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Web-only Exclusives
November 30, 2000

From Our Correspondent: Hirohito and the War
A conversation with biographer Herbert Bix

From Our Correspondent: A Rough Road Ahead
Bad news for the Philippines - and some others

From Our Correspondent: Making Enemies
Indonesia needs friends. So why is it picking fights?

Asiaweek Time Asia Now Asiaweek story

ON THE BRINK OF AN ECONOMIC DISASTER

Indonesia's looming depression
will further delay East Asia's recovery

By Ricardo Saludo and Assif Shameen


LIKE THE MOBS IN Jakarta on the ides of May, the crowds that gathered at banks the Sunday after were after money. They formed snaking lines at automated teller machines to withdraw the 500,000 to 1 million rupiah ($45-$90) maximum per customer. The crowds returned on Monday, using their passbooks to take out as much as $2,250 - "enough for two weeks," said one depositor at a state bank. These people are the lucky ones. Countless others have seen their businesses torched, their jobs lost, or they themselves forced to flee to a foreign land with little more than a suitcase.

But ultimately, it is Indonesia itself that will suffer the most from last week's rioting, as it counts the economic cost of mid-May's mayhem. Plainly, the country is on the brink of an economic disaster. "Whether Suharto stays or goes, whoever replaces him will inherit a bankrupt corporate sector, a banking sector that needs to rebuilt almost from scratch," says Alex Erskine, regional economist for Citibank in Singapore. "First, unemployment will rise way beyond the original pessimistic forecasts. That leads to more social instability and a huge collapse in consumer demand. Even those who have jobs start to hold back on spending."

Some months ago, Erskine conservatively forecast that Indonesia's economic output will shrink 7%. Since then, the consensus among regional economists has dropped to around -15%, but Erskine isn't rushing to change his figure. "I don't trust my own forecasts," he says. He is waiting for the dust to settle. "Minus-15% or -25% or -30% are just wild guesstimates in a very volatile environment," he explains. "We've reached a point in Indonesia where forecasting has lost its relevance. There is blood in the streets, banks are closed, those that are open are virtually bankrupt and unable to lend or do normal business. Companies are broke, they have no working capital, no raw materials. Transportation has ground to a halt. The country is virtually at a standstill."

The CEO of an Indonesian chain of shops and supermarkets complains: "We were suffering pretty badly even before all this started a few weeks ago. Now there is hardly any business. It's nightmarish for retailers." And it will get worse. A host of foreign-owned businesses shut down during the unrest, including local plants of Sony, Toshiba, Toyota, Nissan, Australia's BHP and President of Taiwan. Some may not reopen for a while, particularly those run by Taiwan executives driven away by attacks on ethnic Chinese. John Seel, regional economist for Bear Stearns Asia, worries about the riots' impact on ethnic Chinese sentiment. "The main damage has been to the software - the Chinese business community," he explains. "The people most responsible for key decisions have fled or are in hiding."

Seel sees investment drying up. "Whatever happens tomorrow, [ethnic Chinese] confidence has been shaken," he says. "The events of the last two weeks as well as the treatment of the Chinese does not bode well for Indonesia. Despite devaluation and a big pool of labor, it will be seen by investors around the world as an unattractive location." Indeed, Taiwan and Hong Kong businessmen are shelving investment plans. An Indonesian-born Hong Kong garment manufacturer says he "will have to consider pulling out of Indonesia." Taiwan Economics Minister Wang Chih-kang has told Taiwan Sugar Corp. to put off its venture in the archipelago. Li Siu-hang, head of the Hong Kong Economic and Trade Association, says the turmoil may lead buyers of Indonesian resources to look elsewhere.

The Indonesian crisis comes at time when people are realizing that the rest of the region's economies are in far worse shape than most had imagined. "High rates and low growth will just grind Malaysia into a prolonged slump," Erskine says. Singapore's proximity and "high exposure to Indonesia will continue to put pressure on currency. The Philippines will be hurt far less than Singapore but the longer the crisis in Indonesia drags on, the slower the pace of recovery in Asia." Erskine says three weeks ago, optimists were predicting recovery in Asia in two years, and pessimists three to four years.

"Now, increased uncertainty, higher interest rates and currency volatility will all lead to the postponement of more investment decisions," he predicts. "That in turn would bring lower growth or more economic contraction. There will be a need for most Asian countries to have even higher interest rates, and that means more bankruptcies, weaker banking sectors and bigger economic contraction from Thailand to Korea and Malaysia. Even the better placed economies like the Philippines and Taiwan would be hurt because interest rates will continue to be high to maintain currency stability." Add to that the increased risk premium due to Indonesia's turmoil.

The currency markets were not as badly affected as many had expected partly because central Bank Indonesia was clearing rupiah trades. Desmond Supple, head of Asian currency research at Barclays Capital in Singapore, believes in a more liquid, more real market, the rupiah would probably be closer to 20,000 to the dollar. "It has recovered a bit on some of the political news but other fundamentals for the rupiah are still as terrible as they ever were," he explains. Dealers have apparently assumed that Suharto will stay for two months, for which they have added a 50% premium to the rupiah rate of 8,000, based on economic factors alone.

Robert Rountree, chief economist and strategist for Prudential-Bache Securities in Hong Kong, says the slight bounce in the region after Suharto's speech "really looks like a dead cat's bounce. We had a similar one in Korea and Thailand when there was change in government. We still haven't got a good grasp of the extent of the real damage in Indonesia. If there is a new leader committed to rebuilding and reforming, recovery will still take several years." Moreover, a political resolution does not alter the dire economic situation. "Once the rioting stops," says Rountree, "you have to go back to painful restructuring. If and when a new leadership shows the political will to restructure, that long process could be speeded up a bit."

Seel says new elections and new leadership "will mean that Indonesia will have a more reliable, more trustworthy government, but because problems are so severe the honeymoon isn't going to last too long. And political stability in Indonesia won't alter the picture much for the rest of Asia either." Indeed, a new reform-minded government in Indonesia that institutes dramatic structural changes and sticks to the IMF program might be bad news for some other troubled Asian countries. "Reforms and structural changes will start to make Indonesia look good," Seel ventures. "That will pressure countries like Thailand and Malaysia to do more."

In the aftermath of Indonesia's riots, questions were again raised about the IMF's tough economic prescriptions. Both the Fund and one of its most vocal backers, U.S. Treasury Secretary Robert Rubin, felt compelled hours after the rioting to defend the program for Indonesia. The plan, says the IMF, "is still very much appropriate for the Indonesian economic situation and for restoring confidence and economic growth." Several U.S. congressmen also insisted on reform before more bailout funds go to Indonesia. Senate minority floor leader Tom Daschle argued that IMF conditions were not "too harsh."

The World Bank's country director for Indonesia, Dennis de Tray told Agence France Presse: "We need to do a major reassessment of the whole situation once things settle down. We need to reconsider the fiscal and monetary program which was based on certain assumptions of the rupiah and inflation." The same applies to the IMF deal, he adds. The U.S. State Department has also cited the need to review the Fund plan based on new realities.

Jakarta, for its part, has already rolled back fuel and electricity price hikes needed to comply with IMF budgetary limits - and blamed for much of the rioting. Seel thinks "the IMF might show a little bit more flexibility in the interim, but eventually both the government and the people of Indonesia know that fuel subsidies have to go."

Any willingness on the part of the Fund or the U.S. to provide aid or ease up on conditions will depend on the emergence of a more representative and stable government in Jakarta. On May 18, the World Bank and the ADB postponed loans to Jakarta totaling $2.7 billion, due to the political crisis. Another $1 billion from the IMF also looks iffy. The same goes for progress on the all-important talks to reschedule more than $70 billion in foreign loans to the Indonesian private sector. The New York negotiations were postponed to the first week of June. In the economy, as with everything else in Indonesia these restive days, it's the politics, stupid.

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