Indonesia's peg mirage

Indonesia's peg mirage

If, in his anxiety to find a solution to Indonesia's financial
crisis, President Soeharto presses ahead with plans to peg the
rupiah to the U.S. dollar, he is likely to find himself
exchanging crisis for disaster. The policy looks bound to fail,
particularly if it goes into action before stability is restored
to the country's economy. Such a strategy would affect the whole
region, and could deal a crippling blow to the fragile recovery
now under way.

It would be extremely difficult for Jakarta to prove it is
fully committed to the responsibilities of a linked exchange rate
system. The government has been slow to start on crucial reforms.
Faced with a fragile banking system and a high interest regime,
the only way out of its problems is by following measures imposed
by the International Monetary Fund and the World Bank.

Indonesia must pursue policies of tight money and fiscal
austerity, and stop the central bank printing money to bail out
other bankrupt banks. Quick fix solutions for political purposes
will only make matters worse. Setting the foreign exchange rate
at 5,000 to the U.S. dollar would put it around 50 percent higher
than the current rate. This would lead to a current account
deficit, probably accompanied by a wholesale flight of capital.
That would spell fresh catastrophe for Indonesia and deep danger
for the region.

There is no comparison between present-day Indonesia and the
conditions which prevailed in Hong Kong when the currency peg was
introduced in 1983. Hong Kong had a flexible and transparent
economy, and was precommitted to an autonomous currency board.
Today, as well as huge reserves, it has the backing of China if
conditions get tough.

Indonesia, on the other hand, faces a fiscal deficit of 5.5
percent of GDP. Cronyism flourishes. Social unrest and political
uncertainty are growing. Foreign capital would not flood in to
help sustain a peg. For this very sick economy, the only remedy
is to take the medicine as prescribed, and to stop thinking that
Indonesia is in any state to ape Hong Kong on the currency front.

-- South China Morning Post