Indonesia Inc.: Dream or reality?

Indonesia Inc.: Dream or reality?

By C.J. de Koning

This is the second of two articles on the capricious value of
the Indonesia's currency.

JAKARTA (JP): Last year before the crisis started in July the
Indonesian government maintained a balanced rupiah budget, which
it still does. The Indonesian government did not borrow at all on
the rupiah market to complement its tax income.

In other words the government did in no way contribute to an
excessive consumption pattern. It behaved extremely prudently.
Local price developments also did not show substantial strains in
the system.

First half year inflation was running at some 6.5 percent per
annum, in line with longer term inflation trends. Also wages did
not rise explosively. There was no significant wage pressure on
prices.

In Indonesia for most companies wages account for less than 25
percent of total costs. On the export side, Indonesian goods
continued to be sold overseas. There was no clear indication that
goods had become too expensive, especially since Bank Indonesia
allowed the rupiah to depreciate with some 5 percent per annum
towards the U.S. dollar.

The World Bank's conclusion was that in principle the economic
fundamentals were sound -- of course there were inefficiencies in
the system which could be improved. I fully endorse this view
looking from the rupiah side.

What happened at the U.S. dollar side however? As indicated,
Indonesia's outstanding loans are for around 80 percent in
foreign currency. Its savings also, but most of such savings are
not kept with institutions in Indonesia.

During the last 8 months exports grew steadily, with the
anecdotal evidence of the last few weeks that exports are also
stagnating and declining due to lack of raw materials and other
production inputs as well as lack of U.S. dollar working capital
and the total lack of L/C facilities.

On the U.S. dollar loan side three things happened. Firstly --
as a consequence of the crisis in Thailand -- some companies in
Indonesia started to cover part of their open currency positions,
in view of the increased uncertainty about the expected
depreciation level of the rupiah. This put already a strain on
the rupiah - dollar exchange rate.

The second factor was the maturity profile of the external
debt, especially the corporate sector debt. There was and up till
today still is, no collective management of Indonesia's foreign
currency debt.

My estimate was that the average maturity of the corporate
sector debt was 1.5 years, with a tendency to become shorter as
all foreign currency loans become due and payable when a debt
freeze is announced per company.

This is exercised through the cross -- default clause. One
should not under estimate the size of this situation. All
corporate debt of Indonesia is some US$ 84 billion currently.

A 1.5 year average maturity leads to some US$ 59 billion in
foreign currency debt service obligations, more than the total
exports of Indonesia expected for 1998 (US$ 58 billion). Again
the attempt by companies to honor their commitments put an
extreme strain on the rupiah -- dollar exchange rate.

The third factor was the decreased tendency by foreign banks
to roll-over their foreign currency loans, and to extend new
loans. During the second half of last year BIS figures - when
published - will show that in the second half of 1997 and the
first six weeks of 1998 the volume of outstanding foreign
currency loans declined sharply.

If the current financial crisis is caused by the U.S. dollar
side of the rupiah dollar equation, then the solutions also need
to be found on the U.S. dollar side.

For instance a Currency Board System would currently be
inadvisable for its focus is on the rupiah side of the equation
and does not solve the U.S. dollar liquidity crisis that
Indonesia is currently facing. Perhaps in some years a Currency
Board System could work if the loan currency of Indonesian
companies would be in majority in rupiah rather than in U.S.
dollars.

How can the current U.S. dollar liquidity crisis be solved ?

A number of efforts have been made already from the foreign
side:

* IMF has agreed to a package of US$ 43 billion with the
assistance of a number of foreign governments. One observation
may be made that so far the channeling of such funds to the
Indonesian corporate sector has not taken place. It is in the
corporate sector where the foreign currency liquidity is really
needed in order to kick-start the economy.

* Dr. Goh Chok Tong, prime minister of Singapore launched the
initiative to help Indonesian corporates with pre-export and
post-import finance via an Indonesian Trade Finance Guarantee
Facility. On Feb. 3, 1998 he suggested such a Facility to
President Soeharto. Van Mierlo, deputy prime minister of the
Netherlands also supported the facility in his discussions with
Soeharto on Feb. 12, 1998. Other governments are considering
participating in the Facility.

* One of the key issues for foreign currency liquidity management
is to see to it, that the obligations to pay do not exceed the
ability to pay. The latter derives from the net export earnings
capacity, the earlier from the foreign debt volume and its
maturity profile. A foreign currency debt restructuring effort is
underway, but may take some months before being finalized. In
this connection I suggested earlier to set up an Indonesian
Credit Clearing Corporation as an instrument for better foreign
currency liquidity management.

But more can be done, also from the Indonesian side.
For instance:

* Measures to re-attract Indonesian foreign currency savings back
to Indonesia. It is not difficult to give a tax amnesty to
Indonesians who have saved overseas -- just like India has done
with great success recently. One could establish Offshore Banking
Units of banks based in Indonesia.

Such OBU's will be units of banks which fulfill the new
capital requirements of Rp 1, 2 and 3 trillion in the period as
decided by Bank Indonesia. Such OBU's will be in Indonesia and
supervised by Bank Indonesia.

If such OBU's get the right to attract foreign currency
liquidity, with a waiver for withholding taxes, if for instance
funds are committed for a one year period or more than it is
likely that substantial foreign currency funds from Indonesians
and other nationalities can be attracted. Also - just like in
offshore centers -- income tax could be waived, over such funds
placed in OBU's

* A second initiative could be by launching an "I love Indonesia"
campaign, whereby Indonesian savers overseas can inform their
private bankers overseas that they pledge say 20 percent of their
private wealth to help Indonesia, for a period of say two years.
Such banks would inform their Central Bank of the amounts
pledged, and these Central Banks would inform IMF on a no-name
basis.

Those pledged funds could then be used as collateral for the
cross-border guarantees needed in the Indonesian Trade Finance
Guarantee Facility. Hopefully many patriotic Indonesians of all
ranks and file will want to participate in such scheme. This can
be arranged on an anonymous basis.

* A third foreign currency liquidity raising measure is to use
the asset values embedded in state-owned corporations. It will
not be difficult to arrange a substantial size "product loan" on
future deliveries of say oil and gas to prospective buying
countries. A long term sales agreement on such future deliveries
could easily raise many billions of U.S. dollars.

* Last but not least, many foreigners would like the right to
lease Indonesian land or buildings for a period of say 99 years.
If Indonesia arranges this and protects foreign lease holders
from local administrative hassles, then a substantial foreign
currency liquidity flow could be started.

A combination of these foreign and domestic actions would show
the market that Indonesia is clearly addressing the 80 percent
factor and that -- once exports and imports start flowing again -
the likelihood of reaching Rp 5,000 per U.S. dollar is clearly
within reach.

The anticipation of the markets -- as always -- will do the
rest. Let the market do the price fixing for the rupiah but let
the market also know that foreign currency liquidity management
is now on top of the economic management agenda of Indonesia Inc.

Drs. C.J. de Koning is Country Manager Indonesia for ABN-AMRO
Bank.