The Asian

Financial Crisis:
Indonesia and
the Currency MM5006 Business Economics
Board Proposal
SYNDICATE 10
Anthony 291 17 005
Sofia Pujiasti 291 17 053
Afriska Yuni Anggraini 291 17 238
Arfan Nur Akbar 291 17 246
How did the Indonesia 1998’s Crisis happen?

2nd July 1997 Thai government floated baht with the exchange rate dropped sharply
The central bank announced that exchange rate was widening the band
Mid July 1997
to +/- 6% to increase the risks faced by currency speculators.
Indonesia’s central bank entered foreign exchange market, spend US$1
End July 1997
billion to defend the currency
14th August 1997 Defense failed, currency continued to decline, in two days it drop of 15%
The actual dimensions of the debt problem began to emerge, then the
6th October 1997 International confidence waned, thus Rupiah fell to a new low of 3.846 to
the US dollar
Rupiah fell 60% and the local banking system on the verge of collapse a
8th October 1997
nd Indonesian companies defaulting on their loans
November 1997 Two-thirds of the country’s banks had experienced runs.
Soeharto presented 1998 budget which breached the IMF conditions and
6th January 1998 Indonesia’s pledges, by failing to end subsidies, failing to end monopoly,
and failing to run a surplus
How did the Indonesia 1998’s Crisis happen?

Confidence in the international investment collapsed, sending Rupiah to

8th January 1998
10.000 to the USD
Soeharto announced that he would stand for a seventh five-year
18th January 1998
term as President, and chose B. J. Habibie as Vice-Presidential
23rd January 1998 Rupiah had fallen to 16.500 to the US dollar

The background to the major problems that have emerged within

Indonesia's 1998 crisis is the rapid fall in exchange rates in other
Southeast Asian countries such as Thailand, South Korea and Malaysia
since mid-1997. There is less optimism about Indonesia because the
country's political weakness has meant that the government didn’t
develop an effective policy response. There are serious outflows of capital
that could trigger automatic increases in interest rates to levels that
could lead to widespread bankruptcies and job losses.
How did the Indonesia 1998’s Crisis happen?

At first, the Rupiah was initially not affected by the pressure on

other Asian’s currencies when they began to fall. However, the
Panic selling of rupiah for dollars by Indonesian companies
with dollar-denominated debt showed that private foreign debt
was far higher than previously thought. The crisis worsened in
Indonesia because of the lack of an effective government policy
response.

The Government liquidated 16 private domestic banks in

November. The lack of confidence in the banking sector was
dramatically demonstrated when rumors of the death of the
major shareholder of Indonesia's largest private bank, Bank
Central Asia, almost sparked off a run on the Bank.
How did the Indonesia 1998’s Crisis happen?

There is no single factor that can be identified as the primary

reason of the Indonesia’s 1998 crisis. Rather, it was a
confluence of factors; fundamental weaknesses in the financial
sector, unhedged foreign debt of the corporate sector,
institutional weaknesses, and political instability; that caused
what was initially viewed as a the source of the problem that
cause the crisis.
The Impact of Crisis on Business in Indonesia

▸ The weakened of the

Indonesian currency
against the currencies of
other countries;
▸ The weakened of the
rupiah followed by a rise
in domestic prices which
led to panic buying - public expectations of price increases;
▸ Termination of access to foreign capital loans;
▸ Domestic goods are more expensive than goods from abroad;
▸ The collapse of Indonesia's currency and the consequent
exposure of the private sector to massive unrepayable foreign
debt has had a devastating impact on employment, especially
in urban areas;
The Impact of Crisis on Business in Indonesia

• A crisis affecting the bank's performance;

the bank suffers from an imbalance in the
intermediation function because the bank
experienced runs;
• As a result, the bank is not credible
enough in terms of profitability, this
has an impact on the continuity of banking capital;
• Losses suffered by this bank will lead to bankruptcy;
• Capital fleeing could not be stopped;
Should Indonesia accept the IMF’s reform
programs?
On 31 October the IMF announced a $US23 billion rescue package
designed to stabilize Indonesia's currency and restore confidence in its
financial markets. It also included a number of conditions aimed at
restructuring the country's financial sector and deregulating the
economy, cutting government expenditure, reforming trade and industry
policy and improving transparency in relations between business and
government.

The last condition was especially sensitive because it involved

dismantling the monopolies and special assistance provided to
businesses and projects owned by the family and close associates of
President Soeharto; have become the symbol of the 'crony capitalism'
which has undermined confidence in the Indonesian economy. Such
special treatment have been one of the main dejection within Indonesia
and, internationally,
Should Indonesia accept the IMF’s reform
programs?
A second IMF agreement in January 1998 set out in more detail a
program designed to prevent an economic contraction, contain
inflation to 20 per cent in 1998 and move the current account from
deficit into surplus.

The agreement specifically mentioned the elimination of support to

the aircraft industry and the special tax and credit privileges of the
National Car project to be revoked, the restriction of the BULOG
(Indonesia's food distribution agency) trade monopoly on the
import of sugar and wheat). The Government also agreed to phase
out energy subsidies by gradually increasing the price of fuel and
electricity, and 12 major infrastructure projects would immediately
be cancelled.
Should Indonesia accept the IMF’s reform
programs?
Issues regarding implementation of the IMF rescue package have
assumed center stage of debate about the future of the Indonesian
economy. Despite President Soeharto's public commitment to
implementing the reforms in the plan, it soon became apparent that he
was reluctant to accept their full implications.

Further indications were that Soeharto wanted to protect the monopoly of

basic commodities trade held by BULOG and to maintain funding for the
heavily-subsidized state-owned aircraft industry.

But with implementing the IMF formula also come some criticisms from
the experts, with differing points of view, that its recommendations are
inappropriate for Indonesia's economic circumstances.
Should Indonesia accept the IMF’s reform
programs?
Currency boards systems are attractive alternatives because
they eliminate the inherent conflict in pegged systems between
exchange rate and monetary policies. They also can serve as an
important source of discipline on otherwise uncontrolled fiscal
and monetary policies.

A proposal to introduce a Currency Board system, under which

each rupiah would be backed by US dollar reserves, was widely
criticized as unworkable and aimed at securing the assets of
powerful business interests rather than in solving the country's
currency problems.
Should Indonesia accept the IMF’s reform
programs?
Some of the objections to an Indonesian currency board were
clearly arguments ad hominem. President Seoharto was seen as
just another Ferdinand Marcos, believed to be putting forward
the currency board merely as a vehicle for getting his money out
of the country at an artificially overvalued exchange rate. Once
the fixed rate was in place, so the story went, the Soehartos
could have exchanged their rupiah for dollars at the new,
favorable fixed rate and sent those dollars to Switzerland.