Economy muddles through adverse conditions<\/p>\n
Vincent Lingga, The Jakarta Post, Jakarta<\/p>\n
Indonesia's economy entered 2001 amid heightened political
\nuncertainty, the increasingly erratic leadership of then
\npresident Abdurrahman Wahid, a decline in the government's
\ncredibility and a weakened global economy.<\/p>\n
The government's relationship with the International Monetary
\nFund (IMF) became prickly after the IMF decided in December 2000
\nto postpone the third US$400 million disbursement of its extended
\nloan facility due to frequent slippages in promised reform
\nmeasures and several policy reversals.<\/p>\n
The World Bank delivered another blow to the market's already
\nlow levels of confidence in the country's economic prospects by
\ndeciding in January to slash its annual loan commitment from $1.2
\nbillion to a mere $400 million, citing the government's huge
\nexisting debt burden as the main reason for the new lending
\npolicy.<\/p>\n
However, the real reason was the government's failure to keep
\nup with its reform commitments, particularly those related to the
\nestablishment of high fiduciary standards in budget management
\nand procurement systems, and its anti-corruption drive.<\/p>\n
The cash-starved government received further punishment in
\nApril when the World Bank canceled the disbursement of $300
\nmillion in social safety net loans due to what it considered the
\nslow pace of meaningful changes in government institutions and
\nthe bureaucratic culture. But what really motivated the
\ncancellation was the Bank's heartfelt concern that the funds
\nwould be wasted through corruption.<\/p>\n
The nasty combination of a weakening currency, growing budget
\ndeficit, increasing inflationary pressures and consequently
\nrising interest rates, along with a slump in exports, stifled the
\nrecovery process, which began promisingly in 2000, generating a
\nrespectable 4.8 percent growth rate.<\/p>\n
Predictably, barely three months into the 2001 fiscal year,
\nofficial assumptions on key economic indicators, including 5
\npercent gross domestic product growth, inflation of 7.2 percent,
\nan average rupiah rate of 7,800 to the dollar and the central
\nbank's benchmark interest rate of 11.5 percent, were soon
\nrendered irrelevant.<\/p>\n
The government and the House of Representatives eventually
\nagreed in June to revise the key economic assumptions to 3.5
\npercent GDP growth, an average exchange rate of 9,600 rupiah to
\nthe dollar, an average interest rate of 15 percent and a 9.3
\npercent inflation rate.<\/p>\n
The GDP growth rate plunged from 5.2 percent in the last
\nquarter of 2000 to a mere 1.81 percent in the first quarter of
\n2001, and slowed to 4 percent on a year-on-year basis. As market
\nconfidence in the economy worsened, the rupiah crashed to 31-
\nmonth lows of more than Rp 11,500 to the dollar in April.<\/p>\n
As the confrontation between then president Abdurrahman and
\nthe House grew more intense between April and June, with
\nAbdurrahman resorting to threats, intimidation and political
\nblackmail in a desperate bid to cling to power, the economy
\nentered what the World Bank described in January as a \"muddle
\nthrough\" scenario.<\/p>\n
The Central Bureau of Statistics came up with an even gloomier
\npicture for the second quarter, putting GDP growth at 0.09
\npercent on a quarterly basis and at 3.52 percent on a yearly
\nbasis.<\/p>\n
Muddle through was precisely what the economy did during the
\nyear. A modicum of macroeconomic stability was maintained, but
\neconomic hemorrhaging continued to weaken the recovery as most
\nreform measures fell behind schedule.<\/p>\n
The economic outlook did not improve significantly even after
\nthe nation resolved its political crisis peacefully in late July
\nby electing Megawati Soekarnoputri as the new president and
\nHamzah Has as her deputy.<\/p>\n
The third quarter did record a higher growth rate of 2.38
\npercent on a quarterly basis and 3.47 percent on a yearly basis,
\nthereby bringing the cumulative expansion during the first three
\nquarters to 3.3 percent. This led to a great deal of optimism
\nthat annual growth would likely reach the revised projection of
\n3.5 percent.<\/p>\n
But that growth was still far from the minimum 7 percent
\nexpansion needed to absorb the 2.5 to 3 million new job seekers
\nwho enter the market annually, not to mention the tens of
\nmillions already made jobless by the economic crisis.<\/p>\n
Moreover, with annual growth of between just 3.3 and 4
\npercent, the country may need six or seven years to return to the
\nlevel it was at prior to 1997, given the 14 percent contraction
\nin 1998, almost zero growth in 1999 and an expansion of 4.8
\npercent in 2000.<\/p>\n
The hopes for a more rapid pace of reform that accompanied the
\nelection of the new president were soon dashed, even before the
\nMegawati government passed the traditional honeymoon period of
\nits first 100 days in office.<\/p>\n
Despite her unanimous election by the People's Consultative
\nAssembly, and even though her political party was the single
\nlargest faction in the House, her government failed to secure
\nfull legislative support for accelerating the reform program.<\/p>\n
The new government did act quickly to mend ties with the IMF
\nwith the signing of a new reform agreement in August, followed in
\nSeptember by the third $400 million loan disbursement, which had
\nbeen held up since January.<\/p>\n
But the IMF's endorsement of the government's reform program
\nfailed to restore market confidence, as the core elements of the
\neconomic crisis management process remained bogged down in
\npolitics.<\/p>\n
The House simply failed to comprehend the economic logic of a
\nfaster pace of asset recovery and privatization of state
\ncompanies. It instead harbored a misguided nationalistic
\nsentiment against foreign investors acquiring assets in the
\ncountry, fearing that foreigners would come to dominate the
\nnational economy.<\/p>\n
The economic outlook became even gloomier after the Sept.11
\nterrorist attacks on the United States. The tragedy drove the
\nAmerican economy deeper into recession and consequently further
\nweakened global economic conditions.<\/p>\n
The country's economy was abruptly deprived of its main
\ndriver, the export market, which together with private
\nconsumption had become the engine of Indonesian growth last year.<\/p>\n
Worse still, inordinately emotional anti-American street
\ndemonstrations in several cities in September and October
\nprojected such a horrifying image that Indonesia, for some time,
\nappeared to the outside world to be a country controlled by
\nradical Muslims. Even though the voice of reason eventually
\nprevailed, the damage to Indonesia's image had already been done.<\/p>\n
Obviously, not only Americans but also quite a number of other
\nexpatriates were scared away. Many importers in the U.S.,
\nIndonesia's single largest market, abruptly canceled orders,
\nfearing delivery problems.<\/p>\n
Sadly, too, many foreign buyers, who had played a vital role
\nin helping Indonesian exporters gain a foothold in overseas
\nmarkets, decided to cancel their regular visit programs.
\nConsequently, Indonesian exports, which had began to decline in
\nthe first quarter due to the weakening of the U.S. and Japanese
\neconomies, suddenly plunged, falling by almost 17 percent in
\nSeptember alone.<\/p>\n
Minister of Industry and Trade Rini Soewandi estimated early
\nlast month that the country would be lucky to record $42 billion
\nin non-oil exports this year, compared to $47 billion last year.<\/p>\n
The worsening levels of market confidence drove the rupiah
\ndown further, to almost 11,000 to the dollar in October and
\nNovember. This exacerbated inflationary pressures, making it even
\nmore difficult for the central bank to lower interest rates and
\nrendering the overall economic environment increasingly inimical
\nto sound banking operations.<\/p>\n
Significantly cutting interest rates amid the severe
\ndepreciation of the rupiah, which was called for by many
\nbusinesspeople and some analysts, would not only have jacked up
\ninflation but would also have prompted a shift to dollar
\npositions.<\/p>\n
Even more worrisome were the government's severe cash-flow
\nproblems caused by lower than predicted revenue receipts and
\nhigher than budgeted spending programs.<\/p>\n
Actual revenues are likely to be well below the official
\ntarget because asset sales, debt restructuring and privatization
\nof state companies have been much slower than expected due to
\nexcessive interference from the House and adverse market
\nconditions.<\/p>\n
Worse still, foreign creditors have held up almost $1.7
\nbillion of their $2.6 billion program loans pledged to the 2001
\nbudget due to the government's failure to significantly cut
\ninterest rates, combined with its low success rate in meeting
\nreform commitments.<\/p>\n
Moreover, actual spending may overshoot the budgeted total
\nbecause the rupiah rate has been much lower, and interest rates
\nmuch higher, than the levels assumed by budget forecasts.<\/p>\n
Hence, the economy has been deprived of sorely-needed
\ninvestment as the private sector, burdened with bad debts, cannot
\nprovide the necessary stimulus, while foreign investors remain
\njittery about the country's economic, political and security
\nconditions as well as its legal system.<\/p>\n
The banking industry, which had been restructured and
\nrecapitalized at a total cost of about $65 billion, is still too
\nweak to significantly expand corporate lending.<\/p>\n
There is indeed a lot about the short and medium-term health
\nof the economy that should be cause for concern, especially with
\nthe deadweight cost of the public sector's debt overhang, which
\nhas reached as much as 120 percent of GDP.<\/p>\n
It will therefore be almost impossible for the economy to grow
\neven by a mere 3 percent next year in the absence of a new
\nrescheduling package for foreign debts maturing within the next
\nthree years and without speedier asset recovery, corporate debt
\nrestructuring and privatization of state companies.<\/p>\n
Asset sales and privatization are now the most promising
\nsource of the new private capital flows that are needed to
\nrestore investor confidence in the economy, in view of the
\novercapacity present in almost all manufacturing industries. And
\nforeign investment, at least over the next two to three years,
\nwill be the lifeblood of economic recovery.<\/p>\n
But many reform measures have simply failed to materialize,
\neven under strong pressure from the IMF, World Bank and other
\nforeign creditors, which tie their loans to policy reform.<\/p>\n
The greatest lesson the government should draw from this
\nutterly inept performance is that a faster pace of reform is the
\nkey to a sustainable economic recovery.<\/p>\n
However, reform can be sustained only by a strong consensus
\nbetween the government and the House and not by the force of
\nforeign aid or loans because reform requires changes in
\ncoalitions, in ideas and in interests.<\/p>",
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