'Growth in capital mart should not hurt financial sector'

JAKARTA (JP): Efforts to spur the growth of local capital markets should not necessarily sacrifice the country's financial sector, Bank Indonesia Governor J. Soedradjad Djiwandono said here yesterday.

"It is true that low interest rates serve as an important factor for the development of our capital markets," Soedradjad said after addressing a two-day seminar on Asia Pacific Exchanges in the Borderless World.

However, if the central bank cut its discount rates, it could create massive capital flight, which would in turn hamper Indonesia's financial standing. "So there must be a trade-off," he said.

Soedradjad made the remark following suggestions from former cabinet minister Emil Salim and the Association of Indonesian Securities Companies that the central bank consider lowering the country's interest rates to attract investors to increase equity investment.

Such "high" domestic interest rates, Soedradjad said, are deliberately aimed at mobilizing domestic savings to help cover up the country's savings-investment gap.

"Increased fund mobilization efforts will require increased levels of efficiency from both our banking and capital market institutions," Soedradjad told some 500 executives attending the seminar, which ended yesterday.

Soedradjad said that in its interest rate policy, the central bank properly adjusts domestic rates to those prevailing abroad and closely relates them to domestic assets. Such a policy is taken to counter the speculative flow of foreign capital.

"The key point to keep in mind is that in this case the tail should not wag the dog: macroeconomic policy management should not adjust to short-term capital flows," Soedradjad said.

Reforms

The government is pursuing reforms to improve its basic infrastructure, which, he said, is to support the development of both money and capital markets as the borders between the two diminish.

Soedradjad noted that it is compulsory to develop local stock markets into an efficient exchanges, especially given the influence that capital markets have on managers and investors in their investment making decisions.

"In the long run, efficient capital markets will provide a good channel for investment since these markets reflect the fundamentals of the economy," the central bank governor said.

If the capital market is efficient so that it reflects fully the fundamentals, Soedradjad said, macroeconomic policy decisions will be much easier because they rely on signs transmitted by the capital market.

However, he warned that capital markets are not driven solely by news of fundamental economic factors. In addition to the investors who rely on fundamentals and who usually the take longer-term view, there are many "noise traders" who often trade on sentiment.

"The presence of noise traders may transmit the wrong signals to the policy makers," Soedradjad said, adding that globalization may add to such problems for policy makers because a borderless capital flow may cause stock prices to fluctuate wildly.

Since it is difficult to eliminate speculation in capital markets, he suggested that policy makers better understand, monitor and gauge the size of capital inflows through capital markets. (rid)