By Laksamana Sukardi<\/p>\n
This is the second of two articles based on based on a paper
\npresented at a \"power breakfast\" meeting organized by the
\nInternational Advertising Association at the Hilton Executive
\nClub on Nov. 21, 1997 in Jakarta.<\/p>\n
JAKARTA: The IMF arrived quickly on the scene to rescue the
\neconomy. The Indonesian problem, however, is very different from
\nthe typical set of problems that the IMF is supposed to solve.<\/p>\n
The usual target of the IMF is a government which has financed
\nits budget deficit by printing money at the central bank, which
\nin turn results in high inflation, a currency crisis, and the
\ndraining of foreign exchange reserves. Given such a crisis, the
\nIMF generally recommends a contraction of the economy to reduce
\ninflation, the currency is stabilized, and foreign exchange
\nreserves replenished.<\/p>\n
Indonesia is not the same. Basically, Indonesia is not
\nexperiencing a budget deficit or inflation, and foreign exchange
\nreserves are manageable.<\/p>\n
The economic crisis in Indonesia stemmed more from massive
\nprivate sector short-term debt which was disbursed to speculative
\nnon-export sectors.<\/p>\n
This resulted in reduced competitiveness of our export goods.
\nCompounding the problem is the fact that Indonesia's exports fail
\nto compete in the global market, in which China is the leader,
\nbecause of the impact of rising labor costs and the high-cost
\neconomy.<\/p>\n
The lack of competitiveness, coupled with falling demand for
\nIndonesian products, has reduced the volume of exports. The only
\nway to make the Indonesian economy competitive is to depreciate
\nthe exchange rate of the rupiah against the US dollar.<\/p>\n
However, a weakened rupiah causes tremendous problems for
\nthe private sector, which bears a very heavy load of foreign debt
\nthat will be increasingly difficult to service.<\/p>\n
Indonesia urgently needs to increase its competitiveness by
\neliminating its high cost economy and allowing the rupiah to
\nfree-float downward. In this way, production costs will drop and
\nexports will rise, so generating foreign exchange which can be
\nused to pay off maturing foreign debt.<\/p>\n
Other benefits if Indonesia allows a floating exchange rate
\nfor the rupiah are:
\n(1) our foreign exchange reserve will be preserved and not used
\nin a vain attempt to stabilize the rupiah exchange rate by
\nintervening in the financial market; and
\n(2) Bank Indonesia will not need to increase rupiah interest
\nrates to unreasonable levels. It is ironic that the IMF has set
\nIndonesian economic growth at only 3 percent in 1998. This means
\nthe IMF is requiring a contraction of the money supply and very
\nlimited bank credit expansion.<\/p>\n
In fact, the IMF is encouraging bank closures as one effort to
\nrestore confidence. But a large scale closure of banks will
\nresult in a crisis of confidence instead of restoring it because:
\n(1) the liquidity structure of the Indonesian banking system is
\nvery shaky due to the common practice of mismatching assets and
\nunreasonably large liabilities (short-term funds to finance long-
\nterm loans -- a practice which stems from the non-existence of a
\nlong-term funds market); and
\n(2) very weak law enforcement due to the lack of an independent
\nand impartial legal system. These two determining factors will
\nundoubtedly lead to mass liquidation, resulting in a nation-wide
\nbank liquidity crisis in Indonesia.<\/p>\n
The liquidation problem, moreover, will not be settled
\npromptly, but will take years to resolve.<\/p>\n
In contrast to the typical IMF case, Indonesia actually needs
\nstable -- or even slightly expansionist -- monetary and fiscal
\npolicies to counter-balance the decline in foreign loans.<\/p>\n
Interest rates would rise, but only temporarily, and they
\nwould not soar to the current outrageously high levels.
\nStrengthening the banking industry should not be accomplished by
\nhasty bank closures, but by pushing weak banks to merge with
\nhealthy ones and by pushing the banks to raise their capital
\nbase. In the Indonesian case, the majority of owners of the
\nliquidated banks have not gone bankrupt, but are still considered
\nto be very wealthy individuals.<\/p>\n
Actually, the liquidated banks could have been rescued by the
\nshareholders who have enormous personal assets. The shareholders
\nwere willing to use their assets to reimburse the loans which had
\nbeen disbursed to them personally.<\/p>\n
This confirms that the real problem faced by the Indonesian
\nbanking system is a very poor law enforcement system.<\/p>\n
Inasmuch as the fundamentals of the Indonesian economy are
\nstill considered sound, what is needed is an increase in
\ncompetitiveness and a rescheduling of foreign debt, so we are
\nable to gradually reduce the level of foreign debt.<\/p>\n
The economic crisis in Indonesia is truly the result of a
\nseries of policy blunders which occurred due to the systemic and
\nstructural impediments which make it impossible to enact prudent
\neconomic policies.<\/p>\n
Indonesia's economic problems will not be solved until the
\ndecision-making process is substantially less influenced by
\nvested interests, nepotism, and lack of \"transparency\".<\/p>\n
The most troubling aspect of the IMF aid package is that the
\nprogram does not touch the core problems which are responsible
\nfor causing the crisis of confidence.<\/p>\n
The size of the rescue package has been touted, while little
\nattention has been given to the inability of management to
\nproduce sound economic policy, free from nepotism and vested
\ninterests.<\/p>\n
The additional aid granted by the IMF will add to Indonesia's
\nalready perilous foreign debt burden -- which reached US$ 135
\nbillion in early 1997 -- $ 60 billion in government debt, and $
\n75 billion in private sector debt.<\/p>\n
If Indonesia uses the US$ 10 billion IMF standby facilities in
\n1998, total foreign debt stock as a percentage of GDP will rise
\nto over 70 percent. This is extremely high compared to the 1995
\nratios of other MBA countries such as Brazil, Mexico and
\nArgentina that experienced economic crises and defaulted on their
\nforeign debt payments.<\/p>\n
At that time, debt as a percentage of GDP rose to 23 percent
\nin Brazil, 66 percent in Mexico and 35 percent in Argentina.<\/p>\n
The income per capita of those MBA nations was much higher at
\nthat time than that of Indonesia (Brazil = US$ 3,640 \/ Mexico =
\nUS$ 3,320 \/ Argentina = US$ 8,030).<\/p>\n
The Debt Service Ratio (DSR) in Indonesia in 1998 is projected
\nto reach 42 percent, which is a threatening level that exceeds
\nthe prudential limit ratio.<\/p>\n
Consequently, Indonesia will be unable to use the stand by
\nfacilities provided by the IMF.<\/p>\n
The immense commitment on the part of the IMF will serve only
\nto help increase confidence in the Indonesian economy. What
\nIndonesia needs now is stable economic growth, even slight
\nexpansion backed by monetary and fiscal policy.<\/p>\n
The Indonesian economy must grow by 5 percent per year to be
\nable to provide jobs to an additional 2.6 million new workers
\nentering the labor market each year.<\/p>\n
The high rate of new entrants into the work force is
\ndue to the fact that 58 percent of Indonesia's 200 million
\npopulation are under the age of 25.<\/p>\n
Indonesia desperately needs to create the infrastructure and a
\nsystem capable of facilitating a transparent, institutionalized
\ndecision-making process.<\/p>\n
This is imperative if Indonesia is going to introduce sound
\nmacroeconomic management and policies. The severe economic
\ndownturn and the dramatic reversal of fortunes were caused by a
\nseries of policy missteps.<\/p>\n
The decision to bring in the IMF was aimed primarily at luring
\nforeign investors, shoring up market confidence, and overcoming
\nthe resistance of vested interests to structural economic reform.<\/p>\n
However, the IMF package is tied to orthodox financial
\nconditions, including budget cuts and much slower economic
\ngrowth, fiscal and monetary contraction and higher interest
\nrates.<\/p>\n
The package could very well do more harm than good,
\ntransforming a currency crisis into a rip-roaring economic
\ndownturn.<\/p>\n
Since banks borrow short-term in order to lend long-term, they
\ncan be thrown into crisis when a large number of depositors
\nsuddenly decide to stage a run on the bank.<\/p>\n
If Indonesia is unable to implement structural adjustments,
\nthe IMF rescue package will be incapable of restoring confidence.<\/p>\n
On a larger scale, the aim of positioning Indonesia as the
\n\"circuit breaker\" to halt the Asian currency turmoil will fail,
\nand the contagion will spread like wildfire -- and failure to
\nstem the tide in Indonesia will be recognized as the
\nsource of instability that threatens the world economy.<\/p>\n
The IMF injection is the wrong medicine for Indonesia. Tens of
\nmillions of innocent people will suffer from government cutbacks,
\nwhile those who have reaped enormous benefits from exploiting the
\nsystem will continue living in the lap of luxury.<\/p>\n
Unemployment will skyrocket, creating potential social unrest
\nwhich could destabilize the political system in Indonesia.<\/p>\n
If that happens, it's clear that our only course of action
\nwill be to continue living dangerously.<\/p>\n
The writer is deputy director of Econit and chief executive
\nofficer at ReForm consulting firm, Jakarta.<\/p>",
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