The $35b retrenchment

The government deserves high commendation for immediately delivering some of the drastic measures it promised early this month to cope with the currency turmoil and its far-reaching implications. Minister of Finance Mar'ie Muhammad told the plenary session of the House of Representatives yesterday that Rp 3.27 trillion (US$1.1 billion) worth of development projects covered in the current 1997/1998 state budget had been postponed. In addition, almost $24 billion worth of investment projects by state companies and private firms were rescheduled or reviewed.

The retrenchment will surely improve market sentiment, strengthen investors' confidence in economic prospects and consequently help stabilize the rupiah at its equilibrium market rate. First of all, as Mar'ie himself acknowledged, the spending cut aims at keeping the state budget from a Rp 9.2 trillion deficit. Fiscal deficit not only effects investor confidence in the rupiah but is also against the law which stipulates that the government shall run a balanced budget.

The postponement of private sector and state company projects with large import requirements will help check the current account deficit at a sustainable level. This again is conducive for further strengthening the stability of the rupiah because an excessive current account deficit will put the rupiah under strong pressure. Even though most of the rescheduled projects are basic infrastructure such as toll roads, power generation and port facilities, they will not adversely affect business operations as the capacity of the current infrastructure is fairly adequate, at least for the next two to three years.

Mar'ie also announced retrenchments in budget spending on official travel, meetings, office buildings, land appropriation and equipment procurement. Given the government's poor track record regarding this kind of spending, we hope that this time the government will be able to instill high budget discipline at all its offices.

It is both economically and politically understandable, in view of the Presidential election in March, that the government did not raise domestic oil fuel prices but decided instead to subsidize fuel prices with an estimated spending of Rp 2.2 trillion for the whole fiscal year. Higher fuel prices would further worsen the business climate, which has been in a dire condition due to tight monetary measures, and would further heat up the inflationary pressures, which are already very strong as a result of the 23.5 percent depreciation of the rupiah. All this may still threaten macro-economic stability.

Spending cuts in the public and private sectors are, however, only part of the crisis management to cope with the currency turmoil. They serve only to address the currency crisis but are not effective by themselves in coping with the structural weaknesses of the economy. Other reform measures are needed to strengthen the economic fundamentals which have been shaken by the rupiah depreciation and the credit crunch.

Mar'ie did promise at the House session that other measures would be launched soon to curb imports of consumer goods and to strengthen the banking industry. Hopefully, the market will not have to wait too long for these additional measures, although we know these structural adjustments are the hardest part of the necessary reform package.

Mar'ie did hint at several incentives for exports such as pre- shipment financing for exporters and lower import tariffs for basic materials but the technical details have yet to be worked out.

We are also concerned that Mar'ie did not mention anything about measures to minimize market distortions such as monopolistic practices and various other obstacles to open, fair market competition. Hopefully, these anti-market practices will also be included in the upcoming package of reform measures.

The government and the private sector should use the currency turmoil and its wide-ranging implications as a momentum to consolidate the national economy through deep structural adjustments. After all, the rupiah crisis and the damage it has incurred on our economy in such a short period of time clearly show that the fundamentals of our economy are not as strong as we like to assume. Our economy has structural weaknesses which are highly vulnerable to external pressures.