Customer Reviews

Developing Country Debt and Economic Performance, Volume 3: Country Studies--Indonesia, Korea, Philippines, Turkey (National Bureau of Economic Research Project Report)

5 star:		(1)
4 star:		(0)
3 star:		(0)
2 star:		(0)
1 star:		(0)

 

 

Indonesia financial troubles were a result of large account deficits. Massive debt and forced foreign loan repayment caused the Rupiah too fall from 15,000/$1 to 2,400/$1 in 1997. Economic output would shrink by 14% and unemployment increased to 15%. Financial troubles did not seem predictable, as the Central Bank had $20 billion in reserve currency. Indonesia's top seven largest banks owned 50% of the financial assets with preferential treatment extending loans to favored business. Risk management was pushed aside in the rush for growth and state banks exceed 25% bank loan limits. Further compound no credible banking practices was the fact that Bank of Indonesia knew about bribes for loans but turned a blind eye. Rupiah selloff initiated because investors saw a gloomy perspective on the region and the rupiah was linked to the dollar and policy makers did not want to use the $20 billion reserve to stop the devaluation of the rupiah. Indonesian banking financial system was heavily in debt too foreign market. Indonesia loans owed $55 billion to foreigners. Businesses and corporations assumed financial surplus and the high levels of dollar reserves would help the rupiah survive devaluation. Business were not thinking about problems in obtaining dollars in the case the debt burden caused a shortage of available dollars and a falling rupiah valuation would increase the burden of repaying the debt. Risk of not being able to pay off dollar loans would breed Panic and cause foreign debt creditors too demand payment in full on loans coming due, reversing lax monetary policies and cause a scramble for dollars furthering the drop in rupiah value.

IMF wanted high interest rates and Muslim bankers wanted cheap credit flows. Structural reforms were a condition for receiving the $33 IMF billion bailout loan. First to go was the BULOG cartel, an import and marketing monopoly. IMF reasoned absolving the cartel would open up the market allow prices too competitively adjust. Also, the chemical industry would lose some of its tariff protections.

Surgically, removing ailing banks to restore credibility, but what happened was a drop in consumer confidence. In 1933, Roosevelt employed a similar tactic shutting down ailing financial institutes. The IMF reason bank closures would send a positive message, "banks can not continue operating unprofitably" and clean up banks that were riddled with bad loans. The good and bad bank list caused a run on the money by depositors, who moved money from private banks to state owned banks. Private banks lost 12% of their rupiah deposit and 20% of their foreign currency deposits. Interestingly, the 16 banks closed only represented 3% of the total assets. What was at risk was financial confidence, as people thought the banks were weak. A strong measure of political and financial action was required to restore public faith in the system. People wanted a government guarantee on all deposits. The IMF did not want an expensive taxpayer guarantee and was divided on policies that benefited the rich. The IMF chose to protect the small investor providing 20 million rupiah guarantee approximately $5,000. The indecisive solution did not stop the run on the deposit and the rupiah fell to 4,000/$1 and the government continued to inject money into the system as runs continued. The Indonesian central bank injected money into the bank system equally 10% of GDP.

The IMF wanted to rise interest rates which would stabilize currencies by providing irresistible yields keeping local money invested and once the panic abated the interest rates would return to reasonable rates. The US treasury people liked the interest rate hikes. Indonesian banks were desparate for funds offerring 75% annual rates for dollars.

A contrarian opposition argument suggests interest rate hikes contending that the IMF did not need interest rate increase but confidence building policy; interest rates would exacerbate the problem by increasing inflation and Indonesia did not need inflation. Higher interest rates only caused corporations and businesses too go further in the red, as they struggled to make interest payments. Inflation devalued collateral and so external financial institutions lend less to Korean banks as the currency devalued. Currency devaluation caused widespread bankruptcies and a crisis of confidence.