Accountability in the CBS issue

By Frans Seda

JAKARTA (JP): Currency board systems may share the same acronym with confidence building systems, but the two are nevertheless distinct entities. They do however fall upon each other in the current economic crisis.

Contemplating introducing a currency board system to cure current woes and the problems which this entails has once again revealed that the fundamental problem in the Indonesian economy is a lack of confidence.

In the four months from Oct. 1997 to Feb. 1998 the economy has twice stumbled due to a lack of confidence.

In October we requested IMF aid, drew up and agreed to a set program of reforms and received a down-payment of US$ 3 billion from the aid package agreed between the Indonesian authorities and the IMF. We then spent this money attempting to defend a weakening rupiah.

Following this, a series of events demonstrated that Indonesia lacked commitment to reforms and conditions agreed with the IMF. Indonesia then made efforts to obtain bilateral funds, but all countries solicited would only contribute assistance under the aegis of the IMF.

Our intention to plough our own furrow was also evident in the 1998/99 draft state budget, which was prepared without consulting the IMF. As a result the rupiah continued to weaken and the potential of the first IMF intervention to right the economy was wasted.

Then the government turned to the IMF again when, on Jan. 15, the President signed a letter of intent, in which the government undertook to revise the state budget and implement 50 points of economic reform. The budget, which had already been put before the House of Representatives on Jan. 6, would be revised to bring it into line with forecasts used in the IMF bail-out package.

However, public confidence had not been fully restored. This was evident from the sharp drop in the rupiah exchange rate against the U.S. dollar, even after the letter of intent had been signed.

The political and economic necessity of stabilizing exchange rates brought the idea of a currency board system (CBS) to the forefront of discussion on solutions to the crisis. The IMF reaction to this proposal suggested that, for the second time, Indonesia was going back on a bargain it had struck in return for assistance. The IMF had not been consulted over the possible introduction of a CBS.

Irrespective of the efficacy of a CBS, trustworthiness, and the confidence this generates, has twice blighted our working relationship with the IMF over the last four months. The second breach of trust is worse than the first.

I have often been asked what alternatives there are to a CBS. If it is only a restoration of confidence that will rekindle our economy, then there is no alternative.

The rupiah gained in strength when the government announced its intentions regarding the CBS. This was interpreted as a sign of tacit market approval of the proposal.

However, I am surprised that Soeharto's officials and ministers have failed to see that they have twice made the same mistake in their working relationship with the IMF. This time, premature discussion of a CBS has undermined confidence building efforts and the rupiah is once again weakening.

Discussions of a CBS have not been held in a way which is likely to instill confidence. Therefore, I believe that introduction of the system may temporarily strengthen the rupiah but will not arrest its downward slide in the long-run, particularly if announced now for introduction at a later date, as proposed by businessman Peter Gontha in a recent newspaper article.

Precedents of the government reneging on commitments during the last four months will leave markets unsure about whether or not the government will stick to its guns and introduce a CBS. Besides, people still do not know the precise details of any CBS which may or may not be introduced in Indonesia.

A CBS requires our rupiah to be set at a fixed rate of exchange to an anchor currency. To be operational, the system must meet four requirements.

Money in circulation must be backed up by its equal value at the fixed exchange rate in foreign currency equivalent. The size of reserves required for this are estimated to be approximately US$ 65 billion. The government is currently estimated to hold foreign exchange reserves at $ 20 billion, leaving a shortfall of $45 billion.

Strict compliance with the law must be guaranteed to successfully implement a CBS. No power can be above the law.

The system must be transparent. All arrangements, regulation and conduct must be explicable and open to scrutiny.

Finally, there can be no political intervention from any party. Once appointed, the board of directors will have full autonomy and will only be accountable to the public interest, the law and their own conscience.

Given experience to date, it is unlikely that these requirements can become reality. To do so requires a change in the culture of governance in this country. This is not impossible, but will take time.

However, if we can meet the requirements necessary for a successful CBS, then our country and economy will be substantially strengthened and the need to introduce a CBS negated.

A CBS will reduce the role of monetary policy to maintaining stability and convertibility at the fixed exchange rate. All monetary policy, such as regulating the money in circulation, loans and interest rates will be subjugated to the CBS.

Domestic circulation of money will depend on foreign exchange stocks. Development policies, economic growth, equity and creating employment opportunities have to play second fiddle to defending the rate of exchange.

A CBS system is more restrictive than the changes proposed by the IMF. Under changes proposed by the IMF, the government retains the ability to use monetary policy to support development, growth, equity and create employment opportunities. In a CBS, the emphasis is entirely focused on stabilizing the exchange rate.

So, in my opinion, it would be better for the time being to concentrate on consistently implementing the letter of intent that we presented to the IMF. Banking reforms could be speeded up.

If this article gives the impression that I coute que coute defend the IMF, let me explain that the crux of the matter is accountability. The IMF is an institute with which we have cooperated for over 30 years, from the earliest days of the New Order. Every year they supply aid through the medium of the Consultative Group for Indonesia (formerly Inter-Governmental Group on Indonesia). In the 1998/99 draft state budget, the Consultative Group on Indonesia contributed $6.5 billion.

In my own experience of dealing with the IMF and World Bank, I have found that so long as Indonesia approaches them with clear programs and reasonable demands, they are flexible in their disbursement of assistance, and are willing, even pleased, to follow initiatives proposed by the recipient country.

Since confidence is critical to restoring growth to our economy, political reform is closely linked to the success of economic reform.

The General Session of the People's Consultative Assembly in March is an opportunity for us to launch political reform. No matter how wide-sweeping our economic reforms are, confidence will not return so long as the political system remain opaque. Greatest benefit will result if the two sets of reforms take place simultaneously.

Once confidence has been restored, we can begin to rise out of the recession and consign the crisis to history. The economy will begin to grow and only then will the question of a CBS for Indonesia become relevant.

The writer, a former cabinet minister, now a businessman and a noted political and economic observer based in Jakarta. The above article first appeared in Kompas daily.

Window A: However, I am surprised that Soeharto's officials and ministers have failed to see that they have twice made the same mistake in their working relationship with the IMF.

Window B: So, in my opinion, it would be better for the time being to concentrate on consistently implementing the letter of intent that we presented to the IMF.