BizCLIR

Access to business credit is important to the growth of any economy, and collateral is important to access to credit. In Indonesia, when borrowers seek the privilege of doing business with funds offered by lenders, those lenders, like lenders all over the world, demand collateral as security.

Collateral exists in two broad classes: immovable property (land and buildings) and movable property (all other property, including intangible property). Lenders often prefer immovable as collateral, despite its many drawbacks. In underdeveloped economies, land law and mortgage markets are often cumbersome and very expensive. No matter how well an economy has developed, land may already be mortgaged to finance its purchase. Further, many credit-worthy borrowers do not own land to offer as collateral. Finally, land may be illiquid compared to many other types of collateral, such as crops, livestock, inventory, securities, and receivables.

Movable property as collateral has its own drawbacks. Any advantage of liquidity is offset by other risks, such as depreciation and the possibility that the debtor will sell or otherwise dispose of the property. Legal obstacles also exist. Legal rights in movable property as collateral are often much weaker than mortgage rights in land, even where land law is poorly developed and even though movable property may be more liquid than land. Fortunately, legal obstacles to credit are artificial creations that can be removed. When legal obstacles are removed, movable property as collateral can generate great leverage for business credit. For example, in the United States 70 percent of small business loans are secured by movable property.

Collateral is a problem in Indonesia. A reported 31 percent of Indonesian small businesses do not apply for credit because they experience difficulties when asked to provide collateral; this is their most significant reservation. (Nine percent report that their greatest reservation is interest rates, and 11 percent are put off by complicated procedures.) Some prominent lenders to non-farm enterprises, on the other hand, limit their interest in collateral exclusively to land certificates, houses, cars, motorcycles, and time deposits. Indonesia boasts a growing industry of non-bank financing firms, but the industry has gravitated toward consumer finance and credit card services. Despite the volume of receivables generated by consumer finance (which are highly liquid in value as collateral), the industry does not seem interested in factoring.

Law can help make collateral more attractive to lenders in at least four ways. First, law can refrain from imposing formalities, delays, and cost upon the act of creating security rights in collateral. Second, law can require disclosure of minimal information about secured transactions to the public, so that prior security rights can be discovered by prospective buyers of property and prospective lenders who may consider taking property as collateral. Third, law can anticipate conflict among creditors and fairly resolve the conflict in advance of any actual dispute. Fourth, law can minimize the time and cost associated with enforcement against collateral in the event of the debtor’s default. If collateral is more attractive to creditors, more credit, on better terms, will be available to the credit-worthy.