Pegging the rupiah<\/p>\n
The economic crisis facing the nation as a result of
\nvolatility and weakness in the rupiah exchange rate demonstrates
\nhow fundamental a stable currency is to a healthy and growing
\neconomy. Well known British economist John Maynard Keynes rightly
\nobserved in one of his essays as long ago as 1931 that, \"there is
\nno subtler, no surer means of overturning the existing basis of a
\nsociety than to debauch its currency.\"<\/p>\n
Unstable and upward spiraling prices which we are now facing
\ncreate uncertainty, hamper business planning, inhibit long term
\ninvestment, erode the purchasing power of salaried workers and
\ndiscourage savings.<\/p>\n
The persistent volatility of the rupiah at a very low rate of
\nexchange against the U.S. dollar, despite the various reform
\nmeasures already undertaken, is bound to lead the economy into a
\nyet bigger crisis, with potentially devastating social
\nconsequences. In fact, alarms are already sounding. In recent
\nweeks, sporadic riots have ripped through several towns in Java,
\nSulawesi and the eastern islands of Indonesia.<\/p>\n
It is therefore understandable that the government has been
\nlooking for ways to rein in the currency and quickly bestow
\nstability on the beleaguered economy. One such idea touted
\ntowards this end is a fixed rupiah exchange rate for basic
\nnecessities aimed at ensuring short term economic and social
\nstability.<\/p>\n
President Soeharto hinted on Monday, during a meeting with
\nMoslem scholars, that he would shortly announce new policy
\ninitiatives designed to stabilize the rupiah exchange rate. He
\ndid not give details beyond saying that a fixed exchange rate was
\nurgently needed for priority imports for the manufacturing
\nindustry and basic necessities.<\/p>\n
As we understand it, the scheme aired by the President is a
\ncontingency program, aimed at fixing the rupiah exchange rate
\nagainst the dollar for designated imports. The government
\nachieves this by paying the difference between the fixed and
\nprevailing market exchange rates. This will help import dependent
\nindustries continue production in a more orderly condition and
\nwill ensure adequate supplies of basic staples and medicines.<\/p>\n
However, this scheme is not designed to create a sustainable
\nexchange rate in the long run. It is a crash program to remedy
\nthe acute shortage of basic necessities and to enable
\nmanufacturing companies to continue operations, thereby
\npreventing massive redundancy.<\/p>\n
If implemented, this system will lead to a two tier exchange
\nrate, with an artificially low, fixed rate for essential imports,
\nmost probably much lower than the current range of Rp 9,000-
\n10,000, and a floating market rate for all other transactions.
\nThis will place a huge, additional burden on the state budget,
\nboth to meet the exchange rate differences and to subsidize
\nimport prices at levels low enough to be affordable by the common
\npeople. But the immediate benefit is relative price stability and
\nadequate supplies of basic necessities. A bigger challenge is
\nperhaps on how to ensure that imports funded with subsidized
\nforeign exchange are made really for most essential commodities.<\/p>\n
In a related development, Bank Indonesia Governor Soedrajad
\nDjiwandono told a hearing of the House of Representatives on
\nMonday, and reaffirmed Tuesday, that the government was in the
\ninitial phase of evaluating a currency board system (CBS).<\/p>\n
A CBS is a monetary regime based on an explicit legislative
\ncommitment to exchange domestic currency for a specified (anchor)
\nforeign currency at a fixed exchange rate. For example, a CBS
\ncould immediately undertake to fix the rupiah at an arbitrary
\nrate of Rp 5,000 to the dollar. This would rescue many companies
\nwho are technically bankrupt, reduce the costs of imports and
\nminimizing inflationary pressures.<\/p>\n
However, rigorous evaluation of the currency board system
\n(CBS) will take considerable time and current circumstances make
\nsustaining a fixed exchange rate in any case, an unviable
\nproposition.<\/p>\n
Such a system would be an easy target for currency speculators
\nand huge foreign exchange reserves are needed to defend the
\nchosen rate of exchange. Furthermore, many of the other factors
\nrequired to successfully run a currency board system, such as a
\nsound banking system, low inflation and good governance, are not
\nyet present. Political independence for the CBS must also be
\nguaranteed.<\/p>\n
Without these conditions, the system will lack the credibility
\nupon which its ultimate success depends. Given our present
\ncondition, a CBS arrangement will only be viable, at the
\nearliest, by the year 2000 when most of the reforms included in
\nthe three-year package agreed with the International Monetary
\nFund have been carried out.<\/p>",
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"sponsor": "Okusi Associates",
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