JP\/6\/KAHLIL<\/p>\n
Do we need the IMF?<\/p>\n
Kahlil Rowter
\nLecturer
\nSchool of Economics
\nUniversitas Indonesia
\nJakarta<\/p>\n
The government is mulling whether or not to extend its
\narrangement with the International Monetary Fund. What is at
\nstake here is not a quantifiable threat to the state budget or
\nthe balance of payments but policy making credibility.<\/p>\n
The first question to ask is: Are we ready? We should remember
\nwhy Indonesia engaged the assistance of the IMF in the first
\nplace. Its primary role is to rescue nations undergoing a balance
\nof payments crisis, which is exactly what Indonesia faced in late
\n1997.<\/p>\n
In the fourth quarter of 1997 and the first quarter of 1998
\nover US$11.6 billion in private capital escaped. Reserves dropped
\nfrom seven months worth of non-oil and gas imports to 4.6 months.
\nAnd there were indications that the bleeding would continue.<\/p>\n
Therefore, as a member of the IMF we sought its aid. The
\ncrisis which started with a sudden loss in confidence soon spread
\ninto banking and debt crises (technically from a liquidity to a
\nsolvency problem). The prescription naturally involved tackling
\nimmediate as well as more structural issues. Hence, the series of
\nletters of intent (LOI) which addressed a whole range of issues
\noutside the immediate liquidity crisis.<\/p>\n
Now, the banking system has stabilized, there is ample foreign
\nexchange reserves, the rupiah has stabilized and interest rates
\nare falling, and there is modest economic growth. There are
\ncertainly risks, but with low probability of an immediate
\neconomic threat of the magnitudes seen in 1997 to 1998.<\/p>\n
What about the financial implications of not extending our
\narrangement with the IMF? Currently we owe the IMF about $13.37
\nbillion. The IMF has committed close to $5 billion in the latest
\narrangement due to end in December 2003. Until December 2002
\nIndonesia had drawn down about $3.1 billion, which leaves about
\n$1.9 billion which the government plans to draw down this year.<\/p>\n
It is worth noting that the entire IMF loan is aimed at
\nproviding a cushion in the balance of payments in the event of
\nanother crisis. Therefore it cannot be used in the same way as a
\nWorld Bank loan or a loan from the Asia Development Bank to
\nfinance government expenditure.<\/p>\n
The payment schedule is designed to minimize pressure on the
\ngovernment budget as well as the balance of payments. The highest
\namount has in fact been paid out in 2002. The amount in the rest
\nof the period until 2010 never exceeds $1.8 billion.<\/p>\n
A rough calculation of the cost of the IMF program goes as
\nfollows: The total to be paid until 2010 amounts to $14.27
\nbillion, including the amounts paid in 2001 and 2002; the total
\ncost of the package over its life, therefore, is close to $1
\nbillion (the difference between the outstanding loan and the
\ntotal to be paid out). Naturally this is very cheap compared to
\ncommercial loans.<\/p>\n
What about the burden on the government budget? It is the
\ngovernment, after all, that borrows from the IMF. From the recent
\ngovernment budgets we see that about $8 billion has been set
\naside for paying external debt interest and principal. Therefore
\nthe IMF payment burden averaging $1.2 billion for the next eight
\nyears would not unduly burden the government's capacity to pay.<\/p>\n
If the balance of payments and the government budget will not
\ndirectly be jeopardized, are there any other costs that the
\nIndonesian economy must incur with the termination of the IMF?
\nYes. And it has to do with the country's reputation.<\/p>\n
Like it or not the LOIs have been perhaps the only economic
\nprogram, albeit a short term one, that Indonesia has tried its
\nhardest to follow. This is because the LOIs have an effective
\nsystem of reward and punishment. Follow the prescription and you
\nwill be rewarded with additional disbursement, and your
\nreputation is enhanced. Do otherwise and not only is money
\nwithheld but your reputation suffers.<\/p>\n
And this makes it all the more difficult to formulate and
\nimplement your agenda. Even so, Indonesia has reneged many times
\nand has suffered the consequences. In the short term mainly in
\nthe form of weaker rupiah which translates to higher inflation
\nand interest rates. In the longer run, the cumulative effect of
\nmore than a single non-compliance increases the punishment
\nexponentially. In practical terms the existence of the IMF
\nprogram ensures that there is a "guarantor" that keeps constant
\nvigil.<\/p>\n
What would be the impact when this "guarantor" is no longer in
\nplace? One immediate result is that Indonesia will not get
\nanother Paris Club rescheduling due to its conditionality on
\nhaving an IMF arrangement in place.<\/p>\n
But beyond that is the loss of the one economic program that
\nis the most verifiable and one that most (if not all) government,
\nprivate and political components know is almost non-negotiable.
\nWhat substitute, if any, can Indonesia put in its place that
\nwould ensure the compliance of government officials and elicit
\nforeign trust?<\/p>\n
In order to signal its seriousness the government should
\ninstitute an economic plan that is not only sober and at the same
\ntime comprehensive, but to be convincing it must be quantifiable
\nand verifiable -- and most importantly it must contain punishment
\nmechanisms that are painful to create enough negative incentive
\nfor not reneging.<\/p>\n
One such instrument is to maintain the inflation-indexed bonds
\nthat the government has issued to the Bank of Indonesia. This
\nsignals its firmness toward keeping inflation in check, or else
\nit faces the consequence of higher financing cost.<\/p>\n
Another would be to issue foreign currency denominated bonds
\nthat increase the government debt servicing cost should the
\nrupiah depreciate.<\/p>\n
Having strict policy deadlines would alleviate indecisiveness.
\nThere are a host of other instruments that can be employed to
\nincrease the pain of policy failure. But back to the question:
\nCan Indonesia come up with one in time? If not we might be better
\noff keeping the IMF a bit longer although the political cost
\nmight be high.<\/p>",
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