Lack of knowledge drives rupiah down

Lack of knowledge drives rupiah down

The rupiah continued its freefall against the U.S. dollar last week due to rumors about President Soeharto's health. Economist Kwik Kian Gie discusses the public attitudes concerning the rupiah's fall.

Question: The value of the rupiah fell further to Rp 5,250 against the U.S. dollar last Friday. Were you anxious about that?

Answer: I was not anxious about the fall of the rupiah because it did not reflect the real condition of our economy. But I was anxious over the middle-class' lack of knowledge about the fundamentals of our economy. I was anxious because the knowledge of Indonesia's middle-class has lagged far behind that of their counterparts in developed countries.

Q: What has caused the steady decline of the rupiah in spite of the aid provided by the International Monetary Fund (IMF)?

A: Members of our society who have been rushing for dollars have never received a clear explanation of the situation. So their attitude is based on rumor and gossip. A rumor that is still haunting them says that the government would block their savings at banks and replace them with government bonds. They also believe that the government would control foreign exchange traffic by 100 percent, like what it did during the government of the late president Sukarno. They also believe that whenever President Soeharto could no longer carry out his functions, his successor would carry out all the rumored plans.

Q: Don't you yourself feel uneasy when you see the current phenomena?

A: Not at all. The reason is that the government since 1966 has never needed the rupiah. In 1966, the government slashed the value of the rupiah under a monetary reform and replaced the old currency with new money. However, such a measure was then conducted without any enforcement even though the economic condition was then far more frustrating than that of today. The money in circulation was beyond the government's control, so the inflation rate reached 635 percent that year. Now, the government has been using various instruments to control the money in circulation, such as through interest rate levels, market operations -- to tighten or to ease liquidity -- and reserve requirements.

The idea that the government would block savings at banks and replace them with bonds is more absurd because the New Order government has never raised funds from its citizens. The government's routine budget is always in surplus even though the total budget is in deficit. This is because development spending exceeds the surplus from the routine budget.

The government has never offset the budget deficit with domestic loans. Instead it does it through foreign loans provided by members of the Consultative Group on Indonesia.

Q: How about rumors saying that foreign exchange traffic would be 100 percent controlled like in the past?

A: That is also nonsense. The availability of foreign exchange is more than adequate. Before the monetary crisis occurred, the World Bank forecast that our current account deficit might reach US$10.7 billion in 1997, $11.7 billion in 1998 and $11.4 billion in 1999.

With the crisis and the IMF reform package, the current account deficit will decline. The depreciation of the rupiah will help increase exports and reduce imports. The cancellation of development projects worth Rp 49.5 trillion ($9.9 billion) will also help slash imports of materials for the planned projects.

The government's new policy of trying to produce a budget surplus of 1 percent of the country's gross domestic product (GDP) will also help reduce the current account deficit. Let's be careful and say that the current account deficit will reach an average of $10 billion for each year until 1999, a cumulative deficit of $30 billion. This amount can be coped with by the $23 billion in aid from the IMF and the $7 billion in assistance from various countries under bilateral arrangements.

Furthermore, the government still has foreign exchange reserves of $20 billion, besides a standby loan of $2 billion and foreign assets of $5 billion. Concerning the flows of foreign exchange, the abandoning of the intervention band on Aug. 14 indicates that the government has adopted a completely free system for foreign exchange traffic and a pure system on foreign exchange conversion. How can this be interpreted as a wish to control foreign exchange traffic and conversion rates?

Q: How do you project the later development of the rupiah?

A: The rupiah will slowly strengthen again and stabilize at a more realistic level. The dollar value might remain higher than the purchasing power parity but it would not be as crazy as today.

Q: Can you explain the benefits of saving money in rupiah, instead of dollars?

A: Suppose we have $100,000 with us. If we deposit it in dollars, we will get a 5 percent interest rate worth $5,000 per annum, meaning that we will earn $417 a month.

Suppose instead we convert the money into rupiah at a rate of Rp 5,000 per dollar. We would get Rp 500 million. If we then deposit it with a 30 percent annual interest rate, we would earn Rp 150 million a year or Rp 12.5 million a month. Deducted by a 15 percent income tax, our earning would be Rp 10.62 million or $2,125 per month.

So, if we save our money in rupiah, our earnings would be five times higher than investing it in dollars. Now might be the time for holding rupiah.