Tight money hits stock
Last Thursday's 3.13 percent fall in share prices in Jakarta -- the steepest slide in one day's trading after the almost 5 percent plunge on July 29 last year as the impact of major riots in the capital -- once again told of the difficult choices the monetary authorities often have to make in coping with economic problems while managing the competing objectives of the various sectors of the economy. As the biggest problem being encountered since July 21 was the persistent, if irrational, speculative attacks on the rupiah, credit crunch seemed to be the most effective measure to produce an immediate result. But this measure, as widely predicted, hurt the stock market.
Encouraging, though, was the central bank's consistency with its commitment not to resort to any abrupt policy about-faces, such as that by Thailand which created a two-tier currency market and that by Malaysia which imposed restrictions on swap transactions. Bank Indonesia tightened the money supply through open-market operations: raising the rates of its short-term certificates early last week to soak liquidity from the market and at the same time stayed out of the short-term money market securities. Consequently, interbank rates surged, forcing many banks to increase deposit rates in order to attract new funds.
But the credit crunch is inimical to the stock market because high interest rates usually create a bearish sentiment on equity investors. The tight monetary measure hit the stock market in two major ways. One was the pull factor whereby the higher yields (interest rates) offered by the short-term money market lured funds out of the stock exchange. The other was the push factor whereby higher interest rates were feared to decrease corporate profits.
Though most analysts still saw the Aug.7 fall in the Jakarta Stock Exchange's composite index as too steep, especially because the monetary authorities had assured the business community that the credit crunch was only an ad hoc measure to discourage currency speculations. True to its promise, Bank Indonesia lowered the rate of its seven-day certificates by 50 basis points to 9.5 percent on Friday, though it maintained the rate of its overnight certificates at 14 percent because the currency market had not yet been firmly stabilized. Calm was immediately restored to the market and another bloodbath was avoided on that day as the composite index fell by only about 0.4 percent. But the exchange suffered another significant price fall of 2.56 percent yesterday on jitteries about the rupiah rate.
Even though the steep fall in the share prices could partly be attributed to panic, the unusual slide seemed to point to lingering jitters about the rupiah and the economic fundamentals which support the currency rate. These inordinate worries seem to signal that the market condition does not simply reflect the spillovers of the attacks on the Thai baht and Philippine peso.
The adverse impact of the tighter monetary measure on the liquidity in the banking sector seemed to strengthen analysts' suspicions that the condition of many banks might not be as sound as their published balance sheets show. Recent media reports on scandals at several banks, though a very small number compared to the total 237 banks in the country, could add to the lingering worries.
It is therefore imperative that the central bank acts firmly, quickly and transparently to solve the problem of ailing banks before the situation worsens to the same extent which set off the banking crisis in Thailand. Experiences in Mexico in late 1994 and now Thailand, both categorized as emerging markets, show that a banking crisis was the trigger of a currency fiasco with all its adverse implications on the macroeconomic condition.