On
21 January 2003, the Indonesian government, under
pressure from its legislators, declared that it wanted
to break free of its commitments to the IMF. Chief
Economics Minister Dorodjatun Kuntjoro-Jakti told
an annual meeting of donors that the government did
not wish to extend the existing $4.8 billion loan
package with the Fund. This credit line under the
Extended Fund Facility (EFF), of which up to $3 billion
has already been disbursed, is scheduled to expire
at the end of this year. The announcement came one
day after the government rolled back its most recent
price increases on utilities--a key plank of the economic
reforms agreed to with the IMF--after a two-week long,
nationwide protest.
On 1 January, the government of President Megawati
Soekarnoputri had raised the prices of fuel (22 per
cent), telephones (15 per cent) and electricity (6
per cent). These price increases were directly in
line with the government's commitment under the IMF
programme to cut state subsidies and narrow the budget
deficit. After the prices of utilities were raised,
protesters hit the streets almost daily against the
eighteen-month-old government. The subsidy cuts combined
with inflationary pressures have hurt impoverished
Indonesians the most. Inflation touched 10 per cent
last year and the government forecasts a 9 per cent
rate this year. In a country where more than half
the population of 220 million live on less than $2
a day, and more than 40 million people are unemployed,
these subsidy cuts really hurt the majority of the
people.
The protests continued despite a government proposal
to indefinitely delay the increase in telephone charges.
Clearly, in a situation, where only 3 per cent of
Indonesians have fixed telephone lines, delaying the
rise in phone charges would have no impact and the
demonstrators rejected the proposal saying it would
be of no help to the poor. It was the fuel and electricity
price hikes that were more severe and the target of
popular anger. The World Bank--whose backing was vital
for Indonesia to gain nearly $3 billion in financial
aid at a donors' meeting to be held the following
week--threw its weight behind the government, saying
that the price hikes were necessary to wean the country
away from hefty subsidies. Although the popular protests
were not expected to escalate into deadly riots like
those that had toppled former President Soeharto in
1998, the Megawati government, which faces elections
next year, decided not to take any further chances
and reduced the price hikes. The proposed new prices
raise the cost of fuel by only 6.5 per cent, instead
of the 22 per cent increase put in place in January.
This backing down on fuel subsidies, further propelled
the government towards making a decision on its IMF
loans.
The decision to part ways with the IMF, in fact, comes
as the culmination of years of discontent brewing
within Indonesia, ever since the East Asian financial
crisis savaged the country. There have, for long,
been many in the various Indonesian governments who
resented what they saw as interference by the IMF
and the World Bank in policy-making, and there have
been several battles of will between the IMF and the
Indonesian government over the implementation of anti-poor
'structural adjustment' measures, amidst increasing
protests by the people. This had led to the country's
highest legislative body, the People's Consultative
Assembly (MPR), urging the government in October 2002
to stop its cooperation with the IMF. In fact, it
issued a decree requiring the government not to extend
the current IMF programme when it expires late this
year, as it believed that the Fund could not be of
much assistance to overcome the country's economic
crisis. Despite having been 'nursed' by the IMF for
five years, the Indonesian economy was only getting
worse because the 'recipes' provided by the Fund had
proved ineffective. It was suggested that it would
be better for Indonesia to overcome the economic crisis
on its own by making optimum use of its capacities.
It was in October 1997 that Indonesia's recent tryst
with the conditionalities-attached IMF loan package
began, when the government turned to the Fund for
an emergency debt package totalling $43 billion. This
was soon after Indonesia's currency began sliding
following the dramatic reversal of capital flows into
the country, itself triggered by the 'contagion effect'
that followed the devaluation of the Thai baht in
July 1997.
Under its first three-year US$5 billion Extended Fund
Facility to Indonesia, the IMF prescribed its now
much-maligned tight macroeconomic formula: i.e. a
strict monetary policy to stabilize the exchange rate
and a tight fiscal stance to reduce the fiscal deficit.
Interest rates were immediately increased in order
to stabilize the rupiah. However, despite the IMF's
intervention, the high interest rates failed to influence
the exchange rate to any significant degree, as capital
outflows continued. Further, the high interest rates
led to a severe liquidity crunch. As the economy went
into contraction, there was a steep rise in company
closures and unemployment. While the Soeharto government
maintained that the rapid spread of poverty made increased
subsidies on items such as food and fuel essential,
the financial markets construed President Soeharto's
failure to embrace fiscal austerity in the January
1998 budget as a reflection of the IMF's inability
to enforce discipline on the government. This led
to further collapse of the rupiah, driving about 75
per cent of Indonesian businesses to technical bankruptcy
due to the large foreign debts they had accumulated
over the period of financial liberalization prior
to the crisis. In this increasingly desperate situation,
true to its tradition, in a new Letter of Intent (LI)
issued in January 1998, the IMF secured a greater
number of even more stringent reform commitments than
in the October LOI. However, the introduction of this
second package of IMF reforms also did not lead to
immediate stabilization.
The January agreement led to sweeping reforms including
the dismantling of state and state-enforced monopolies,
elimination of consumer price subsidies, phasing out
of utility subsidies, and further trade and investment
liberalization. The specific steps to liberalize trade
and investment included reducing tariffs on all imported
foodstuffs products to 5 per cent and cutting non-agricultural
tariffs to 10 per cent by 2003; opening banks to foreign
ownership by June 1998; and lifting restrictions on
foreign banks by February 1998. Since the start of
the loan programme, the IMF has also persistently
pushed the Indonesian government to further open its
economy through various measures like the elimination
of monopolies and cartels, reform of the wood sector,
privatization of state-owned enterprises (SOEs) and
downsizing of the National Logistics Agency (BULOG).
As the International NGO Forum on Indonesian Development
(INFID)[i] has argued, the IMF has been constantly
demanding rapid reforms, including quick sales of
the Indonesian Banking Restructuring Agency's (IBRA)
assets and privatization of hundreds of state-owned
companies, regardless of the capacity of the state
to carry out the reforms in the time-periods envisioned
and the long-term impact of these programmes on the
Indonesian economy or the poor. Each time there was
a perceived delay in implementing any of the 'crucial'
measures which the country had committed itself to
in the Letters of Intent with the IMF, the Fund delayed
its country review, on which the next tranche of IMF
funds as well bilateral loans (i.e. from lenders in
the CGI belonging to the Paris and London Clubs) hinged.
These IMF interventions have resulted in the Indonesian
economy being the worst affected among the five East
Asian crisis-hit economies.
Prior to the 1997–98 financial crisis, Indonesia
had a relatively comfortable debt situation. The government
borrowed primarily from the World Bank, Asian Development
Bank, and a group of bilateral donors grouped in the
Consultative Group on Indonesia (CGI), for funding
its development budget. Establishing this as a convention,
the government avoided domestic borrowing, and Indonesia's
debt/GDP ratio was considered sustainable by the multilateral
bodies and other donors. Following the oil price crash
in the early eighties, Indonesia undertook banking
and financial sector liberalization without adequate
or prudential protection of its system. While its
debt management policies were considered adequate,
its financial liberalization which exposed the Indonesian
economy to the 1997 currency crisis was, until then,
considered a successful experience.
The situation changed in 1998–99, when Indonesia
for the first time contracted a large volume of domestic
debt to finance the bailing-out costs of the country's
crisis-hit banking sector. The bail-out was necessitated
by the crisis that occurred despite a decade of ostensibly
successful World Bank/IMF-promoted financial liberalization,
and because of the fact that the Indonesian government
had followed IMF advice to immediately restructure
its crisis-hit financial sector. With at least 70
per cent of bank loans estimated to be non-performing
following currency devaluation and the financial crisis,
at the direction of the IMF, the government closed
sixteen insolvent banks in November 1997, without
adequate preparation. The result was a near-collapse
of the entire financial system, which in turn forced
the government to recapitalize the banking system
by issuing bonds to domestic commercial banks and
the central bank. This created an estimated US$80
billion in new domestic debt, even as successive governments
after Soeharto inherited the substantial foreign debts
accumulated during his time. As a consequence, Indonesia's
official debt burden increased from 27 per cent of
GDP prior to the crisis to more than 100 per cent
by the end of 1999, before declining gradually. In
fact, Indonesia, which was ranked as middle-income
and middle-indebted before the crisis (at the same
level as its neighbours Thailand and the Philippines),
now belongs to the SILIC (severely indebted low income
countries) category, whereas none of the other crisis-hit
East Asian countries such as Malaysia, Thailand or
Korea are in the SILIC group.
The IMF has refused to assume responsibility for the
way its wrong policy advice exacerbated the crisis
and stalled the subsequent recovery. Further, instead
of providing a long-lasting solution to the debt burden
which they themselves had helped create and accumulate,
the multilateral bodies and bilateral donors have
continued to insist on policy measures requiring stringent
constraints on expenditure and increased revenue mobilization,
for servicing this sharply increased debt burden.
This has crippled the capacity of the Indonesian government
to mitigate the impact of the crisis on vulnerable
groups. From an estimated 9.6 per cent in 1996--the
year before the Asian financial crisis--Indonesia's
poverty rate doubled to 19 per cent in 2001. The government
has sought to support the increased number of people
who have fallen below the poverty line with three
kinds of measures: (1) temporary income transfers,
through rice distribution to the poor at subsidized
prices; (2) income support, through employment creation
and by support for SMEs and cooperatives; and (3)
preserving access to critical social services, particularly
education and health.[ii] However, most of the government's
efforts to mitigate the impact on the poor have been
limited by severe budget constraints. According to
Bank Indonesia data, in 2001, total amortization and
interest payments on Indonesia's domestic and foreign
debt reached almost 35 per cent of central government
expenditure. INFID (2001) estimated that the total
amount of the government's debt service would have
increased further to around 38.7 per cent of total
spending in 2002. In comparison, critically needed
development spending declined from about 45 per cent
of total government expenditure in 1993 to 33 per
cent in 2001, with more than half of this sum stemming
from donor-financed development projects. According
to INFID (2001 and 2003), social spending also suffered
a dramatic decline, around 40 per cent in real terms
below the spending in 1995/1996.[iii]
Meanwhile, notwithstanding the economic fall-out of
the October 2002 Bali terrorist attack, the 2002 budget
deficit is estimated to have fallen to under 2 per
cent of GDP, down from 3.6 per cent in 2001.
The windfall export earnings due to the oil price
rise contributed to this. The year 2002 also witnessed
a large reduction in Indonesia's public debt burden.
The public debt to GDP ratio fell from about 90 per
cent at the end of 2001 to almost 70 per
cent by the end of 2002. Apart from the continuous
reductions in government spending, this was achieved
through major government disinvestment programmes
and privatization. After the recapitalization of private
banks, the IMF exerted strong pressure on the government
to divest the assets it held in the form of banks'
shares. The Indonesian Bank Restructuring Agency (IBRA)
has now disposed of over half of the original portfolio
of NPLs taken over from weak and closed banks. In
2002, the government also sold its majority stakes
in two banks and in the international telecommunications
company--Indosat. In fact, the government exceeded
its 2002 privatization target of Rp 6.5 trillion,
collecting Rp 7.7 trillion. However, according
to INFID (2003), this divestment has produced relatively
small revenues compared to the high costs of servicing
the government bonds that had been issued to recapitalize
those banks. Further, the privatization programme--particularly
the sale of state-owned enterprises and assets while
simultaneously retaining the debt--has aggravated
the domestic debt burden.
The external debt stock has also fallen from its peak
at the end of 1999. As Figure 1 reveals, annual debt
payments until almost 2000 were achieved through swapping
of funds across the available channels for raising
funds. But, since 2000, the trends in all liabilities
(total liabilities to banks, trade credit, claims
on banks, multilateral and bilateral claims) have
turned negative, reflecting the mounting debt repayment
and servicing obligations for the country. It is thus
evident that the economy will continue to face a severe
liquidity crunch as outflows continue. Even though
Indonesia had sought rescheduling from the Paris Club
in 1998, 2000 and 2002, these agreements are only
for bilateral debts and exclude debts to private bond-holders
as well as multilateral creditors. Also, the rescheduling
excludes the best terms (including partial write-offs)
available under the Paris Club conditions. Further,
the enforcement of the Paris Club agreement is conditional
upon the progress of the programme laid out in the
government's Letter of Intent to the IMF.
Figure 1: Indonesia's External Debt: Flow Analysis,
1990-2002 Q3
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| Source: Based on Joint BIS-IMF-OECD-WB External Debt Statistics available at http://www1.oecd.org/dac/debt/. |
Despite its low income and SILIC status, the IMF and the World Bank consider that Indonesia does not qualify for debt relief under HIPC. The IMF and World Bank's assessment that Indonesia's debt is sustainable is sustainable is compromised by misleading and over-optimistic assumptions about Indonesia's growth rate, as well as by their status as creditors. According to the latest estimates from the Central Statistics Agency, growth rates in GDP, investment and export fell in 2002. According to Bank Indonesia data available till March 2002, net private capital inflows that turned negative in end-1997 have remained negative ever since. Another report has stated that while all the ASEAN countries have registered positive growth in FDI, Indonesian FDI inflows have failed to recover. An American-led attack on Iraq could further hurt investment in Indonesia, which has the world's largest Muslim population. A war in the Middle East is expected to send shipment costs soaring by more than a third and further erode cost-competitiveness. With a significant drop in tourism expected due to concerns about internal security following the Bali attack, and considering the effects of a slowing global economy since the previous forecast, growth in 2003 is expected to be about 1 percentage point weaker than previously estimated, or down to 3.5–4 per cent. On the other hand, while the share of oil and gas exports in total Indonesian exports showed a decline, from 31 per cent in 1992 to about 22 per cent in 2001, the share of oil and gas imports in total imports rose, from some 10 per cent in 1992 to 18 per cent in March 2002. Under these circumstances, servicing just the existing foreign and domestic debts will remain a huge burden on the country's development expenditures in the perceivable future, even without taking on new debt.
Those responsible for the creation of Indonesia's unpayable debts--the G7 creditors, the IMF and the World Bank--do not bear the financial risks associated with the loans they made to Soeharto, even as they continue to blame cronyism and corruption and seek legal and corporate reforms. In spite of the fact that a large chunk of this public debt in effect arose from their own misguided advice to the Indonesian government, the IMF and the CGI persist with their insistence on continued reduction of Indonesia's large public debt. It is clear that most of the costs arising from the failure of IMF/WB-supported liberalization of Indonesia's financial market and the malfunctioning of the banking system have been transferred from private financial institutions-- whether domestic or foreign--to the Indonesian public. This apportioning of costs between the public and private sectors has highly inequalizing consequences. At one level, the combination of a credit squeeze (the fact that the mandatory capital adequacy ratio was increased to 8 per cent last year as part of the government's programme to strengthen the banking system, also contributed to the credit squeeze), falling government expenditure for development purposes, and the increasing role of the private sector in public utilities with collusive pricing behaviour has led to unacceptable falls in the disposable incomes of Indonesian consumers. However, the inflexibility of the IMF in its fiscal deficit targets has made it difficult for the government to maintain subsidies at levels commensurate with falling income levels. At another level, the global economic slowdown, the uncertainties associated with the current conjuncture and the lack of international liquidity means that there are very poor prospects for quick resumption of export growth or of private capital flows into the country. Thus, by deciding not to extend the IMF loan, the Indonesian government has climbed out of the tough fiscal austerity prescriptions that have been hurting millions of its poor.
After initial uncertainty, Jakarta's donors under
the Consultative Group on Indonesia (CGI) have signalled
that they will give the nation the $2.6 billion aid
it wanted for 2003, despite its backing down on fuel
price. Clearly, the reality is that Indonesia is too
big and too important to fail, as the Economist has
conceded candidly. The IMF and the World Bank--key
proponents of raising prices on utilities to cut costly
subsidies--have now agreed that Jakarta's backdown
has to be viewed against the fact that social unrest
is not desirable and risks derailing what has been
accomplished thus far. The World Bank, which is leading
the Group's negotiations, had warned Indonesia earlier
that resuming subsidies might jeopardize requests
for new loans. Apart from being a big country, the
fact that Indonesia has been afflicted with political
instability and Islamic fundamentalism has also influenced
the external decision-making process, especially in
the face of the 2004 elections. Indonesia, though
an ally of the US in the global war on terrorism,
opposes military action in Iraq. In the current conjuncture,
the donors are acutely aware of the danger of social
unrest in the world's most populous Muslim nation,
which has been buffeted by five years of economic
turmoil since the 1997–98 Asian economic crisis.
This is why, while earlier pleas that the Indonesian
government is unable to repay its debt without imposing
unbearable hardship on the poorest sections of society
fell on deaf ears and the government was forced to
undertake drastic measures, the present turnaround
by the Indonesian government is seen as justifiable.
Recently, social and political unrest in many debt-ridden
countries, primarily caused by conditionalities-imposed
economic hardships, has come to be seen by the World
Bank and the IMF as derailing the 'hard-won' financial
stability in those countries; they have therefore
allowed some flexibility in the reform measures demanded
of these countries. Clearly, however, the more the
desirable thing would be to avoid, in the first place,
the ideological prescriptions that lead to such mass
suffering. At another level, should not the multilateral
bodies, which are linking up their aid and loan packages
to democracy-linked electoral reforms in debtor countries,
be viewing the popular protests as indicators of increasing
political participation by the affected populations
in these countries? Apart from democratic reforms,
it is indeed interesting to see that the Bank and
Fund-advocated decentralization, which on the whole
is acknowledged to have proceeded satisfactorily,
is now being perceived by them as a problem for both
existing businesses and prospective investors, in
terms of new and conflicting regulations and taxes
at the regional level.
It has been seen time and again in East Asia, Latin
America (where Argentina has witnessed the most recent
devastation) and elsewhere that IMF–World Bank
programmes which are driven by an absolutist ideology
do not work at all in crisis scenarios, and in fact
make them worse. It has also been seen that there
is very little scope for these leviathans to change
their course when confronted with the crises, failures
and suffering perpetrated by their misguided policies
until the consequences seem to affect the interests
which they themselves represent. In a recent instance
of reversal of stance, four years after describing
Malaysia's decision to peg its currency to the dollar
during the financial crisis in 1998 as a 'retrograde
step’, the IMF has said that the peg is an 'anchor'
of a rebounding economy.[iv] In a December 2002 report,
the Fund has stated that Malaysia is better off for
having ignored its advice. Clearly, however, other
East Asian crisis countries that followed the Fund
advice are not going to benefit at all from this admission
of the IMF. Further, despite such pronouncements at
convenient times, the Fund continues to impose the
same set of macroeconomic measures on countries facing
a payments crisis. For instance, under an interim
agreement reached after a year of negotiations, the
Fund agreed to roll over, or reschedule, about $6.8
billion in Argentinian debt that is due through August.
But it is feared that even the modest terms imposed
as part of this agreement will include imposing sharply
higher utility rates, creating bigger budget surpluses
and severely restricting the amount of money in circulation,
all of which will further deteriorate the prospects
for economic recovery in that country. Thus, apart
from delinking itself from its financial responsibilities
in taking on the risks of its sovereign credits, and
perversely gaining from major policy errors and going
on to compound them, the Fund has demonstrated that
it has no moral responsibility either.
Against this backdrop, Indonesia's decision to finally
ask the IMF to pack its bags rather than continue
to follow the path to utter deprivation for its citizens,
clearly seems to be the most 'rational' choice that
could have been made. This is the latest in a series
of instances where a number of countries, including
Botswana, have either opted out of IMF programmes
or refused to initiate the structural adjustment programme
(SAP). This is clearly reassuring and holds the promise
of encouraging further such 'rational' choices among
countries facing the pressures of neo-liberal reform.
This will also encourage countries to turn towards
seriously addressing their domestic socio-economic
problems.
In the final analysis, it is important to ensure that
small developing and least developed countries do
not get left out in the geo-political power game.
While individual initiatives by large developing country
borrowers have immense significance of their own,
across the South, the struggle for forcing broader
and deeper changes in the parameters within which
the multilateral bodies operate, must continue.