Indonesia in debt trap

President Megawati Soekarnoputri's appeal to the International Monetary Fund (IMF) to ease Indonesia's debt burden reflects the severity of the country's indebtedness.

However, Megawati raised a political issue on Monday in her Independence Day address when she blamed the debt burdens partly on what she called some mistakes the IMF made in its policy recommendations in the late 1990s.

Whether the issue could be turned into a case for sympathetic treatment, including some debt relief -- that is, forgiveness -- is inseparable from the broader problems of Indonesia's weak legal system and political culture infested with corruption and bad governance.

The debt burdens are indeed quite critical. With more than US$68.6 billion in foreign debts outstanding as of January and Rp 622.7 trillion ($72.4 billion) in domestic debts as of July, the government is ensnared in the jaws of a tight debt trap. The debt service burdens have increased sharply, especially since the government, upon a ruling by the People's Consultative Assembly, exited the IMF program last December.

This move made Indonesia ineligible for the debt-rescheduling facility from the Paris Club of sovereign creditors, which amounted to about $3 billion annually. Consequently, from the outset of the 2004 fiscal year, the government has had to spend almost one-third of the state revenue on servicing both domestic and foreign debts. These heavy burdens will continue to increase over the next five years as more foreign debts and government bonds mature.

In fact, these debt service burdens would have been much larger -- taking up to 40 percent of revenue -- had it not been for the new government bonds issued to refinance or buy back mature rupiah bonds. For the 2005 fiscal year, for example, the government will float Rp 50.2 trillion in new bonds, of which Rp 30 trillion is to be spent on refinancing or buying back mature bonds.

The debts are not only cutting sharply into budget allocations for basic needs such as education, health, public services, utilities and basic infrastructure, as well as poverty- alleviation programs, but are also exposing the government to high interest rates and currency risks.

Official estimates show that every percentage point in the central bank's three-month benchmark interest rate will increase the interest costs of the Rp 616.63 trillion in government bonds by Rp 2.3 trillion. Meanwhile, every Rp 100 depreciation in the rupiah's exchange rate to the dollar will add Rp 9.69 billion to interest charges on foreign debts.

The debt burdens would not have been so punitively heavy if the government exited from the IMF program gradually, for example, by shifting from the extended facility to a precautionary program. However, the political decision in mid- 2003 favored a clean exit from the IMF program.

Judging from the combination of severe debt burdens, high rate of unemployment and underemployment, and the more than 100 million people hovering on the brink of poverty with a daily spending of less than $2, Indonesia should be entitled, theoretically, to debt rescheduling and even debt relief under the Heavily Indebted Poor Country (HIPC) Initiative of the World Bank and the IMF. This initiative has thus far approved $53 billion in debt relief for 27 HIPCs.

The problem, though, is that the government has not been able to complete its Poverty Reduction Strategic Paper (PRSP), one of the basic requirements to be entitled to the HIPC Initiative.

Joining the HIPC Initiative would also place the government directly under the IMF's oversight again -- the very condition rejected by the Assembly in its 2003 ruling against another extension of the IMF program.

There is, indeed, no such thing as a free lunch. If the government intends to ask for some debt relief, it has to meet the "minimum price" first: A credible PRSP approved by the World Bank and the IMF, and effective programs in improving governance and stamping out corruption.

It would be futile to build up the pressure of public opinion for the IMF to assume "moral" responsibility for its "mistakes" by helping to reduce Indonesian debts. The government may gain international sympathy and support only if its ability to service its debts weakens for reasons beyond its control -- and not because of corruption and inefficiency, as is perceived internationally.