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Policy Response to Overcome Crisis: A Lesson from Indonesian Case

Policy Response to Overcome Crisis: A Lesson from Indonesian Case. Hendri Saparini Senior Economist - ECONIT Advisory Group saparini@econit.com hendrisaparini@indopolicy.com.

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Policy Response to Overcome Crisis: A Lesson from Indonesian Case

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  1. Policy Response to Overcome Crisis:A Lesson from Indonesian Case Hendri SapariniSenior Economist - ECONIT Advisory Groupsaparini@econit.comhendrisaparini@indopolicy.com Presentation for IDEAS Conference on “Re-regulating Global Finance in the Light of the Global Crisis”Tsinghua University, Beijing, China, April 9-12, 2009

  2. The 1997/98 Crisis: Pre-crisis Crucial Problems on Financial Sector: • Cross-ownership & cross-management in financial sectors • Over-valued rupiah • Over-leveraged private foreign loan

  3. The 1997/98 Crisis: Policy Response Policy blunder under IMF receipt: • Super tight money policy • To liquidate of 16 banks • Take over private sectors debt • Budget dicipline, reduce subsidy, raise tax, privatization. • Acceleration of liberalization in real sectors (agriculture, industry)

  4. ECONIT Economic Outlook 2008: A YEAR OF THE BUBBLES INTERNATIONAL USA (2008/09) Thailand (1997/98) FACTORS • Carry - over of Subprime lending • Liquidity crises • Fiscal Deficit (1,2%GDP) • Depreciation of • Trade Deficit (US$ 850 bio) Overvalued Bath • Current Account Deficit (6%GDP) Direct Linkages • • Lags Lags Linkages: Linkages: • • % % Coupling Coupling DOMESTIC • • Capital outflow Capital outflow FACTORS • • Sharp Fall of Rupiah Sharp Fall of Rupiah 1997/98: Political Instability • Violation of Legal Lending Limit • Overvaluation Rupiah • Government Lack of • Private debt: Huge & no record Credibility & Confidence • Ineffective Government 2007/08: • Price driven export growth Social & Political Effects 1997/98: Supply & Price Hike 1997/98: Supply & Price Hike • Inflows of hot money • Artificial Growth of Banking sector • Stock prices >> fundamentals • • Energy (Gasoline: 71% Energy (Gasoline: 71% Kerosene: 25%) Kerosene: 25%) Indonesian Subprime Loans: • • Rice (>100%) Rice (>100%) Motor Cycles Loans • • Commercial Property • Electronic Loans 2008/09: Supply & Price Hike 2008/09: Supply & Price Hike • Credit Cards Structural Problem Structural Problem • • Energy (Oil&Gas) Energy (Oil&Gas) • • Rice, Wheat, Cereals Rice, Wheat, Cereals • • High Poverty (40 mio) High Poverty (40 mio) • • Huge Inequality Huge Inequality • • Sugar Sugar • • Unemployment (12%) Unemployment (12%) • • Palm Oil Palm Oil Social & Economic Effects • • Soybean Soybean © ECONIT Advisory Group

  5. The 2008 Crisis: Pre-Crisis Financial bubbles and deindustrialization Contradiction between improving financial indicators and slowing growth of real sector combining with accelerating deindustrialization

  6. The 2008 Crisis:The Financial Bubbles • The main reason for the emerging contradiction between the performance of the financial and real sectors is the inflow of hot money into Indonesia. • The total value of hot money that has entered Indonesia since 2006 up to December 2008 is thought to exceed Rp 140 trillion. • The inflow of hot money has strengthened the rupiah against other currencies and bid up the prices of domestic assets. The Jakarta Stock Exchange Index (IHSG) increased by 57 % in 2007, closing at 2,830 (Jan 9, 2008). The rupiah strengthened to an average rate against the US dollar of Rp 9,142 (2007).

  7. The 2008 Crisis: Reasons For Susceptible to A Shock • Price driven export growth • Share price increase exceeded the fundamental • Artificial growth of banking sector • Indonesian subprime loan

  8. 1. Price Driven Export Growth Export and foreign exchange reserves have increased only because of rising international commodity prices and inflows of hot money. Throughout 2006 and 2007, Indonesia’s foreign exchange reserves have increased sharply from US$ 35 billion at the end of 2005 to US$ 57 billion at the end of 2007. But, the rise in reserves was not supported by export competitiveness or an increase in foreign direct investment.

  9. Contribution Share to Commodities To growth Export of Growth Non-OilGas 1 Nickel 16.3% 3.8% 159.5% 2 Copper 14.4% 8.5% 31.5% 3 Machinery and equipment 14.0% 7.4% 36.6% 4 CPO 10.8% 6.7% 29.8% 5 Chemical Product 9.6% 7.0% 24.3% 6 Coal 6.7% 7.6% 14.5% 7 Textile 3.4% 11.1% 4.5% 8 Paper 2.6% 4.6% 8.6% 9 Rubber 2.3% 5.3% 6.6% 10 Metal goods 2.0% 1.1% 32.3% Total 10 commodites 82.1% 63.1% 22.6% Total Non-Oil Gas 100.0% 100.0% 16.5% Export: Dominating by Commodities (2007) ECONIT Advisory Group Sources: BI

  10. Mining Comodities: Price Index Iron Ore Copper Nickel Alumunium Sumber: IMF, diolah ECONIT Advisory Group

  11. The Sharp Declining of Mining Product Zinc Uranium Nickel Copper Alumunium ECONIT Advisory Group Sorce: IMF

  12. Agriculture Commodities: Price Index Rice Wheat Soybeans Maize Palm oil ECONIT Advisory Group Sumber: IMF, diolah

  13. The Decline in International Price Didn’t Follow by Domestic Price:Oil & Gazoline ECONIT Advisory Group

  14. The Decline in International Price Didn’t Follow by Domestic Price:Rice ECONIT Advisory Group

  15. The Decline in International Price Didn’t Follow by Domestic Price:Cooking Oil ECONIT Advisory Group

  16. 2. Share Price Increase Exceed The Fundamental • Early January 2008, fifty-one companies listed on the exchange recorded price-earnings ratios in excess of fifty, and 26 of these posted ratios greater than 100. Remarkably, the prices of eleven stocks on that day were more than 300 times of earnings. • Soaring stock prices not supported by economic performance reflects the formation of a financial bubble.

  17. Hot Money Inflow *) November ** end of Agust 08 =106.7 (19.8%) ECONIT Advisory Group

  18. Jakarta Stock ExchangeIHSG Growth at Highest Pace ECONIT Advisory Group

  19. Jakarta Stock Exchange Fell the Lowest after 2008 Crisis ECONIT Advisory Group

  20. 3. Artificial Growth of Banking Growth of the banking sector was largely an illusion. On 2007 the banking industry recorded sharply higher profits. The Net Interest Margin(NIM) for 2007 was 5.7% The wide gap between interest rates on loans and savings generated profits, which attracted investors into the banking industry. The banks’ share prices skyrocketed as a result. Yet profitability in the banking sector was not supported by strong fundamentals, for example credit growth. In 2006, bank credit by only 14%, followed y 25% in 2007. But consumer credit was the fasting growing sector. We expect credit growth of about 20% in 2008.

  21. 4. Indonesia Subprime Loan • Since 2007 the financial bubble has grown quickly and consistently, extending in early 2008 to the property, consumer credit such as motorbike loans and credit cards. • The boom in commercial property investment has not been met by an accompanying increase in demand. Occupancy rates have fallen as result of the slow growth of investment. In 2007, gross investment increased by only 8 percent from the low levels of the year before. • Another model of subprime loan is the huge of motor cycle loan. Poor public transportation has caused high cost transportation. As a result, motor cycle loan was booming. Until 2007 at least there were 5 millions motor cycles in Indonesia, of which three fourth were sold through leasing companies.

  22. Acceleration of Deindustrialization Real GDP vs. Manufacture Production Index Real GDP Index Manufactur Production Index ECONIT Advisory Group

  23. Growth of GDP and Manufacturing SectorThe Gap Become Wider ECONIT Advisory Group

  24. Crisis 1997 Crisis 1997 - - 1998 1998 Crisis 2008 Crisis 2008 Origin Thailand US Origin Thailand US Foreign exchange reserves Foreign exchange reserves US$ 24 billion US$ 24 billion billion billion US$ 51 US$ 51 Import Import billion billion billion billion US$ 3.8 US$ 3.8 US$ 11 US$ 11 4.6 X 4.6 X Ratio Ratio Forex Forex Reserve/Import Resv/Impor 6.3 X 6.3 X Hot Money (5 years before crises) Hot Money 5 year before crises billion billion billion billion US$ 14.8 US$ 14.8 US$ 24.5 US$ 24.5 Debt/GDP Ratio Ratio Debt/GDP 50.0% 50.0% 37.3% 37.3% Stock Stock billion billion billion billion Foreign Debt Foreign debt US$ 129 US$ 129 US$ 146 US$ 146 Decline Decline World demand World demand Stable Stable Protective Protective Int'l trade Policy Normal International Trade Policy Normal Int Int ’ ’ l Commodity Prices in l Commodity Prices in Rp Rp Increase Increase Decline Decline Exchange rate of Exchange rate of Rp Rp Weaken Weaken Weaken Weaken Rp Rp 5.100 trillion 5.100 trillion Consumption Level Consumption Level trillion trillion Rp Rp 900 900 Comparison of Crisis 1997/98 and 2008 ECONIT Advisory Group

  25. The 2008 Crisis: Policy Response Repeating the same blunder and disengaging real sectorSuper tight money policy: • Increase the interest rate • The buy back policy • Fiscal stimulus

  26. Indonesia Policy ResponsesThe Monetary Policy • The decision of Bank Indonesia and the government to impose a tight money policy demonstrates that the government has learned nothing from the 1998 crisis. • Since January 2009, Bank of Indonesia have been reducing interest rate. The effectivity of monetary policy alone will be a limition. Loose in liquidity and interest rate policy  speculation and depreciation of exchange rate

  27. Indonesia Policy Responses The buy back policy • The government has prepared Rp. 4 trillion in government funds and has encourages State Owned Enterprises (SOES) to buy back shares to lift stock prices. • It was not an effective action to cure the economy turmoil, even for only in the capital market. To push SOEs to buy back stocks up to 50% without general share holder meeting shows imprudent action in decision making. • Shown unsupportive policy to samall investor as 60 % of Indonesia money market was controlled by hedge fund and foreign investor.

  28. Indonesia Policy Responses The Fiscal Stimulus This counter-cyclical policy will not effective • The effectiveness of fiscal stimulus will be very low; in the last 4 years the government performed weak fiscal management • 80% of the fiscal policy was allocated as tax saving, not for direct spending. • Increase budget deficit, from 1% (Rp 51 trillion) to 2,6% to the GDP (Rp 137 trillion) • Financed by foreign loan and domestic loan (government obligation).

  29. Fiscal Stimulus 81% are Tax Saving, Tax Subsidy, Import Duty ECONIT Advisory Group

  30. Indonesia Policy Responses Policy on Trade and Industry • The government will to continue Washington Concensus (cut subsidy for food, education, oil, increase loan, etc.) • Governemnt officially stated ‘IMF and World World Bank are the umbrella to overcome the crisis’ • Officially stated to continue liberalization and against potection • Continue create new FTA without industrial policy and stategy

  31. Indonesia Crisis:The Proposal for Policy Responses • Re-orienting policy in the financial sector (strictly managing the hot money and capital control/capital regulation must be one of the priority to support the real sector) • To change the hands-of policy to hand-on policy on real sector. • To create value added (develop/restructure the manufacturing industry) and increase the productivity for better fundamental economy and stronger economic structure. • To solve the high poverty rate and huge unemployment. • The government should minimize the amount of debt, but re-orienting and re-alocating budget to give fiscal stimulus

  32. World’s Tin Production (2007) Source: World Mineral Production, 2003-2007, diolah ECONIT Advisory Group

  33. World’s Tin Demand, Based on Use (2005) ECONIT Advisory Group Source: PT Timah Tbk, 2007

  34. Indonesian Imports ofTin Based Products (US$ juta) Source: Ministry of Trade

  35. Indonesian Public DebtIncrease by 31% in Four Years Source: Ministry of Finance ECONIT Advisory Group

  36. Indonesian Public DebtDecrease In Ratio Increase in Stock Debt Stock Debt/GDP Ratio ECONIT Advisory Group

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