Indonesia and the 1997 Asia Financial Crisis - Case Study Example

Running Header: Indonesia and The 1997 Asia Financial Crisis Student’s Name: Instructor’s Name: Course Code & Name: Date of Submission: Indonesia and The 1997 Asia Financial Crisis Warwick and Martin indicate that the financial crisis in Asia was duration of financial crunch that engulfed most of Asia starting in July 1997, and developed alarm of global economic meltdown as a result of financial infectivity (2). Thailand was the initial start point of this crisis where there was financial fall of the Thai baht as a result of government decision of floating baht following comprehensive efforts to back it in the period of harsh financial over expansion that was partly driven by real estate. During that period, Thailand was bearing a huge foreign debt that resulted the nation to be bankrupt even prior to the fall of it currency. Japan and majority of Southeast Asia experienced the fall of currencies, abrupt increase in private debt, and devalued asset prices and stock markets. Thailand, South Korea and Indonesia were the nations that were heavily affected by the crisis. Additional, Philippines, Laos, Malaysia, and Hong Kong were also affected by the financial crunch. Countries like Vietnam, Brunei, Singapore, Taiwan, India, and People’s Republic of China were slightly affected but they experienced a loss of confidence and demand in the entire region. In Indonesia, it has been thirteen years since the fall of regime of Soeharto’s New Order on the height of the 1997 economic crisis. During this period, economy of Indonesia shrunk by over 13% in 1998 alone (Lewis and Marwa, 4). This was after thirty years of nearly uninterrupted rapid growth of economy and resulted to heightened political and social crises. While nations like Thailand and South Korea were able to defeat their economic crisis in shorter period, Indonesia’s crisis recovery has been convoluted by instability of politics, up to 2004, and by a sluggish trajectory of recovery. Indonesia was formally being managed by International Monetary Fund (IMF) from 1997 to the ending of 2003, years of transition that experienced drastic institutional reforms like the expansion of local autonomy, constitutional reviews, and promulgation of the new law governing national planning, state finance, and the Bank of Indonesia (BI) (McLeod and Ross, 1998) . All of these reforms of institutions happened against the environment of an often-chaotic process of economic policymaking, mostly under Wahid and Habibie. According to Aspinall and Gregory, the enactment of The Central Bank Law in 1990 under the rule of Habibie was aimed to guarantee the independence of the Bank of Indonesia from the government, and abolished the BI from buying domestic bonds of government. Independence of BI was put under test when Wahid, the president, requested governor of BI to resign and was promised another post. The governor declined to resign but later was arrested and jailed. There was a sign of marginalization of technocrats from process of economic policy-making. Since the president had aim of destabilizing the power of National Development Planning Agency (BAPPENAS), no appointment of minister for national development planning was carried out. Megawati came to power in July 2001 and the president top priority was to restore stability of macro-economy. Megawati selected professionals who were uninhibited by politics of party to two strategic positions for this aim. Burhanuddin was appointed as BI governor and Boediono as finance minister. Both appointees carried out their mandate well to attain stability of macro economy and sector of banking reform to establish the means for graduating Indonesia from program of IMF (Stephan and Maxfield, 113). However, ministers of economy failed to work as a team. The 2003 enactment of Law Number 17 on state finance was of great significance. It brought in the European Union Maastricht Treaty- type rule to attain financial and economic tranquility by legally abiding the government to maintain the sum issuance of government bonds (both local and the central government bonds) under 60% of the gross domestic product and the deficit of annual budget under 3% of the GDP. This meant that the law held the government politically answerable in upholding a fiscal policy of self-restraining. This law resulted to the realignment of the MOF (Ministry of Finance), swelling its authority, and transforming the relationship between the BAPPENAS and MOF. The Agency for Fiscal, Economic, and International Cooperation Research was established from the previous Agency for Fiscal Analysis and was put accountable for making of budget, while the function of budget planning was given to Budgeting Directorate General. The mandate to develop macroeconomic framework and fiscal policy was put under the power of MOF with the enactment of the new law. Aspinall and Gregory argue that the era of post-Soeharto, BAPPENAS was target for dismantling. In Megawati era, BAPPENAS lost a huge mandate to the MOF and local governments whose mandates increased in the new regime of local self-rule (27). The top priority in those years was to attain stability of macroeconomy but not development planning. When Indonesia was liberated from the program of IMF in 2003 and the highly awaited stability of microeconomy was attained, planning of long-term development turned out to be vital once again. In the final days of presidency of Megawati, a new law on the national development planning system was endorsed in 2004. It offered legal standing to BAPPENAS and specified that the head of BAPPENAS help the president in developing the national development plan of president and take the mandate of formulating the development plan of central government. Therefore, every planning of development whether long term, short term, or annual came under BAPPENAS and MOF was supposed to collaborate with BAPPENAS on formulating of midterm and annual development plan and budget. When Jusuf and Yudhoyono acquired ruling in 2004, the policy orientation turned to economic growth acceleration, job creation, and eradication of poverty via proactive fiscal policies, expenditures of government on welfare of nation like health and education, and attracting investment via development of infrastructure. The vice president and his ally were active in process of economic policymaking. Faced with a small crisis in August 2005, the government was forced to make hard decision of cutting subsidy of fuel and escape the worsening of its fiscal position in the condition of hiked oil price. Additionally, the president concluded that stability of macro-economy was to be given first policy priority where job creation and poverty eradication would be considered in the future. Indonesia was highly affected by the 1997-1998 financial crisis after three decades of rapid economic growth. The economy reduced by over 13% in 1998, the worst in all four East Asian economies affected by crisis. Income per capita has now improved to pre-crisis intensity. However, the nation has effectively squandered a decade of growth that, had it been maintained at rates of pre-crisis, would have improved right now in a more improved per capita income, approximately to $ US 2000 instead of $ US 1000. Additionally, growth lingers more suppressed, approximately 5% instead of the 7% and more prior to 1997 (Lewis and Marwa, 3). The economy of Indonesia started to reduce rapidly in the 4th quarter of 1997, and marked a negative growth of in excess of 13% and 15% in per capita expression in 1998. The economic growth was insignificant in 1999, but improved to almost 5% in 2000. In years between 2000 to 2005, the economic recovery has attained an average of 4.5%, lower that the 7.3% achieved during period of pre-crisis in 1990 to 1996. This means there has been a recovery of V-shape. Additionally, per capita improvement has nearly reduced by half, from approximately 6% for the years from 1986 to nearly 3% in 2000. In the abrupt effects of the crisis, the agricultural share improved, as an approach for survival as a result of fall down of a huge part of activity of urban-based modern sector. This caused the competitive enhancement to exports of agriculture from the quick depreciation of exchange rate. The accounts of expenditure from 1998 have been dictated by high reduction in investment, and the increasing consumption share. Like the increase in share of agriculture, the high reduction in investment was an appropriate social mitigation in the era of crisis. The investment share in GDP reduced by 10% range amid 1997 and 1999, before slowly recovering, although to rates well under those of pre-crisis. Additioanally, the huge short-term capital freight, which was the immediate activation for the start of the crisis, direct foreign investment changed stridently negative. According to Hill and Shiraishi, the net outflows were approximately $ US 1.4 billion from 2000 compared to Average of $ US 2.7 billion per year amid 1990-1996 (131). During the first half of 1998, the annualized basis of inflation was recording at 100%. The inflation was speedily brought to control in the second half of the year recording 2% in 1999. Inflation has remained at approximately 10.1% after 2000 with comparison of 8.4% in 1990-1996 (Dornbusch, 1169). Despite the persisting predicaments, there was a recognizable accomplishment of macroeconomic policy. The BI was given self-rule after the crisis as a segment of LOI (Letter of Intent) from the IMF. It has focused on a regime of a managed float and inflation targeting. The new strategy has worked pretty well in more difficulty times through support of fiscal improvement. In fact, the float has functioned as a type of discipline in economic policy. From the experience of Asian Financial Crisis, Indonesia has experienced nasty lessons on how to manage Global Financial Crisis effectively. From the crisis, management of economy has bounced back after the end of hard times. A recurrence of something like the crisis of 1997-1998 is improbable. Indonesia has maintained high debts. Both external and public debts to GDP ratios are elevated, although they have reduced steadily after the crisis. Fiscal deficits are reduced and evidence of surpluses in current account nearly consistent from 1998 (Ito, 27). Creditors and banks have learnt to be high vigilant, but the glitches in the banking sector of state have persisted. In conclusion, Indonesia was highly affected by 1997 Asia financial crisis compared to any other neighbors in East Asia. Its contraction of economy was more prolonged and deeper. The country experienced loss of grip of controlling its macro-economy. It also encountered double crisis as a result of collapse of political regime and economy. This caused the recovery rate to be complex and slow since the institutions were under reforms via succession of short-lived eras. The process is nearly over with a stronger president who is democratically elected. The fresh institutional framework for economic policy-making is being utilized. The country’s macro-eceonomic stability has bounced back. However, recovery has not yet attained levels of pre-crisis, in 2004 poverty incidence and per capita income has regained to status existed in the mid 1990s. The recovery of economy has reasonably progressed about as fast as could arguably have been predicted. Works Cited Aspinall, Ellen and Fealy Gregory, Local Power and Politics in Indonesia: Decentralization and Democratization. Singapore: Institute of Southeast Asian Studies, 2003. Dornbusch, Russel. “Exchange rate expectations and exchange rate dynamics.” Journal of Political Economy, 84. 6 (1976):1161-1176. Hill, Hal and Takashi Shiraishi. “Indonesia after the Asian crisis.” Asian Economic Policy Review, 5. 2 (2007): 123–141. Ito, Turner. “The Asian currency crisis and the IMF, ten years later: Overview.” Asian Economic Policy Review, 2. 1, (2007): 16–49. Lewis, Colin, and AlNasaa Marwa, Indonesia. (2006): 2-15. McLeod, Ross H. and Garnaut, Ross. East Asia in Crisis: From Being a Miracle to Needing One. New York: Routledge Publishing, 1998. Stephan, Haggard and Sylvia Maxfield, “The Political Economy of Financial Internationalization in the Developing World,” International Organization, 50. 1 (1996): 96-157. Warwick, McKibbin and Martin Will, The East Asian Crisis: Investigating Causes and Policy Responses, (1999): 2-60. Read More