THE ASIAN FINANCIAL CRISIS:

INDONESIA & THE CURRENCY BOARD PROPOSAL

Adi Wiyana| Anna Tasia | Arie HW | Garry Jonathan

Herry Nico S. | M. Wira Kusuma | Nugroho Setyo
 PRIOR TO THE CRISIS
 The collapsed of the Thailand Baht
 July 2, 1997: The fixed exchange rate is abandoned
& the Thai Baht was floated freely, devaluing by
25%.

 The financial issue affected other countries:

 Contagion Effect – the crisis spread because of
investors worrying that other countries in the region
would face similar problems.
 Caused reversal economic growth in the region.
 SUGGESTION BY WORLD ECONOMIC EXPERTS
 Steven Hanke:
 Indonesia should set up a currency board system to stabilize the currency.
 Currency board would fix the value of the Rupiah to US Dollar, offering currency
stability while removing government discretion over monetary policy.

 Michael Camdessus – Managing Director of IMF

 If a currency board proposal were adopted, it would shrink the reserve basis for
the currency board and undermine its very slim chance of success, because of the
risks to the Indonesian economy, and IMF would discontinue its support to
Indonesia.
 Soeharto’s Dilemma:
 Should he follow IMF’s prescripts & abandon currency board plan

 Should he go ahead with the currency board to stabilize the currency &
risk losing the support of IMF & international financial establishment.
 CAUSE OF INDONESIA’S ECONOMIC CRISIS OF 1997-1998
 Stock of private foreign debt is very large & generally short terms – created instability
conditions.
 1992 until July 1997 – 85% of Indonesia’s foreign debt increased comes from private loans. – Similar
to other countries in Asia hit by the crisis.

 Weaknesses in Indonesia’s Banking system.

 External private debt problem immediately turning to the domestic banking problems
 Banks experienced undercapitalized, but still allowed to operate. So, when the Rupiah began to
depreciate, the banking system is not able to place itself as a ‘shock damage’, and became a direct
victim of an unhealthy due to their balance sheets.

 Increased lack of clarity about the direction of political change

 Caused by Presidential Decree, which only benefit Soeharto’s family.
 Lack of transparency, protection, & legal certainty. This issue is often associated with high ‘hidden
costs’ that must be paid when the people doing business.

 The slow development of the political situation due to the economic crises, which
increased the economic crisis itself, and failed to restore stability in the socio-political
issue.
 CHANGE OF GOVERNMENT POLICY
 Government seek support from IMF with 4 conditions:

 Restructuring financial sector with measures including closing non-viable institutions, merging
state banks & establishing a timetable for dealing with remaining weak institutions, improving
the institutional, legal & regulatory framework for the financial system.

 Structural reforms were to be implemented to enhance economic efficiency & transparency,

including liberalization of foreign trade and investment, dismantling of domestic monopolies &
expanding the privatization program.

 The Rupiah was to be stabilized by retaining a tight monetary policy & a flexible exchange rate
policy.

 Fiscal tightening equivalent to about 1% of GDP in 1997/1998 and 2% in 1998/1999 were to be

undertaken to yield a public sector surplus of 1% of GDP in both periods, to facilitate external
adjustment & provide resources to pay for financial restructuring.

Even after IMF’s intervention, the Rupiah had continued its downward spiral.
1998 CRISIS

 Riots had erupted in several East Java towns due

to commodity over rising price.
 January 8, 1998: USD 1 = IDR 10,000.
 Soeharto’s was pushed by US President, Japan
Prime Minister, & others leaders to implement
IMF reforms.
 January 23 1998 rupiah had fallen to Rp 16.500
to USD
 THE CURRENCY BOARD
 Means that make fixed exchange rate with foreign currency, in this case to
USD.
Hanke’s opinion:
 If rupiah holders switched to USD, the rupiah money supply would

contracted and rupiah interest rate would rise. And if holders of USD were
attempted by high rupiah interest rates to buy rupiah, local interest rates
would fall.
 If CBS successfully stabilized rupiah, many companies and banks with debts

in foreign currency would be able to pay off their debts and become solvent.
 1 USD = Rp 5000.

Others’ opinion:
- currency board could led to further economic and social disruptions so it
would collapse Indonesia and even greater difficulties.
 CONCLUSION
 Soeharto’s dilemma between decide to float currency rate or
implement the CBS.

Suggestion:
 Keep implement float currency rate because Indonesia didn’t

have enough foreign currency reserve to implement CBS.

 By doing floating currency rate, Indonesia has ability to set

monetary policy according to other domestic considerations.

THANK YOU !!