Cavallo says rupiah debate is damaging

Cavallo says rupiah debate is damaging

BUENOS AIRES (Reuters): The public disagreement over
Indonesia's plans to set up a currency board is doing little to
stabilize the rupiah currency, the architect of Argentina's
currency peg, Domingo Cavallo, said Monday.

"It seems to me extremely dangerous to have a public debate in
the media over the introduction of a currency board as a possible
solution to stabilize the rupiah and return stability to
Indonesia's economy," the former economy minister told Reuters in
an interview.

Cavallo, who masterminded the successful introduction of such
a system in Argentina in 1991, said the debate between
Indonesia's authorities on the one hand, and the International
Monetary Fund on the other, "far from contributing to stabilizing
the rupiah, could accentuate its volatility."

Indonesia's government looked set Monday to press ahead with a
proposal for a fixed exchange system despite the IMF's tough
stance against the plans.

The IMF warned Monday that Indonesia's plan could risk its
US$43 billion rescue package to the country and the European
Union threw its weight behind the IMF's stance.

"In my opinion, to avoid chaotic hyperinflation in Indonesia
they have to find an effective form of stabilizing the rupiah at
a reasonable level," he said.

Cavallo said the economic debate surrounding a currency board
in Indonesia is founded on the wrong basis. The discussion about
"whether currency boards reduce currency and economic volatility
or not, is wrong, because they are talking about currency boards
without admitting the complete logic of those systems," he said.

The key to the smooth functioning of a currency board,
wherever it may be, is about the monetary authorities'
willingness to adopt the "anchor" currency as the main store of
value if need be, said Cavallo. Argentina's peso is pegged to the
dollar at one-to-one.

"You have to think of it (a currency board) more in terms of a
dollarization of Indonesia's economy than the application of a
fixed exchange rate for Indonesia's currency," he said.

"Real convertibility is not being discussed, which for its
existence must be accompanied by the political acceptance of the
idea that in the last instance, a complete dollarization of the
economy could take place," he said.

In currency board systems, the amount of domestic currency in
circulation usually has to be backed up by an equal amount of
foreign currency reserves.

But if reserves are being depleted and monetary authorities
show the willingness to switch to the anchor currency as the main
store of value in the economy, local currency interest rates will
ultimately fall and confidence will return.

Some economists criticize a currency board because it leads to
a loss of monetary policy to change interest rates to smooth the
economic cycle. But Cavallo said this was no loss.

"I suspect that for emerging economies, the instrument of
monetary policy is an extremely dangerous instrument," he said.

Cavallo said Argentina's decision to adopt a currency board
involved no fully fledged debate with multilateral lending
organizations.

He sent the legislation to Congress in 1991 and within two
weeks it was approved by lawmakers. "It was an internal political
discussion. The IMF gave its support after three months, it did
not support it initially but neither did it publicly go out and
criticize it," he said.