Rupiah at a nose dive: Raising concerns of financial hardships for the people

(illustration: IO/Agung)

IO, Jakarta – A nation’s currency is a reflection of its economic strength. The continued depreciation of the Rupiah shows how Indonesia’s current economy remains bleak and is worsening day by day. According to data from Bloomberg, the Rupiah exchange rate on the spot market on Tuesday (9/10) opened with a 5 point or 0.03% decline, to Rp 15,223.00 per USD in trade. Pressure on the Indonesian currency continues after it has weakened 7 points or 0.05% to Rp 15,225.00 per USD at 08.17 WIB. During the previous day’s trading on Monday (8/10), the Rupiah closed down in the “red zone”, weakening up to 35 points at the closing of trade on Monday afternoon, to Rp 15,218.00 per USD, recording its lowest level within the past two decades.

A reminder: when President Jokowi was inaugurated on 20 October 2014, Bloomberg foreign currency data for that date shows that the Rupiah exchange rate was Rp 12,011.00 per USD. Within the subsequent 4 years, Rupiah has decayed to Rp 15,200.00 per USD, or weakened about Rp 3,000.00.

The current Rupiah exchange rate approaches the weakening of the Rupiah during the monetary crisis in Indonesia in January 1998, when it fell to Rp 14,800.00 per USD 1.00, and continued to its lowest point ever in June 1998, at Rp 16,800.00 per USD 1.00. During the Jokowi era the Rupiah is at its lowest value in comparison with its value during the rule of other post-reform presidents. And that even includes the global financial crisis which occurred during the rule of President Susilo Bambang Yudhoyono (SBY). In 2007, the Rupiah exchange rate to the USD fell to Rp 9,000.00-Rp 10,000.00 range, due to the sub-prime mortgage crisis in the US. Rupiah weakening in fact occurred after the financial crisis ended and the currencies of Western countries started to recover. In 2009, USD was already up at Rp 11,800.00, then more than Rp 12,000.00.

Later on, during the leadership of Megawati Soekarno Putri, USD exchange rate was in the range of Rp 8,900.00-Rp 10,200.00. At the end of Megawati’s government, USD exchange rates remained stable in the Rp 8,000.00 range. During Abdurrahman Wahid or Gus Dur’s government, the USD strengthened to Rp 15,000.00. This exchange rate is much higher than during the previous era of President Habibie, who successfully reduced USD exchange rates from tens of thousands to just Rp 6,500.00.

Volatile Rupiah
Institute for Development of Economics and Finance (INDEF) Economic Observer Bhima Yudhistira, observes how the Rupiah continues to drop from the start of this year. “I predict that by the end of the year, our Rupiah will reach Rp 15,600.00 per USD. It will become volatile again in this week’s trade session, in a 15,110-15,240 range. Weakening will remain consistent until the end of September, even though BI has both increased reference interest rates and intervened with foreign reserves,” said Bhima to Independent Observer. “The main factors in the weakening of the Rupiah exchange rate until the end of the year will be the increase of crude oil prices and the high volume of imports, especially in the upcoming Christmas and New Year seasons, as use of transportation will increase.”

Bhima further stated that global conditions are affected by the 10-year US Yield Treasury or bonds, whose interest rate has reached 3.23%. This indicates that market participants tend to expect the long-term global economy to worsen. Investors hunt down US debt instruments as a means of flight to quality.

The current unemployment rate in the United States is 3.7%, or its lowest in the past 18 years. Data show that there has been an increase of 134,000 people employed in the US as of September 2018. Full employment encourages a jump in short-term inflation in the US, so that Fed Rate is predicted to rise again once this year, 4 times in 2019, and 2 times in 2020. The shock from increased Fed Rates will cause investors to gradually withdraw funds from developing countries, choosing instead to invest in dollar-denominated assets. The dollar index is at 95.4 and may still rise. This means that the “super dollar era” will continue to haunt the economy of developing countries.

The US-China trade war will worsen after the collapse of negotiations. Goldman Sachs concludes that the trade war will gradually cut into the profit of major corporations across the globe. In Europe, the Brexit polemic and a dangerous deficit in Italy’s budget haunt market traders. The outlook for the Euro currency remains bearish, or weak against the USD.

Crude oil prices are predicted to continue to rally, despite a slight decrease to USD 84.16 per barrel for Brent crude. Oil price pressures will cause our petroleum and natural gas deficit to expand in such a way that worsens the Government’s current account deficit (CAD). Domestic market traders are still waiting for the release of trade balance data for September 2018 (on 16 October). Pressures on petroleum and natural gas deficit up until August were recorded at USD 8.3 billion, or USD 3 billion higher than for the same position in the past year.

The Composite Index is haunted by major selling off by foreign investors: foreign net stock market sales in the past week amounted to Rp 2.39 trillion. Composite Index performance in the past week settled 4.09%, a correction expected to continue until next week.

Senior Economist Anwar Nasution concludes that the Rupiah continues to worsen because the government keeps on increasing debt in order to cover State Budget deficits and foreign payment balances. Tax income is not earned optimally. “In fact, Indonesia has the poorest tax income among developing countries. Other developing countries earn 20% of GDP in taxes, but we are only half that at 10%,” he said.

Anwar reiterated that our Rupiah is weak because our economic fundamentals are bad. Poor tax collection is an indicator. Another telling indicator is the fact that we have weak financial institutions. The State Savings Bank (Bank Tabungan Negara – “BTN”) is now a commercial bank; and the People’s Bank (Bank Rakyat Indonesia – “BRI”) is now a conglomerates’ bank instead of one backed by farmers, cooperatives, and the impoverished masses.

Bank Indonesia (“BI”) continues to intervene, in order to stop the Rupiah from continued weakening, but there is a limit on how long BI will be able to do so. In fact, one part of our foreign reserves consists of foreign debt. Other than stabilizing the Rupiah, foreign reserves are used to maintain imports, such as rice. Exports also remain stagnant. BI’s ability to intervene decreases every day, because continued depletion of foreign reserves means that BI has less and less ability to intervene every day.

Economist Fuad Bawazier shares a similar opinion. According to him, exchange rates will continue to weaken until 2019, due to our continued fundamentally sluggish economy. Even though the government continuously claims that Rupiah volatility is the result of seeking a new equilibrium or because of global uncertainty, there is really no basis for such statements.

So, I teased them ‘Are you economists or political rhetoric acrobats?’ I think that these excuses are all clichéd. Continued weakening of exchange rates will exacerbate inflation as time goes by. The price of imported goods will inevitably continue to rise. If the Rupiah continues to weaken, interest rates will shoot up, drying up credit and ending with our inability to make repayments. The Government indeed stated that the exchange rate would not fall beyond Rp 14,000.00, because that is a psychological benchmark. In fact, that limit was breached, and our currency has spiraled all the way down to Rp 15,000.00.00 per USD. I have analyzed the situation and stated months ago that the Rp 15,000.00 mark will be crossed, and this has now been proven. This is not surprising, because the core issues that have caused the Rupiah to weaken remain unresolved, and in fact have worsened. To repeat, the main issue is current transaction deficits. “Current transaction deficit” means the supply of dollars required to run Indonesia’s transnational economic transactions is insufficient. In fact, the market will read our situation as “Indonesia’s finances are overdrawn”, which will make it even harder to try and earn more dollars,” Fuad said.

Imports vs. Exports
Fuad points out that the Rupiah continues to weaken because import growth is greater than export growth. Export growth marks 5%, while our import growth rate is 6%. Imports require dollars, while exports bring in dollars. And for quite some time now, it is imports that have tended to increase. To repeat: our imports are larger than our exports. Any talk about exports and imports relates to our trade balance. In such a situation, our trade balance will suffer a deficit. In fact, in July, the Government announced that our trade balance deficit is USD 2.03 billion. Increasing imports means that the Rupiah exchange rate will depress even further. While the Government is making efforts to cut imports, this is in fact extremely difficult. So instead they raise income tax. However, this will not affect import rates, because our imports are 75% raw materials,15% capital goods, and only 10% consumer goods.

“I admit that it is hard to reduce the level of imports. However, the Government still approves imports that I determine to be dubious, such as imports of rice. This eats away a sizable chunk of our foreign reserves, yet it continues onward despite, to my knowledge, the overt disapproval of the Indonesia Logistics Bureau (Badan Urusan Logistik – “Bulog”) and the Ministry of Agriculture. Still the Ministry of Trade barrels on with food imports; what is going on here? That question aside, we must also look at sources of income other than export. For example, we have portfolio investments. However, the indicator this year is that foreign investors are tending to go for net selling. This signifies a large volume of capital outflows. This is sad, as we want capital inflows but we get capital outflows instead. Thus, domestic funds are spent to buy government bonds in order to cover the rapidly decreasing volume of foreign investment portfolios. This does not bode well, because we only have limited foreign funds to buy bonds – especially with the continued drain on our foreign reserves due to the valiant attempt to defend the Rupiah, which has lost 10% of its value since the start of the year,” Fuad noted.

The Rupiah thus weakens as the Federal Reserve System raises its interest rate. What’s more, the markets cannot help but notice that Indonesia has failed to achieve its 2018 taxation target. “I expect that we will have a tax earning deficit of up to Rp 150 trillion. Meanwhile, both Government foreign debts (including State-owned Enterprise [Badan Usaha Milik Negara – “BUMN”] debt) and private obligations continue to rise. Government debt, both in Dollars and Rupiah, increases by Rp 1 trillion every day. Against this the Government’s policy packages so far have remained ineffective,” Fuad said.

Financial market observer Farial Anwar said that obstructions include external factors, such as the continually-rising American dollar interest rate (which is expected to go up again next year). Furthermore, the trade war between the US and China causes capital outflows from financial, bond, and stock markets in Indonesia. Dollar demand is high, but there is no supply. “The reality is the funds that we get from our exports are not deposited in our country, but rather in Singapore, China, or Hong Kong instead. This is because we have a free foreign currency policy. We allow exporters to deposit their funds abroad, because there is no ruling that they must deposit their funds in this country. The one who enjoys the foreign currency flow is other countries. For example, Singapore is rich in foreign reserves because the majority of funds from Indonesia are deposited there,” he said.

Exporters must perform banking transactions within this country, but there is no regulation that obliges them to keep their dollars here. There should be a regulation for depositing all export yields in the country for a specific period, as is the case in other countries. Any transfer abroad must be based on an underlying transaction, such as the import of goods requiring the attachment of a letter of credit, or the payment of debts in foreign currency for transfer abroad requiring the attachment of a loan agreement.

Internal obstructions include the fact that our balance of payments is in deficit, as well as the reality that imports are much greater than exports. This severely limits the supply of dollar in our country, especially since most companies do not hedge funds. Therefore, when the American dollar strengthens, many companies will make purchases in spot transactions, drawing stronger demand for dollars. This is the reason why BI issues “Domestic Non-Deliverable Forward” (DNDF), to force companies to perform DNDF transactions when they want to pay off a debt in foreign currency.

“The Rupiah has suffered quite a drop in value in comparison with other countries ‘currencies. Falling from Rp 12,000.00 to Rp 15,000.00 is simply a crazy level of volatility. Our State Budget assumed that the exchange rate would settle at Rp 14,200.00, but now it’s already Rp 15,200.00. Compare this with Malaysia or Singapore, whose currency uses fractions – for us, the disparity is in the thousands,” Farial Anwar said.

Foreign reserves held by the government are generated by government exports, plus the issuance of government bonds in foreign currency or global bonds, sold in dollars. Reserves managed by BI have dropped sharply, because it must supply dollars to the market where there is a huge demand and small supply, since few people are willing to sell their dollars. Therefore, BI is forced to attempt to stop the Rupiah from plummeting even further by selling off dollars from its foreign reserves. This is a painful irony, as those reserves are actually not meant to intervene in supporting our currency, but to repay maturing foreign debts of the government, and pay for government import of goods as they mature. Only a little may be used to intervene in cases of extreme currency exchange volatility.

The Government asks entrepreneurs to exchange their dollars for Rupiah. Bank Indonesia also tries to stop the Rupiah from falling further, such as intervening to such an extent that we see a sharp dive in foreign reserves, from USD 132 billion to USD 114 billion, as well as Rupiah interest rates soaring from the lowest level in history to 5.75%. BI also intervenes in bonds whose price continues to drop, i.e. by auctioning 9-month Bank Indonesia Certificates (Sertifikat Bank Indonesia – “SBI”) to pull runaway funds back to Indonesia, and by issuing Domestic Non-Deliverable Forward (DNDF) to slow down the descent of the Rupiah.

These are actually major efforts, but we really are under such extreme pressure that the Rupiah still falls to more than Rp 15,000.00, a level near the lowest point reached during the ‘97/’98 crisis. Our economy is relatively much better nowadays, but when our Rupiah value drops down to nearly the level back in ‘97/’98, that indicates we really got a problem.

Worst-Case Scenario
Anwar Nasution states that the worst-case scenario of the continued decay of Rupiah value is when the government, national banks and companies in debt must pay higher debt interest because of the exchange rate. This is a triple trouble that will overwhelm Indonesia, so that it might open an opportunity for the return of bankruptcy due to the large-wave inability to repay debts, as in 1997.

The current Government always states that the Rupiah is crashing because of global conditions. “Stop looking for scapegoats. (Governments always do that). During the 1997 crisis we blamed Thailand; now we are blaming America. Our economy suffers from a crisis once a decade – we had a crisis in 1997, one in 2007 and now again. We must look in the mirror and check ourselves – what are our problems? Our tax income is not on target, our financial institutions are in a horrible condition. For example, only foreigners buy the domestic bonds we sell on the Indonesian Stock Exchange; we have no domestic buyers. This is because our financial institutions are weak – we lack insurance companies, retirement banks, or postal savings banks. The major companies in Jakarta are dominated by foreign corporations. Indonesia is a country with the worst-performing currency in Southeast Asia. It is only slightly better than in African countries, which are badly-managed economies overall,” Anwar said.

Indonesia does not have the special resources to handle a weakening Rupiah, because the government takes no action such as raising tax income or administering to financial institutions like reviving the Postal Savings Bank, where the Post Office accepts the savings of the people, as they do in Germany, Netherlands, France, and Japan, which are countries with strong Postal Savings Banks. These banks double as savings institutions as well as the backup for bonds, thus reducing debt.

During the SBY era, the main issue was when coal prices rose sharply. However, the government strengthened the Rupiah by appreciating it. That cut into commodity exports of the textile and shoe industries, as a strengthened Rupiah means that prices for our good abroad became uncompetitive. This is a step down from the fact that we had successfully started shoe and textile exports during the Soeharto era. The Rupiah should actually be weakened by devaluing it as a means to provide incentives to exporters to perform better. A currency devaluation is a common step taken to lower the price of a country’s exports to make them more competitive in global markets. This is what we did during the Soeharto era by repeat devaluation, and we should also do it during the Jokowi era.

“If we fail to strengthen the Rupiah, where will we get cash? Our Rupiah weakens every day now; we’ll be reaching the Rp 16,000.00 point soon. Now we get money from debt and exports, but in fact exports are stagnant. Look how Indonesian people going on hajj or umrah pilgrimages kit themselves out with hijabs, ihram cloths, sandals, thermoses etc. made in China. Why won’t we use the products we make ourselves in Bandung or Pekalongan or other areas?” Anwar asked.

Farial Anwar further states that continued strengthening of the dollar will affect both the business world and the government. The Government will have to pay higher on debt principal and interest, injuring the State Budget, as the need to pay government debts continues to increase. This means that our taxes are wasted, as they will only be used for repaying debts and covering budgets, instead of for generating more export income.

Indonesia also imports everything, from raw materials to basic necessities. This is a compound problem in the business world, as we are hit by both exchange rates and rising interest rates. Credit interest rates will naturally increase, ditto the prices of necessities. This means that industries that use foreign materials will have production cost issues. Banking also has the potential of being affected by the strengthening of the dollar. However, the condition is different from that of 1998. Our regulations are now stricter and our risk management has gotten better, so that shocks like in 1997 will be felt as relatively small. The only possible significant issue is non-performing loans, as companies with foreign currency debts must prepare themselves well for this eventuality.

Free Foreign Currency Policy
Farial Anwar further stated that the main problem is the nation’s free foreign currency policy, which means that foreign investors can come in at any time only to make their escape during global economic downturns. Despite the allure of high interest rates, they don’t dare to invest, because of high exchange rate risk. For example, a foreign investor wants to invest in shares in Indonesia by selling US dollars at Rp 14,500.00. However, when s/he decided to liquidate, the dollar was already at Rp 15,000.00. Such an investor might seem to have realized a profit in shares, but they will lose out as they convert Rupiah to dollars because dollar value has shot up.

Furthermore, no regulation limits exporters to deposit their yield in this country, so they can squirrel their earnings abroad as they like. Our government should implement a controlled foreign currency policy, whereby export yields must remain in the country for a certain period. We should not allow our foreign currency to be enjoyed by other countries, such as Singapore. This is actually the main reason why Singapore refuses to sign an extradition treaty with Indonesia.

“As long we don’t change this free foreign currency policy, we will continue to suffer from this condition. Foreign investors may leave at any time because there is no regulation against it, and we are shaken when most of them leave. Worse, our financial market is controlled by foreign investors, whether for shares or bonds. We must really prepare ourselves for shocks in the global market,” Farial warned.

Our economy is suffering from its once-a-decade crisis cycle. When we look back at the crises in 1998, 2008, and now 2018, the present one is the worst. This is because our Rupiah exchange rate is free-floating; our foreign currency policy is free.

As we witness the fall of the Rupiah, Bhima states that the best solution is for the government to suppress its current account deficit (CAD) by controlling the top 10 imports, increasing entry fees and implementing anti-dumping policies. Furthermore, the government must provide a bigger incentive and guarantee a preferential exchange rate to entrepreneurs to induce their export foreign currency yield into Rupiah. Now, only 13% of current foreign currency yield is converted into Rupiah, and the rest remains as foreign currency.

Increasing Crude Palm Oil (CPO) exports might be a good step for controlling the Rupiah exchange rate. After all, palm oil is our biggest non-petroleum and natural gas foreign currency contributor. There are several shortcuts possible here, such as reducing export fees for CPO from USD 50.00, and for processed palm oil from USD 30.00, to USD 20.00 per ton. Customs duties in India are a major factor that reduces the performance of CPO exports. If export fees are relaxed, increased palm coconut exports could cut the trade deficit and strengthen the Rupiah exchange rate. When overall exports stabilize, we can re-impose CPO export fees.

On the other hand, Anwar suggests that in the short term, the government must exert cabinet control by forcing exporters to deposit their money in the country for at least several months. “Our entrepreneurs now are like those during VOC days: at the time the plantations and factories were located in Indonesia, but the earnings were deposited in the Netherlands; now, our entrepreneurs also keep their plantations and factories in Indonesia and deposit their money in Singapore. Why shouldn’t we force them to deposit their money in Indonesia for some months by regulation? Say for 6 months, and then penalize them strictly for violations? Another possible solution is to get umrah and hajj pilgrims to use domestic products for their umrah and hajj needs. The Ministry of Religious Affairs should do something about this,” he said.

A long-term solution is by increasing tax income and performing audits. Let us take an example from Singapore: a person can be jailed for failing to report a single cent of tax imposed. Export income could be increased by expanding labor-intensive industries, like China, so we can export everything. We also need to reduce unnecessary imports for things like luxury cars.

Fuad regrets that the “cure” provided by the government to strengthen the Rupiah can only work temporarily. The Government intervenes with the market by spending up to USD 10 billion, to the detriment of our foreign reserves. But it will be even worse if we do not intervene. “Yet this temporary cure is dangerous, because it does not resolve the core issue. The other solution provided by the government is to increase interest rate. This policy also has its own risk of further reducing the competitiveness of Indonesia’s economy. It is a harder strain for the business world, as it only cures temporary symptoms in the market. The Rupiah might appear to be stronger for a short time, but it will careen downward again,” he said.

To resolve the continuous weakening of the Rupiah, Fuad suggests the government seek out strategies to resolve each issue individually. For example, we need to find the solution so that we can generate some types of imported goods ourselves – like stopping salt and garlic imports and empowering farmers instead. Imports will only worsen our current transaction. Any statement to the contrary made by the Govern­ment is mere rhetoric.

Nowadays, our heaviest burdens come from infrastructure construction, because it draws down both foreign materials and brings in workers. What benefit will it get for Indonesia then? They must be paid in more foreign currency, which worsens our economy and lowers our exchange rate further. The combination will create inflation, as the price of imported goods will be even more expensive. With the weakening of the Rupiah and the increase of interest rates, credit will slow down and many people will find it difficult to repay their debts. “The officials who have been in the government for the past 4 years should have figured out the solution for this. If they haven’t, it means that they are incompetent. If we fail to resolve the Rupiah issue, the whole thing will be a burden to the next government and generation,” Fuad said. (Dessy Aipipidely, Ekawati)