Bank Indonesia treads tight rope as rupiah trips

Bank Indonesia treads tight rope as rupiah trips

SINGAPORE (Agencies): Despite its latest foreign exchange curbs, Bank Indonesia cannot effectively immunize its ailing currency from further weakness as it tries to please two masters -- the government and the International Monetary Fund.

The besieged central bank threatened greater enforcement of existing rules and it tightened rupiah liquidity to the offshore market on Monday, but its reliance on IMF aid means it cannot opt for full-scale capital controls.

Nor can it ignore the rupiah's marked depreciation, as the government struggles to piece together the shattered economy.

In Jakarta the rupiah closed lower on Tuesday as participants bought the dollar on lingering concerns over domestic politics, dealers said.

The dollar closed at 9,480 rupiah, up from Rp 9,440 late Monday.

"Any dollar fall provides a good buying opportunity as the rupiah remains hostage to domestic politics," said a dealer with a foreign bank.

Healthy dollar demand from local companies is also weighing on the local currency, dealers added.

"The central bank is in an awkward position where it has to get the support from both the IMF and from the government," said Rebecca Patterson, currency strategist at JP Morgan in Singapore.

Moreover, it also has to contend with a government that is steadily chipping away its independence, with parliament debating controversial amendments to central bank law and the president and central bank governor caught in a protracted public feud.

Analysts expect the bank's new measures to work only in the short term.

Reflecting this view, the rupiah rebounded to the firm side of 9,400 per dollar after the measures were announced on Monday, but was unable to extend gains beyond 9,350 and had drifted back down by Tuesday.

The authorities banned rupiah transfers, including credit lines or overdrafts, from onshore banks to non-residents, and lowered the limit for forward transactions with non-residents to $3 million from $5 million. A chief dealer at a foreign bank in Jakarta estimated there are currently $50 million worth of such forward deals outstanding.

Standard Chartered Bank said in a research note Thailand also tried to sap offshore liquidity of its currency to help shield it from speculation and further losses, but failed. "We have seen in Thailand that such offshore squeezes seldom last long," it said.

Also, as Indonesia's central bank again resists calls to force exporters to repatriate earnings, analysts said enforcing such a rule may simply be too daunting. And this could be the real reason for the bank's refusal to pursue the most effective way of helping the rupiah, short of capital controls.

"They are beginning to realize they do not want excessive currency weakness because that would induce corporate distress due to their high external debt liability ... (and) would also hamper their ability to contain inflation," said Philip Wee, currency strategist at DBS Bank.

Thailand's crackdown immediately spurred a liquidity squeeze in the offshore market and stabilized the baht, pulling it back from 32-month lows of 44.435, hit on November 21.

But it has not been able to sustain all of its gains and is now only some 2.7 percent above those lows.

Thailand's case proves tightening offshore liquidity only gives a short-lived boost as it fails to address the root of the problem -- local corporate dollar demand amid weakening economic fundamentals.

In Indonesia, difficult political factors make the situation worse. The rupiah's fall has been largely driven by the deterioration of investor confidence due to the constant mayhem in Indonesian politics.

That is the reason why there is very little Bank Indonesia can do to help the rupiah.

"The root cause is not what BI does," said Simon Flint, currency strategist at Bank of America in Singapore. "BI is irrelevant. It's the political and economic situation that they have to operate in."

Unlike Indonesia, Thailand does require exporters to repatriate earnings within 120 days and convert them to baht in seven days after that.

BI's governor Sjahril Sabirin has said repeatedly this would not work in Indonesia as exporters would be able to convert their funds back into dollars onshore. But at these high rates, it would hardly seem like a wise idea, analysts said.

Vincent Low, regional economist at Merrill Lynch in Singapore, said the problem was really a logistical one.

"With thousands of islands, people will find loopholes and ways out of these controls, anyway. Which is why capital controls were never considered very seriously in Indonesia," he said.