IMF may not offer all the answers

IMF may not offer all the answers

By Peter Sheehan and David Ray

MELBOURNE (JP): With the resignation of former president
Soeharto and the establishment of the Habibie government,
Indonesia has a major opportunity for renewed economic and social
progress.

After the suffering which the country has undergone and the
substantial nature of the political change that has been brought
about by the popular will, Indonesia now has a very high level of
international support on which it can draw.

While the new government is faced with many critical
decisions, none will be more important than the key choices made
in the first week about the economic crisis.

It is essential that the government consider at this time its
options for dealing with this crisis, rather than immediately
recommitting to the existing International Monetary Fund (IMF)
reform package or to negotiations with the IMF of a new package.
In particular, recommitting to the existing IMF package will soon
lead the Habibie government back into the economic and political
problems of recent months.

This is not to dispute in any way the need for most of the
reforms in the IMF package, nor the need to deal with global
financial markets in a credible way. But many qualified
observers, both in Indonesia and in the United States, Europe and
Australia, share the view that the IMF package is badly flawed.
Nor does the official view that the IMF programs are working
elsewhere seem to be correct. For example, the real gross
national product (GNP) in South Korea was 5.3 percent lower in
the first quarter of 1998 than a year earlier, and is clearly
continuing to fall. The new Indonesian government should think
very seriously before it takes on board this heavy burden.

There are four main issues to be looked at in this process of
reconsideration.

* Many observers believe that a key aspect of Indonesia's
economic crisis has been a premature opening to short-term global
capital flows, and that some temporary respite from these
pressures is necessary for the crisis to be resolved.

There are a number of different ways by which this respite can
be achieved: Controls on short-term capital flows and a fixed
exchange rate for trade transactions (the regime which was
applied in developed countries in the long boom of 1950 to 1973);
a dual exchange rate, with different rates for trade transactions
and capital flows respectively, and others. These options are
worthy of consideration.

* Indonesia's real economy is the key victim of financial crisis.

Production, employment and prices have all been adversely
effected by the recent dramatic fall in the rupiah, engendered by
Indonesia's prematurely open position in world capital markets.

The current IMF package seeks a number of long-term objectives
within the context of a floating exchange rate and open capital
markets. It provides little in terms of restimulating the
(otherwise healthy and dynamic) real economy in the short run.

Coupled with a fixed exchange rate and capital controls, a
comprehensive investment program (a potential minimarshall plan)
is required, which draws upon a coordinated effort from
international aid institutions, the governments of Australia,
Singapore, Japan, the United States and others, and private
investors (both local and international). Such a program should
have as its main objective the short-run stimulation of the real
economy, so that it can continue to provide employment and
incomes for Indonesia's large and growing population.

* There is no doubt that continued reform of economic
institutions and structures is necessary in Indonesia. But this
needs to proceed in a way driven by Indonesian values and in a
realistic time frame determined by the Indonesian authorities,
rather than one determined by financial markets and their agents.

The new government has the opportunity to put in place a
reform timetable which is more realistic and more achievable than
that dictated by the IMF in its various packages, and which can
garner international support for such a revised timetable.

* Negotiations with international banks are necessary. The
dollar-denominated debt held by private firms in Indonesia to
international banks and other creditors remains a major
constraint on the economy. Removal of this overhang is a vital
precondition for economic recovery.

The basic principle behind any government-facilitated
resolution of such private-to-private debts should be that the
outcome mirrors that which would have occurred through the
operation of market forces alone.

Most international banks would have largely written off their
debts to private firms in Indonesia, and without official support
would be unlikely to recover much of their money. Thus a rapid
resolution, on terms favorable to the Indonesian economy, might
be achievable as part of a broader package, perhaps with the
involvement of the governments of the main creditor countries.

In particular, the Indonesian government should establish an
urgent process for consideration of its economic options, drawing
in not only leading Indonesian figures but also influential and
respected figures from abroad, who have been critical of the IMF
approach. Examples of such figures include Joseph Stiglitz, chief
economist at the World Bank, Prof. Jeffrey Sachs of the Harvard
Institute for International Development, and the governor of the
Reserve Bank of Australia, Ian Macfarlane.

The writers are specialists at the Center for Strategic
Economic Studies of the Victoria University in Melbourne.