The Rows on IMF

Tata Huberta Economist Washington D.C.

Indonesian media feasted on the rows over the role of the International Monetary Fund (IMF) on the Indonesian economic policy makers last week. On center stage was Minister Kwik Kian Gie with his controversial statement. Meanwhile, a soothing statement was made by Minister of Finance, Dr. Boediono, at the sidelines of the meeting with the legislature on June 5, which indicated that the government still would like to continue its relation with the Washington-based Institution until the expiration of its contract in 2003.

Minister Kwik first pointed out that the IMF loans to Indonesia was basically meant to support Bank Indonesia's foreign exchange reserves and nothing can be made out of that money for budgetary purposes. This is correct. The IMF loans are basically used by all the borrowing countries as some kind of a "balance of payments support" which will add to the borrowing countries' foreign exchange reserves.

This principle applies to all the borrowing countries. For the countries in a desperate need of reserves, this kind of loan proved its usefulness. But once the countries have reached some level of stability, the need for a "balance of payments support" diminish.

The second point raised by Minister Kwik was that Indonesian taxpayers have to bear the interest rate burden while the loans themselves were rarely used. This statement is only partially correct. The IMF indeed charges a rate of interest to the borrowing contries, called "the rate of charges". This is based not on the US dollar but on special drawing rights (SDR), which is a composite of interest rates of a number of major currencies, i.e. US Dollar, Japanese yen, Euro and Pound Sterling. This rate is a floating rate and reset weekly.

Currently the rate is set at 2.97 percent. Bank Indonesia, as the holder of the IMF money, is able to invest the money in the most optimal way, based on the return and risk of this investment. If the IMF money is invested in the five-year US Treasury Bonds, the IMF money will bear interest (yield) of 4.32 percents in the US dollar.

At the maturity of the IMF loans, the return of the investment, computed in SDR, has to be matched with the interest rate paid to the Fund. The net result will constitute the net cost or net return, depending on the outcome of the investment. If the exchange rates of the major currencies are stable, it is always possible to come up with a net return rather than a net cost to the government. If the dollar strengthens during the borrowing period, the gains on such IMF loans are even greater.

The third point relates to the Letter of Intent agreed with the IMF. Minister Kwik strongly indicated that the LoI is basically useless. This issue on conditionalities of the Fund's program is always contentious. This document, while formally is a reflection of the government own policy, is basically a joint document. The IMF's role in designing this document is undeniable. However, its finalization rests also on the negotiating skill of the Indonesian government to arrive at the best policy mix. There was a time when the previous government came up with its own proposal which was accepted by the IMF.

Yet, even then, the government's proposal was not that significantly different with the Fund's recommendations. Therefore, little can be argued that the LoI has so far served as a common platform for the Indonesian government, the IMF and the donor community. At a time when the government was filled with inertia, the LoI served as the main guiding light for the Indonesian economic strategy. If not satisfied, the government could certainly also come out with its best policy alternatives and discuss these with the IMF in an amicable way. So far, nothing has been done that way.

What is rarely discussed is the catalytic role of the Fund's program. While the direct benefits of the IMF loans are quite clear-cut, the catalytic role of the Fund's program is certainly less obvious.

First, the disbursement of the IMF loans normally serves as a "seal of approval" for the other donor institutions (such as the World Bank and the ADB) or countries to release their own funds. When the IMF loan was frozen in the wake of East Timor's incidents, the loans by other International lending agencies also stopped.

Second, the completion of the Fund's review also constitute one of the "prerequisites" of the loans rescheduling in the Paris Club. This condition, clearly stated in their website, links the request of the Indonesian government for further rescheduling of the official loans to the "seal of approval" of the IMF. Therefore, the severance of the Indonesian policy from the IMF program should also consider what kind of cashflow that the government would like to have a few years from now. If the projected cash flow indicates that we need further Paris Club rescheduling, we may have to be very careful with what we are doing now.

Third, the "seal of approval" also relates to the market's perception. The absence of such approval will prevent the "market" from investing in Indonesia, either through portfolio investment or foreign direct investment. They will see the situation as a kind of risk that will prevent them from considering any investment activity in this country.

This question has been raised a number of times. There are a number of cases where such a contract can be dicontinued, such as in the case of Korea and Thailand. They were able to complete their programs with the Fund successfully so that at the end of the arrangements they could declare to the world that they were able to "graduate" from the Fund program. The market responded well.

For Indonesia, the prospect of completing the program with the Fund in 2003 is also not small. For the last few months, the government was able to make progress in a number of areas of the program. The market flooded the country with funds. The current Indonesian case may have exceeded the progress made by the Thai government at the time of their completion of the Fund program. Therefore, the remaining one and half years can be used more usefully in speeding up the reform process.

After completion of the program, the Korean and Thai authorities continued to welcome the IMF guidance through the "Post Program Monitoring". This is an instrument where such a cooperation may help the countries continue to be on track on their reform agenda. For Indonesia, this instrument might also be useful as a replacement for the Fund program as one of the "prerequisites" of the Paris Club loans rescheduling.

Therefore it is always possible for Indonesia to complete the program with the Fund. And the completion of the program could mark as our "graduation".

The Indonesian relation with the IMF may then have to be treated in a very gentle way. A statement by an official such as Minister Kwik in public could easily (the next morning) irk some people among the management and the Board members of the international lending institutions.

At the time when we are just "one lap" away from the finish line, it will be more useful if such discourses can be switched to the more meaningful discussion, such as "What is our agenda after the IMF?"