Rupiah's meltdown brings about economic hardship<\/p>\n
By Riyadi<\/p>\n
JAKARTA (JP): Economic recession and stagflation are looming
\nin the wake of the rupiah's meltdown.<\/p>\n
After experiencing a high growth of over 6 percent per annum
\nfor more than 25 years, Indonesia's economy is projected to slump
\nover the next two years.<\/p>\n
Economic growth will slow down drastically to below 5 percent
\nnext year due to dwindling domestic demand, while inflation rates
\nare likely to rise significantly.<\/p>\n
The year-on-year inflation rate is expected to break into the
\ndouble digits this year as a result of the unexpected
\novershooting of the rupiah and the long drought.<\/p>\n
Higher inflation this year has increased inflationary
\nexpectations for 1998.<\/p>\n
But the rupiah's depreciation will make Indonesia's current
\naccount deficit go downhill this year. The deficit is expected to
\ndecline further or even become a surplus next year.<\/p>\n
In the capital account, Indonesia will hardly see private
\ncapital inflows next year because foreign investors' confidence
\nin local corporations has evaporated.<\/p>\n
Most capital inflows will be official, either from
\nmultilateral or bilateral loans.<\/p>\n
It is the floating of the rupiah in mid-August and subsequent
\npolicy measures which have turned the economy around.<\/p>\n
Before floating the currency, Bank Indonesia, the central
\nbank, had tried to defend the moving band system from speculative
\nattack, following the devaluation of the Thai baht on July 2, by
\nwidening the band from 8 percent to 12 percent and selling
\ndollars in both spot and swap markets.<\/p>\n
The bank also raised its benchmark Bank Indonesia Certificate
\n(SBI) rates several times from 7 percent to an unbelievable 30
\npercent per annum, hoping that high interest rates would attract
\ncapital back to the country and prevent further depreciation.<\/p>\n
Discourage<\/p>\n
After the float, the government squeezed liquidity tightly,
\nabsorbing more than Rp 10 trillion (US$3.8 billion) of public
\nsector funds from commercial banks to discourage people from
\nbuying dollars with expensive rupiah.<\/p>\n
But still, the rupiah continued to weaken against the U.S.
\ndollar.<\/p>\n
In early September, the government tried to impress the market
\nby promising to revise its budget, liberalize foreign purchases
\nof shares, strengthen the banking industry and raise the luxury
\nsales tax on several goods.<\/p>\n
The government met its promise by first lifting the 49 percent
\nforeign ownership limit in new stock offerings at local stock
\nmarkets.<\/p>\n
The government then cut import tariffs on 153 groups of
\ncommodities.<\/p>\n
Later in September, the government announced a vague list of
\ninfrastructure projects, mainly those requiring heavy imports,
\nthat had been postponed or targeted for review and possible
\npostponement. But the government did not touch foreign exchange-
\nconsuming strategic industries and the national car project.<\/p>\n
By the end of September, the rupiah never recovered from
\nfalling below Rp 3,000 to the U.S. dollar.<\/p>\n
Realizing the scarcity of dollars in the local currency
\nmarket, the central bank encouraged exporters in early October to
\nunload their dollar holdings by offering swap and forward
\nfacilities to them.<\/p>\n
Still the rupiah continued to drop to new lows almost every
\nday as the supply and demand for dollars was far from being
\nbalanced, prompting the central bank to step into the currency
\nmarket.<\/p>\n
IMF help<\/p>\n
All of these developments motivated President Soeharto to seek
\nhelp from the International Monetary Fund (IMF). Soeharto then
\nappointed former senior cabinet minister Widjojo Nitisastro to
\ncoordinate efforts with related agencies to press for financial
\naid.<\/p>\n
After three weeks of negotiations, Indonesia reached an
\nagreement with the IMF on a financial and economic reform package
\nat the end of October.<\/p>\n
The IMF assembled $23 billion in loan commitments as the first
\nline of defense, consisting of $10 billion from the IMF, $4.5
\nbillion from the World Bank, $3.5 billion from the Asian
\nDevelopment Bank and $5 billion from Indonesia's own foreign
\nassets.<\/p>\n
Then there were bilateral loan pledges as a second line of
\ndefense, including $5 billion from Singapore, $5 billion from
\nJapan, $3 billion from the United States and $1 billion from
\nMalaysia. Australia, China and Hong Kong had also expressed an
\ninterest in helping.<\/p>\n
To comply with the IMF package, the government moved to
\nliberalize trade by eliminating the State Logistics Agency's
\nmonopoly on wheat, wheat flour, soy beans and garlic.<\/p>\n
The government also closed 16 private commercial banks, which
\nit claimed were insolvent.<\/p>\n
The rupiah then strengthens from Rp 3,600 to Rp 3,300 to the
\ndollar. But the rupiah's recovery was short-lived. The rupiah
\ndropped again and again, passing Rp 4,000 in early December on
\nunfounded rumors about President Soeharto's health. Barely a week
\nlater, the rupiah passed the Rp 5,000 barrier and touched an all-
\ntime low of Rp 6,000.<\/p>\n
Many parties, including the government, attributed the drastic
\nfall of the rupiah to a sudden loss of confidence in the currency
\non the part of investors, both domestic and foreign.<\/p>\n
Initially, it was a private-sector driven crisis. Investors
\nwere concerned about the level of short-term debts owed by the
\nprivate sector.<\/p>\n
According to the government, Indonesia's external debts
\ntotaled $117.3 billion as of last September, of which $65 billion
\nwas owed by the private sector. Many private debts turned out to
\nbe unhedged. It was these large unhedged debts which sparked a
\ndollar-buying frenzy.<\/p>\n
Suddenly, a variety of economic entities and wealthy
\nindividuals found themselves trying to buy dollars. Companies
\nwith unhedged loans denominated in dollars had good reason to
\nstart buying dollars in a belated attempt to hedge their exchange
\nrate risks.<\/p>\n
Consequently, when the rupiah meltdown began, there was a rush
\nfor dollars that compounded the fall of the rupiah. Companies
\nalso found themselves unable to borrow to cover short-term
\nservicing obligations.<\/p>\n
This rupiah meltdown has punished not only the private sector
\nbut also the public sector.<\/p>\n
The government's foreign debt servicing burden has also
\nincreased as, according to the minister of finance, every drop of
\nRp 100 to the U.S. dollar has increased the government's debt
\nservicing by Rp 500 billion ($98 million).<\/p>\n
Before the crisis, foreign debt servicing accounted for almost
\n20 percent of the total state budget. With the rupiah staying
\nabove Rp 5,000, the ratio of debt servicing to total budget will
\nincrease significantly.<\/p>\n
Nevertheless, the government has repeatedly affirmed that it
\nwill continue to fulfill its international commitments despite
\nthe increasing burden on the state budget.<\/p>\n
The weakening rupiah, tight liquidity and high interest rates
\nhave often been cited as factors responsible for shrinking
\ndomestic demand, corporate bankruptcy and the banking crisis.<\/p>\n
Businesspeople, bankers and economists have repeatedly called
\non the government to ease liquidity and lower interest rates to
\nrevive dying local businesses. But the government is still
\nreluctant to ease its grip.<\/p>\n
The government even plans to tighten its fiscal policy to
\nachieve a budget surplus of 1 percent in gross domestic product
\n(GDP) in the next fiscal year, as required by the IMF.<\/p>\n
The tight fiscal policy will lessen public investment and
\nreduce product demand and eventually help curtail economic
\ngrowth.<\/p>\n
Outlook<\/p>\n
The National Development Planning Board (Bappenas) has
\npredicted that the economy will expand by between 5 percent and 6
\npercent for 1996 and 1997.<\/p>\n
But many private analysts have said that 5 percent growth for
\nnext year would be too optimistic for an economy already deserted
\nby both domestic and foreign investors. Some have even said 4
\npercent growth would be hard to achieve.<\/p>\n
The Econit supervisory agency has said Indonesia could achieve
\n5 percent growth next year provided the implementation of IMF's
\nprograms and other structural adjustments went ahead smoothly and
\nthat there was no serious social and political turbulence.<\/p>\n
An expected drop in private sector consumption would be the
\nmost responsible factor in next year's economic slowdown. Private
\nconsumption is expected to expand by 5.8 percent this year and 3
\npercent next year, down from 12.2 percent in 1996.<\/p>\n
The Institute for Development of Economics and Finance noted
\nthat sectors most affected by the economic crisis would be
\nconstruction, finance, transportation and telecommunications.<\/p>\n
Meanwhile, significant growth would come from mining,
\nagriculture, fishery, forestry, electricity, gas and clean water
\nsectors.<\/p>\n
Even the IMF has slashed its growth revision for Indonesia,
\nand other countries in the region.<\/p>\n
Last October, the fund forecast that Indonesia's economy would
\ngrow by 6.2 percent next year. But last week, it revised its
\ngrowth forecast for Indonesia to only 2 percent next year.<\/p>\n
Despite the projected slow growth, inflation rates are
\nexpected to rise due to imported inflation factors. Imported
\ninflation accounts for about 50 percent of domestic price
\nincreases, according to economist Sri Mulyani Indrawati.<\/p>\n
Even though the crisis started in July, inflation for this
\nyear is expected to pass 10 percent. Year-on-year inflation to
\nNovember had already reached 9.96 percent. Most of the increase
\noccurred in the last three months, with each month booking a
\nmonth-on-month inflation rate of over 1 percent.<\/p>\n
The weakening rupiah, however, will make Indonesian products
\ncheap and imported products expensive. Thus, this will likely
\nhelp boost non-oil exports, curb imports and eventually cut the
\naccount deficit.<\/p>\n
Official data shows that Indonesia's total exports grew by 9
\npercent during the first three quarters of this year to $39.5
\nbillion -- including $30.8 billion in non-oil exports -- over the
\nsame period last year, while imports were down 0.5 percent to
\n$31.8 billion.<\/p>\n
The government has said there should be about $42 billion in
\nexports this year and about $45 billion to $46 billion next year.<\/p>\n
Because of the increasing trade surplus, the account deficit
\nis expected to decline significantly this year and next year.<\/p>\n
Taking export-import data from the third quarter of this year
\ninto account, William Wallace, an economic consultant to
\nBappenas, calculated the account deficit for the quarter at $500
\nmillion -- far below the average quarterly account deficit of
\n$1.8 billion in 1996 and the first half of 1997.<\/p>\n
The government, as prescribed by the IMF, is planning to
\nreduce the current account deficit to 2 percent of GDP and will
\nmaintain official gross reserves at about five months of imports.<\/p>\n
But in the capital account, Indonesia will hardly see private
\ncapital inflows next year because foreign investors' confidence
\nhas not yet returned.<\/p>\n
Nevertheless, the Investment Coordinating Board recorded
\nforeign investment commitments totaling $29.6 billion from
\nJanuary until November of this year.<\/p>\n
In the entire year last year, foreign investors committed
\n$29.9 billion.<\/p>\n
But many analysts have questioned the implementation of
\nforeign investment commitments and if most of them are really
\ntranslated into real projects.<\/p>\n
Mari E. Pangestu of the Centre for Strategic and International
\nStudies has predicted that foreign investors will not come back
\nhere until after the presidential election in March.<\/p>\n
The government has projected that the private capital account
\nwill be negative this fiscal year, with a deficit of $200 million
\n-- a sharp contrast to an earlier estimate of $10.5 billion in
\nsurplus.<\/p>\n
Most optimistic analysts have predicted that foreign investors
\nwill come back to Indonesia soon after the presidential election.
\nThey argue that now most listed stocks are already undervalued
\nand worth buying and the weakening rupiah will cut down the cost
\nof doing business here.<\/p>\n
Soon after the return of foreign investors, domestic investors
\nwill follow suit, and the economy will eventually recover to the
\nlevel before the crisis.<\/p>\n
In an optimistic scenario, Mari and Rizal Ramli of Econit have
\nsaid the economy might recover by the end of next year or the
\nbeginning of 1999, if supported by the return of foreign
\ninvestors and good governmental measures.<\/p>",
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