Our forex management
Our forex management
Bank Indonesia's recent decision to widen the buying-and-
selling spread (exchange rate band) of the rupiah against the
American dollar should be welcomed as effectively discouraging
foreign exchange speculation for at least three main reasons.
Firstly, the exchange rate band was widened from Rp 30 to Rp
44 late last month when the international foreign exchange
market, which was highly volatile in March and April, was
relatively calm. Had the measure been taken amid a wildly
fluctuating market, it could have caused jitters and even
triggered a rush on the dollar.
Secondly, though most analysts considered the exchange rate
band still too narrow to significantly deter short-term
speculation, the gradual widening prevents unnecessary concerns.
Now that the exchange rate band ranges from Rp 2,224 to Rp
2,268 per U.S. dollar, Bank Indonesia has more leeway in its
monetary policy. It is also better able to adjust prices on the
foreign exchange market in order to absorb short-term capital
flows which tend to be highly volatile, as the waves of capital
flight in early 1994 and 1995 proved.
More important, as Bank Indonesia's Governor Sudradjad
Djiwandono explained, the move was designed to enhance inter-bank
foreign exchange transactions. Since the private market makers
are now allowed more room for price adjustments, the brunt of
foreign exchange rate risks is now placed on currency
speculators.
The measure is not likely to cause many problems for banks
because of Bank Indonesia's decision last September to ease the
limit on net open external positions of financial institutions
(the total amount of on and off-balance sheet assets and
liabilities in foreign currencies) from 20 percent to 25 percent
of paid-up capital. That means the net of assets and liabilities
in foreign currencies can now reach 25 percent of their paid-up
capital. Further down the road, the measure will allow banks to
borrow more from the offshore markets.
Finally, the wider exchange rate band is even more essential
after the U.S. Fed's move last week to lower its short-term
interest rate by 25 basis points to 5.75 percent.
Since Indonesian banks will not likely follow suit, given the
persistently strong inflationary pressures and tight monetary
conditions, the differences between Indonesian and American
interest rates will widen and make the country more attractive to
short-term capital. But the wider exchange rate band will at
least slow down the pace of short-term capital inflows.
It should be noted, though, that the measure is and should
only be part of a sound macro-economic management plan. The best
protection against turbulence on the international financial
market remains consistently prudent macro-economic policies that
further strengthen economic fundamentals.