Pump priming
The government's decision to pump prime the economy in the first semester of next year to bolster growth by ordering the finance ministry to accelerate the disbursement of Rp 10 million to Rp 15 trillion (US$1 million to $1.5 billion) in development appropriations carried over from the 2005 state budget is very appropriate. This stimulus is indeed badly needed to offset the decline in private consumption and investment growth caused by the current high inflation and the central bank's tight monetary policy.
We cannot expect much in the way of private consumption and investment during the current tight monetary environment because punitively high short-term rates (12.75 percent) are affecting the economy through a number of different mechanisms: consumers tend to spend less, and businesses are discouraged from investing. However, private investment is predicted to begin picking up in the second semester.
Boediono, the new chief economics minister, expects that investment and private consumption will recover in the second semester of next year. The rationale is that as market confidence in the government's economic policies becomes stronger, macroeconomic stability will get stronger as well. This in turn will help the rupiah appreciate, thereby curbing inflationary pressures from imports.
Moreover, judging from the priority action agenda drawn up by the new economics team -- to reinvigorate the investment climate through reform measures and quick resolution of government disputes with foreign investors -- domestic and foreign investment will increase as businesspeople become more assured of the economic outlook.
However, the government's expansionary budget will have to be coordinated with the monetary authorities in view of the strong inflationary pressures that will persist at least until the end of the first semester of next year. This means the pump priming should be offset by the central bank continuing to apply tight monetary policies.
The market, however, can be rest assured of good coordination between the fiscal and monetary authorities in the years ahead.
Finance Minister Sri Mulyani Indrawati and Bank Indonesia Governor Burhanuddin Abdullah held a joint press conference with Boediono on Dec. 8, one day after the installation of the Cabinet's new economics team, and this was a strong signal of better coordination of fiscal and monetary policies over the next four years.
The joint press meeting, though rather symbolic in nature, was the right signal to send in order to correct the previous market perception of an acute lack of synchronization between fiscal and monetary policies when the Cabinet's economics team was still led by businessman Aburizal Bakrie. The old economics team was simply in disarray, with the then finance minister Jusuf Anwar often absent from coordinating conferences convened by Aburizal.
Good coordination between the fiscal and monetary authorities is indeed the key to maintaining macroeconomic stability, especially in this high inflationary environment, which is projected to prevail until the first semester of next year. The credibility of fiscal policy has a large influence on the conduit and effectiveness of monetary policy.
Put another way, monetary policy is more effective when the private sector or the market in general believes that the central bank will not succumb to the financing requirements of the government.
Boediono's and Burhanuddin's policy statements at their first joint press conference further strengthened our confidence that Boediono will exert very effective leadership over economic policy making and implementation. And a credible policy making system and the right sequencing of reform measures to be taken by the new economics team will accelerate the virtuous circle within the economy.