The rock and the hard place

The rock and the hard place

JP Morgan Chase & Co. foresees the rupiah appreciating to as
strong as 8,500 against the US dollar later this year, from 9,100
last week, on expectations that Indonesia's economic growth will
accelerate next year. The Fitch and Standard & Poor's rating
agencies are equally bullish about Indonesia's economic outlook,
upgrading the country's credit rating on the back of strong
political stability. The Jakarta stock market has also been
increasingly bullish.

These positive developments are the early benefits of the
orderly and peaceful presidential election and the overwhelming
victory of Susilo Bambang Yudhoyono, who is widely seen as the
more capable leader for bringing the nation out of its economic
doldrums.

However, despite his strong political mandate, and even though
Susilo will inherit a more stable Indonesia with stronger
political and macroeconomic stability than the turbulent
situation Megawati Soekarnoputri took over in mid-2001, the new
president will immediately face formidable challenges requiring
painful reform measures.

In fact, given the dire economic condition he is facing and
the people's expectation for immediate, concrete results, Susilo
will find himself squeezed between a rock and a hard place.

While some populist measures may be necessary during his
honeymoon period, which will be very short indeed, Susilo will
not have any leeway for dispensing political goodies or business
favors. Most of the measures on his agenda of the most pressing
problems confronting him during the first three months of his
administration will require further sacrifices from the people
and even his campaign team

First of all, Susilo may have to disappoint most members of
his core campaign team who are hoping for political appointments
or are expecting business favors in return for their hard work or
contributions. Since Susilo has imposed very tough requirements
on his working team -- including integrity, proven ability and
expertise -- he may have to recruit from outside his inner circle
for most of his Cabinet ministers.

The new government will have to work fast with the House of
Representatives, which has vowed to put the government under a
tough system of checks and balances, to complete the 2005 budget
for implementation in January. And since global oil prices are
not likely to fall below US$40 per barrel throughout next year,
and will surely remain much higher than $24 per barrel -- the
average price originally assumed for the next fiscal year -- the
estimate for the fuel subsidy will have to be revised upward.
This in turn will require steep increases in domestic fuel
prices, and in turn significant rises in electricity and
transportation rates.

Further delay in the adjustment of fuel prices, or too low an
increase of prices, could please the public, but would undermine
the process of fiscal consolidation and damage the credibility of
Susilo's fiscal management in the perception of the international
market. Such a negative assessment would adversely affect market
confidence in the country's economic prospects.

The 2005 state budget should therefore provide strong signals
and clear direction regarding the new government's fiscal
policies, foreign borrowing and resource allocation to support
growth acceleration, one of the top priorities Susilo promoted in
his campaign.

Foreign debt management has become much more pressing because
the country is no longer entitled to debt rescheduling from the
Paris Club of sovereign creditors, to which the government owes
the bulk of its estimated $75 billion in foreign debts.
Consequently, official capital flows have been negative since
2003.

The new government will have to tackle this foreign debt issue
at a meeting with the Consultative Group on Indonesia -- the
World Bank-coordinated creditor consortium -- in December. The
dilemma, though, is that there has been increasingly strong
political pressure to slash new foreign borrowing at a time when
foreign debt servicing burdens have risen sharply.

Even Indonesia's economic growth target of 5.4 percent next
year may be too optimistic, as the global economy is not expected
to be as vibrant as over the past three years due to the steady
rise in international oil prices. Our exports, already threatened
by the end of the quota system in the global textile and garment
trade in January, may decline sharply. This in turn would affect
the pace of growth and the creation of jobs, as exports are one
of the main engines of economic expansion.

It is therefore imperative for Susilo to maintain the market's
confidence, as it would be impossible for him to implement his
economic agenda, no matter how politically acceptable, under
inimical market conditions.