Soedradjad replaced

Soedradjad replaced

Overall reorganization of the central bank (Bank Indonesia)
had been anticipated since last week's official confirmation of
the government's intention to introduce a currency board system,
seen to be a quick fix solution to the rupiah volatility. Yet the
removal of Soedradjad Djiwandono from the top post at the central
bank, announced on Wednesday, came as a big surprise. It is, to
the best of our knowledge, the first time President Soeharto has
replaced a member of his cabinet two weeks before tenure in the
post was due to expire.

The harsh reality could not be concealed with State
Secretary/Minister Moerdiono's effusive words on 'Soedradjad's
honorary discharge with the highest gratitude from the
President'. The blunt truth of the matter is that the central
bank governor was summarily dismissed in the face of a drastic
and fundamental change in monetary policy.

But then, the present situation is by no means normal but a
crisis that needs drastic, painful measures. The economy has
virtually been crippled by a weakening and volatile rupiah,
especially since last August, when the currency was floated,
allowing market forces to determine its value. Prices have
rocketed and public discontent over shortages and unaffordable
prices of basic necessities has spilled over into rioting in a
number of towns and cities across Indonesia.

Soedradjad, a U.S. trained economist with expertise in
monetary policy, appeared to fit the bill when he was appointed
governor of the central bank in March, 1993. His swift movement
to toughen banking regulations shortly after taking office showed
his mastery of the financial and monetary situation in Indonesia.

The banking industry in 1993 looked vibrant as a result of
deregulation in October 1988. Nevertheless, Soedradjad imposed a
new set of prudent regulations pertaining to disclosure
requirements, higher capital standards, legal lending limits and
foreign exchange exposure which were designed to ensure sound and
robust growth in the industry. He also relentlessly pursued a
campaign encouraging mergers aimed at reducing the number of
commercial banks, which at that time numbered over 240, and
tirelessly urged banks and companies to avoid excessive overseas
borrowing.

Booming economies in Indonesia and across Southeast Asia
drowned out his warnings. Banks pursued aggressive lending
policies and borrowed heavily overseas in order to satisfy the
business community's seemingly insatiable hunger for funds, even
for dubious projects. A high lending margin created by the
booming economy covered the inefficiencies and bad lending
practice.

Soedradjad's hands were further tied by the central bank's
lack of political autonomy, and by the political connections of
commercial bank shareholders. He, like most members of the
cabinet, was afraid of dealing firmly with politically powerful
businesspeople, including bad bankers.

The hands of Soedradjad and other ardent reformers in the
cabinet were strengthened when the government turned to the
International Monetary Fund (IMF) for help last October. But he
quickly found himself in dangerous political territory when he
and the finance minister -- two of the most respected cabinet
ministers due to their integrity -- closed 16 insolvent banks as
part of the reform package agreed with IMF. Several of the banks
had politically powerful shareholders.

At a glance, Soedradjad has become the first person to be held
responsible for the financial meltdown. But public confidence in
the currency does not depend entirely on monetary policy.
Monetary policy is only one tool with which the government can
influence the macro-economic situation, whereas the value of a
currency reflects the public's confidence in the prospects of the
whole economy. The political leadership itself conceded that a
lack of public confidence was the root of the currency turmoil
when it called in the IMF last October. It is not the reform
package itself but the capricious attitude on the part of the
political leadership in implementing and enforcing the reforms
that has lead to the rupiah's present ailments.

We have repeatedly emphasized in this column that changes
taken under duress do not carry the same conviction with the
market as similar policy actions taken in more placid times. Seen
in this light, Soedradjad's firing, less than two weeks before
the official end of his tenure, will be unlikely to help regain
market confidence -- the precious commodity we badly need to lift
ourselves out of this crisis.