Yesterday Once More: Indonesian Rupiah Besieged

I sometimes despair that we are revisiting the dark days of the Asian financial contagion. South Korea's plight has already been discussed [1, 2]; now let us turn our attention to Indonesia. Though Indonesia's fundamentals are reckoned to be much sounder this time around, there are several things roiling the country at the current time:

The default by the Netherlands-based Indonesische Overzeese Bank (Indover) had prompted some investors to ignore Indonesia’s relatively healthy economic fundamentals amid concerns that south-east Asia’s largest economy might be at risk of a sovereign default.

Credit default swap spreads over US Treasuries, regarded as a key indicator of a nation’s sovereign risk, have ballooned to 1,245 basis points, more than five times higher than a few months ago and several hundred basis points higher than the spreads for Vietnam and the Philippines.

Increasing liquidity pressures in the banking sector, pressure on government bonds, high interest rates, a prolonged billion-dollar solvency crisis in the business empire of Aburizal Bakrie, the welfare minister, and rumours of disunity in the government are exacerbating pressures driven largely by negative sentiment towards emerging markets.

However, the government has adopted a proactive approach to increasing liquidity in the banking sector and the country’s economy remains fundamentally robust. The country’s debt to gross domestic product ratio is among the lowest in the region at 28 per cent, while the banking sector remains well capitalised.

“Indonesia’s economy is in a lot better shape than 11 years ago [during the Asian financial crisis], said Fauzi Ichsan, an economist with Standard Chartered in Jakarta. “The question is how strong will it be in standing up to the deterioration of the global economy.”

In light of these difficulties, Indonesian President Susilo Bambang Yudhoyono (SBY) finds himself in the same position as any number of other LDC heads at the current time: pressed to find solutions in keeping bad times from getting worse. He understands that defending the rupiah is a reserve-depleting strategem that probably won't work in the long run. Then again, alternatives are limited. Hopefully, the Carpenters song Indonesians will be playing is "Only Yesterday" and not "Yesterday Once More." Bloomberg hints at plans in the offing to quell the forces battering Indonesia:

Indonesia's President Susilo Bambang Yudhoyono said the government plans to announce a policy tonight to boost the rupiah after the currency plunged as much as 29 percent in the past month. The rupiah fell as much as 8.7 percent today before recovering to trade down 0.9 percent at 11,050 against the dollar, the lowest since July 2001...

``The most effective measure would be'' the central bank selling dollars, said Aldian Taloputra, an economist at PT Mandiri Sekuritas in Jakarta. ``But this problem is of global scale, so what the government could do is to minimize the impact of the outflow...''

``We cannot always solve this through intervention,'' Yudhoyono told reporters in Jakarta today, referring to the central bank buying the local currency. ``If the decline is because of fundamental reasons, what we must solve is the fundamental reasons.''

The Jakarta Composite index has declined 59 percent this year. Government bonds have dropped 17 percent, according to data from HSBC Holdings Plc, the worst among 10 Asian nations. Overseas holding of bonds have declined 11 percent from a record in August.

The rupiah is declining even as the government said it expects the budget deficit to narrow to 1 percent of gross domestic product, from its previous forecast of 1.3 percent, on declining oil prices. Southeast Asia's biggest economy is forecast by the government to expand between 5.5 percent and 6 percent next year.

The government is also considering lowering subsidized fuel prices after crude oil futures fell to the lowest since May 2007, with the contract for December delivery dropping 93 cents to close at $63.22 a barrel in New York yesterday.

Indonesia's central bank had $57.1 billion of reserves as of Sept. 26. The nation paid back its last loan from the IMF in 2005, four years before schedule. The Washington-based institution had arranged a $25 billion package between 1997 and 2003 to help rescue Indonesia's banking system and rehabilitate the economy by restructuring private and government debt.