Shot in the arm

Seen from a foreign reserve position, the almost US$8 billion in new loans pledged by Indonesia's government and multilateral creditors in Paris on Thursday is certainly a shot in the arm for the gradual strengthening of the rupiah, especially because almost all the new credits are quick-disbursing. Added to the $6 billion to be disbursed from the $47 billion International Monetary Fund-sponsored bailout fund, there will indeed be bumper sums of dollars rolling in to beef up the beleaguered rupiah within the next eight months.

Though $4 billion of the total will be used to amortize foreign debts and another $8 billion to cover the State Budget deficit for the current (1998/1999) fiscal year, the inflows will still fuel massive purchases of rupiah by the central bank by pumping dollars into the market. These developments could jump- start the stabilization process of the rupiah to eventually strengthen it to the target of 10,600 against the dollar by March, from a range of 13,700-14,000 over the last few days.

A stable rupiah at a reasonable rate is by itself crucial for the economy to get out of the crisis as it will remove many of the economic woes which have paralyzed thousands of industrial firms, steeply raising the prices of basic staples and driving thousands of companies, and consequently most banks, into either financial distress or bankruptcy. Punitively high interest rates choking business operations could then be lowered.

But the massive inflow of dollars through official aid will not by itself be sufficient to sustain rupiah stability for a long period of time. This is mainly because it does not fully reflect restoration of market confidence in Indonesia's economy. The official loans will not create a significant increase in income-generating capacity to service larger foreign debts in the future. The bulk of the $8 billion budget deficit envisaged for this fiscal year will finance subsidies for basic staples and social safety net programs and cover the shortfall in government operating (routine) budget. The spending would only help avert another wave of social unrest and reduce the suffering of the estimated 90 million impoverished people without forcing the government to print more money.

Without restoration of significant private capital inflow, which will take place only along with market confidence, the rupiah will likely sag again after March and equally large sums of new official loans will again be required to plug another big hole in next year's state budget.

The warning was clearly spelled out by World Bank Managing Director Sven Sandstrom at the end of the annual meeting of the Indonesian Consultative Group on Indonesia (CGI). Sandstrom cautioned that an enduring commitment to the reforms on which the government has embarked is required to sustain international support and produce economic recovery.

There are several other equally urgent reform measures that have to be completed to sustain the stabilization process of the rupiah. First of all, the bank restructuring, already behind the schedule agreed with the IMF, should be accelerated, otherwise foreign trade financing flows will remain clogged, new lending to corporations will not resume and exports, badly needed to increase foreign reserves, will remain sluggish despite the advantage generated by the weaker rate.

The restructuring of the $70 billion corporate and foreign debt overhang, of which $32 billion is due this year, should be implemented under the Frankfurt agreement on schedule to cut the pressure on the rupiah and restore foreign confidence in the corporate sector.

The lack of market confidence in the Habibie administration, which is another big hurdle to rupiah stability, must be addressed. This requires more concerted, consistent efforts to develop good governance -- a system of public administration that is effective, accountable and transparent, and able to enforce laws with a strong, independent and effective judicial system and maintain security.

Moreover, only good governance will enable the Habibie administration to effectively manage the aggregate demand through high fiscal discipline, which is crucial for stabilizing the rupiah rate and checking inflation but demands more sacrifices from the people. Only credible government will be able to gain the public's cooperation for enduring more painful measures, such as gradual reduction of subsidies, which are needed to stabilize and eventually restore the economy to respectable growth.