economic management.

Earlier rumors of a strong conspiracy and various forms of subterfuge to oust her from the Cabinet further reflected the determination of the award-winning finance minister in fighting corruption.

Soon after her appointment to the Finance Ministry, the former executive director of the International Monetary Fund acted immediately, against strong opposition from vested interest groups, to clean up Jakarta’s main tax and customs offices from corrupt officials.

Mulyani also dealt firmly with the largest coal and palm oil producers over underpaid royalties and taxes and imposed travel bans on businesspeople who owed the government overdue taxes.

No wonder, then, that for two years in a row she has been named Finance Minister of the Year by specialist magazines Euromoney (2006) and The Banker (2007). Forbes magazine last August honored Mulyani as the 23rd Most Influential Woman in the World, a position that also put her at number three on the list of Asia’s most powerful woman.

At a time when we are highly vulnerable to the fallout from the global financial crisis and economic recession and when market confidence, rather economic fundamentals, is the main issue, Mulyani’s competence and courage, consistency and impeccable integrity in treading the messy politics of policymaking are both the anchor and the lightning rod of the government’s economic management.


Yudhoyono’s alleged tussle with Mulyani over the covert attempt to bail out the Bakrie business group should be the last spat over policymaking — otherwise he may lose her altogether at the risk of devastating damage to his government’s credibility. The President should see to it that Mulyani, as the acting chief economic minister and finance minister, is really and fully in charge of making and directing economic policies based on the strategy set by the government and the parliament.


Having said all that we don’t mean to say that Mulyani can perform miracles. She can’t, given the uphill challenges ahead with the global financial crisis and economic recession.

But her impeccable integrity, credibility and competence will help strengthen the credibility and consistency of the government’s economic policymaking, especially in view of the legislative and presidential elections next year.

Special Report: Lessons from Citibank Indonesia: Customers get burned

Vincent Lingga , The Jakarta Post Wed, 10/15/2008 10:27 AM Headlines

Citbank Indonesia customers that lost a lot -- in my case, most of my savings -- after the collapse of American investment bank Lehman Brothers last month need not be ashamed of admitting how low and utterly poor their financial literacy turned out to be.

Many investors in Hong Kong vowed last week to fight for a full refund of their Lehman products, alleging that the banks who sold them the investment instruments had not fully explained the risks associated with the financial derivatives.

In the current era of globalized financial markets, it is almost impossible for us, including me, an economics reporter for the last three decades, to have the financial literacy necessary to understand complex investment securities like the Lehman's market-linked notes peddled by Citibank Indonesia.

Robert Reich, a former U.S. secretary of labor and now an economic advisor to presidential candidate Senator Barack Obama, recently wrote in the International Herald Tribune about the U.S. financial crisis "I once asked a hedge fund manager to describe the assets in his fund. He laughed and said he had no idea."

Financial markets trade in promises that assets have a certain value. With so many derivatives in world financial markets, there is virtually no limit to what can be promised.

I, along with other Citigold customers I talked to, painfully realized only recently we had no idea what we bought in mid-2007 through our Citigold executives.

In another shocking information sheet sent one week after Lehman went bankrupt, Citibank revealed that the holders of Lehman notes in Indonesia were unsecured creditors.

For many banks, private banking or wealth-management services have become a significant source of fee-based incomes. But as it now turns out, such services have become wealth-destruction centers for a number of Citigold clients due to the unprecedented pace in which the U.S. financial crisis turned into a crash.

Hence, the first lesson from the debacle of the Citigold customers is don't ever touch offshore, sophisticated investment securities. There are now so many derivatives, hedge funds, structured vehicles and swaps offered on the international market.

We are glad to know, though, that after several days of denial, both Bank Indonesia and the capital market watchdog (Bapepam) late last month said they were preparing regulations on the trading of offshore investment securities to protect consumers.

"We should have set up an oversight mechanism years ago," Bank Indonesia's Deputy Governor Muliaman Hadad said Sept. 26, as quoted by newspapers.

Singapore is doing the same.

According to the Straits Times on Oct 3., the Monetary Authority of Singapore will soon review the way structured investment products are marketed to retail investors as thousands of investors in Lehman Brothers products stand to lose most of their money.

Lacking adequate oversight of offshore investment securities sales in Indonesia puts many consumers, notably big depositors, at a high risk of big losses.

The second lesson is don't ever rely your investment decisions on the offers, recommendations or information given even by such highly reputed financial institutions as Citibank Indonesia and its Citigold wealth-management centers.

In so far as the risks of your investment are concerned Citigold executives mean nothing for you. They work primarily to massage the ego of big depositors to keep their accounts at the bank.

Relationship managers at Citigold could simply overlook their clients' risk profile, caring more about their annual sales bonuses.

The third lesson is read carefully each word of any investment contract documents given by Citigold staff with the assistance of a respected lawyer before you sign them.

It was stupid and careless of me (and many other victims) to only skim my investment subscription form, signing the 11-page document in good faith, trusting Citibank's competence and reputation.

Most of the clauses in my contract turned out to have been designed to protect Citibank as the seller and its employees, and for them to avoid any fiduciary responsibility for the investment products they peddled.

I, quite painfully, only discovered three weeks ago that one of the clauses states, "I/We (investors) did not obtain any legal, tax or accounting advice or advice in relation to the suitability or profitability of any Notes from Citibank N.A or Citigroup or any of their employees. I/We made My/Our own judgment and decision regarding the transaction independently."

Although I knew about Lehman market-linked notes only from the sales offer and the scant information provided to me by my Citigold relationship manager, I signed in the subscription document of never having obtained advice or information from Citibank or its employees regarding the notes.

Was this the way of selling financial products in good faith?

On Sept. 26, or around 15 months after I signed my investment order and ten days after Lehman went bankrupt, Citibank sent me the final terms on the Lehman notes dated July 4, 2007, contained in a 22-page English document.

The first page of this document, among others, states, "These notes are only suitable for highly sophisticated investors who are able to determine themselves the risk of an investment linked to an index."

I wondered why I was never given this document before.

Herd mentality, short-term vision grip our stock market

Vincent Lingga, The Jakarta Post, Jakarta Thurs, 10/9/2008

The capital market management and regulator made the right decision Wednesday to halt share trading here after the benchmark index plunged by another 10 percent to close at 1,451 points, because that development was indeed rooted in an irrational market mechanism.

Letting the stock market (IDX) continue operating in such a chaotic situation would be like allowing a few rice sellers to freely set the price of the staple amid a massive, nationwide famine.

Stocks in such blue-chip companies as telecommunications firm Indosat, coal producer Adaro and automobile and plantations group Astra International should not have plunged between 19 and 23 percent Wednesday, had it not been for a herd mentality on the part of domestic retail and institutional investors.

The long-term outlook for telecommunications and our natural-resource-based companies remains bright and promising. Even though the prices of most primary commodities such as coal, palm oil and rubber have of late fallen steeply, they remain way above their 2006 levels.
The recent downward trend was even good for long-term stability, because the skyrocketing prices during the first semester were partly fueled by speculative sentiment. These prices are now seeking a new equilibrium.

Our domestic investor base should have been broad and diverse enough to shield the IDX from the abrupt changes in international investor sentiment.

The growing role of domestic institutional investors such as pensions funds, mutual funds and insurance companies should have contributed to broadening and diversifying the pool of investment in equities.

The long-term horizon of these institutional investors should have played a stabilizing role in our stock market. Basically, a diverse investor base, in relation to investment horizons and risk appetite, can contribute to financial stability by spreading risks more widely.

But as Wednesday's irrational market development showed, most domestic investor behavior was still controlled by a herd mentality, toeing the move of foreign portfolio investors.
What are the main determinants of share prices?

One of them is global factors, such as international liquidity and credit and market risk premiums. True, these factors are now all negative, as the impact of the financial crisis and panic in the United States and Europe sets in.

However, the strongest determinants of our equity prices -- the domestic or fundamental factors such as economic growth, the differential between domestic and global interest rates, the expected forward exchange rate, the inflation differentials -- remain fairly positive.

In fact, after Bank Indonesia's move on Tuesday to raise its benchmark interest rate by another 25 basis points to 9.50 percent, our interest rate differential with the U.S. Fed funds became 8 percentage points.

I don't think the amount of foreign portfolio money still playing in our stock market remained at such a level because it was still able to heavily influence the market trend.

Most of this hot money had flown out a few weeks ago as these skittish investors became highly risk-averse and tended to generalize things.

The steep fall in our stock market Wednesday was therefore exacerbated by the herd mentality and short-term-oriented stance not only of our individual (retail) but also institutional investors.

Hence, as BI Governor Boediono and chief economics minister Sri Mulyani Indrawati said Sunday, if we really care about protecting our own house from the fallout of the international financial crisis, then we all, in our respective roles, should help contribute to maintain calm.

This calls for domestic retail and institutional investors to get rid of their herd mentality and adopt a more long-term view in order to contribute to building up a financially stable base for our equity market.

Audits could curb illegal logging

Vincent Lingga , Jakarta Tue, 10/07/2008 9:58 AM Opinion

The Indonesian Forestry Ministry's bold move to require forestry companies to have their wood stocks audited throughout the supply chain to ensure the wood is derived from sustainably managed forests could go a long way in reducing illegal logging in the country.

Hadi Pasaribu, the Forestry Ministry's director general for the management of forestry production, who revealed the new policy recently, did not elaborate as to when the audit -- internationally known as forest certification scheme -- would be mandatory for wood-based companies.

But surely the new measure needs thorough preparation because the audit or certification process requires independent certifiers who must be accredited according to the international standards as those applied by the Bonn-based Forest Stewardship Council.

It is international market forces (consumers and traders) united into a global green consumer campaign that have forced wood-based companies to have their wood certified as green by independent certifying companies.

Hence, whatever the system used by the Forestry Ministry for the wood audit, an inspection or certification scheme, it must be based on international standards to gain international recognition.

Wood audit for forest certification aims at verifying that a particular wood is derived from sustainably managed forests. This process requires companies in the whole wood supply chain to hold chain-of-custody certificates so that the label or bar-code can follow the word from the forests to the finished product.

The chain of custody itself is the process of wood harvesting, primary and secondary processing, manufacturing, distribution and sales. The wood audit, as referred to by Pasaribu, inspects each of these processing steps to ensure that the timber or wood originated from forests which are being managed in accordance with social, environmental and economic aspects of sustainable forest management.

Hence, for example, a buyer of a wood cupboard from a furniture store in Denmark which sells certified green products is able to ascertain that the product he or she is purchasing was made from timber derived from sustainably managed forests in a particular area in a specified country.

The current wood or timber inspection carried out by the Forestry Industry Revitalization Agency, besides being ineffective and vulnerable to corruption and abuse, inspects only legal documents from forestry offices which can easily be forged or falsified.

No wonder Indonesia is on the losing side in a battle against illegal logging, despite an intense crackdown by authorities.

The government has enacted laws on environmental protection and has issued myriads of regulations and rulings to protect forests and erected non-tariff barriers to prevent the trading of illegally-cut wood.

However, illegal logging continues on a massive scale.
But the new wood audit scheme, called Wood Legality Verification System, will involve independent certifiers such as environmental NGOs which have been accredited to conduct such certification, according to Pasaribu.

Since forest certification involves the employment of multidisciplinary teams consisting of various specialists such as forest engineers, ecologists and sociologists to evaluate the various aspects of forest management, the audit or certification process could be quite costly.

Therefore market incentives are necessary to make wood audit or forest certification attractive to wood-based companies. Certainly, the best incentives are premium prices paid to wood products derived from certified forests.

Even though premium prices gained by certified wood today do not seem to be high enough to spark a rush by wood companies to certify, neither the government nor companies can wait much longer.

Market forces have become much stronger now and can force companies to certify the origin of the wood they use. Five European Union governments, including Britain's, have adopted procurement policies that would oblige state-funded construction projects to use certified wood.

Certainly, countries cannot demand that all wood entering their territories be certified, since that would break the rules of the World Trade Organization. But more consumer organizations, especially in major developed countries, have pressured suppliers of wooden products to certify, otherwise they will face massive boycotts.

The concept of forest certification thus uses market forces to curb illegal logging through demand-side and supply-side approaches, mobilizing consumers and traders to shun forest products that are not certified according to internationally recognized standards of sustainable forest management.

Such threats of boycott from powerful consumer organizations and environmental NGOs could force forest-based companies (producers) to have their operations and products certified by accredited, independent forest certifying bodies.