Forex Blues: Rupiah At 18,000
Commentary by Wayne Forrest
An exchange rate is often described as a daily referendum on a country’s economic management. When investors, companies, tourists, and central banks buy or sell a currency, they are implicitly expressing confidence—or lack of confidence—in that country’s future. What is not so clear is what they are voting on. Is it interest rates, political stability, government finances, economic policy/growth, external factors, or all of these together. Are the voters foreign or domestic. There are too many variables in the forex equation for governments to control.
Central banks and exchequers can intervene but ultimately the rates themselves are more “honest” than the political leadership. Can there be bias? Yes. The judgment of asset traders sitting thousands of miles away behind their computer screens can seem unfair. Governments can rightfully claim that policies are working, but foreign exchange rates are driven by millions of participants who put real money behind their beliefs. Some of them are locals themselves.
It must be unnerving for Indonesians to see the rupiah not just pass the traditional psychological threshold of 17,000 to the dollar but 18,000 as well. (As this is being written it is 18,171) While helpful to commodity exporters these rates hurt any business that relies on imports, has dollar denominated debt, as well as those traveling or studying abroad. Many are asking how did we get here? I believe a lack of confidence in economic policy and governance is more a factor than a strong dollar of the US Fed.
Indonesia’s past Finance Minister, Sri Mulyani, typically tied a sinking rupiah to the US economy, emphasizing that Indonesia’s economy reflected strong fundamentals (low inflation, manageable fiscal deficit, 5% growth). She asserted a good degree of fiscal discipline and markets were usually with her. The current minister, Purbaya Sadewa, also argues that the state budget remains strong, economic activity remains positive, and the currency and stock market weakness are being driven largely by negative perceptions and investor sentiment rather than a deterioration in the real economy. But, his words don’t yet have the force of his predecessor’s and neither do the policies he backs.
What Purbaya and other government officials may not be focusing enough on is the question: “Are Indonesia’s future policies still as predictable and disciplined as they were before?” The answer, at least for the moment, is no. Exchange rates often react more to expectations about future policymaking than to current inflation, revenues or GDP growth, all of which reasonably good.
I believe Indonesia needs to triage its current approach to economic growth as its recent moves toward more state intervention are a major factor affecting investor sentiment and the exchange rate. Danantara started as a holding company for SOE’s, using their revenues for strategic investment, but seems to be evolving into a centralized bureaucracy for other activities beyond its original mandate such as financing the government’s controversial free meals program and a recently announced government commodity trading company. Investors may be perceiving Danantara as fulfilling the political interests of the administration. More importantly, although the government may say it is all part of its new approach to development, markets seem to be saying that too much capital is being concentrated under the government’s roof.
Contributing to the negative assessment of Indonesia’s future is last month’s establishment of a new SOE, DSI (Danantara Sumberdaya Indonesia), one of the most significant changes to Indonesia’s commodity-trade system in decades. Set to be operational in January 2027 it places three of Indonesia’s largest forex earners under its roof: palm oil, ferro-nickel alloys, and coal. Its purpose is to: prevent under-invoicing and transfer pricing; increase tax collection; ensure export earnings return to Indonesia, improve monitoring of export volumes and prices, and strengthen the rupiah by retaining more foreign-exchange proceeds domestically. The Minister of Mining has already stated that other mineral products will eventually fall under DSI. The big worry is that agricultural products will also be included.
How it will actually work remains to be seen. At first it will serve as only a monitoring agency; exporters will have to register their contracts with DSI. Then, it will become the buyer and seller of record. It is true that exporters have done all the things the government accuses, however, a new entity to manage exports could easily create more problems than it solves. Existing government departments could be strengthened via AI and other digital methods to handle the problems.
However, DSI is also the fulfillment of one of President Prabowo’s pet issues. He has repeatedly said over many decades that Indonesia has lost enormous potential revenue from its natural resources, arguing that the country must gain greater control over how commodities are exported. To achieve this, he has also mandated that 100% of revenues from natural resources be placed for one year in Indonesia’s banks.
The future for foreign investors, under this type of economic nationalism, does not appear promising. Imagine if DSI becomes the sole exporter for spices, coffee or rubber. AICC fought off numerous attempts to establish them in the 1970’s, 80’s, and 90’s. I can recall in 1988 McCormick and other US cinnamon importers receiving telexes announcing a new sole exporter. AICC successfully pushed back, arguing that US companies could not buy any product used in food consumption if they had not worked closely with the exporter. US buyers regularly work with certifying organizations who monitor the sustainability of growing areas and testify that rain forests were not recently cut. With metals, a sole exporter could disturb operations of private companies by affecting existing contracts, financial/insurance risk assessments, shipping, ISO certification, pricing and most importantly, profits.
Chinese companies such as Tsingshan, big investors in Indonesia’s nickel processing industry, are already scouting new locations in Africa and a group of them sent a warning letter to President Prabowo. The letter was unusual because it publicly challenged several Indonesian government policies and warned that investor confidence was being damaged. Among the concerns raised were: sharp reductions in nickel ore mining quotas; higher taxes and mining royalties, new benchmark nickel pricing rules, proposed foreign-exchange retention requirements, stricter forestry enforcement and large fines, work-visa restrictions for foreign employees. When the Chinese speak up so publicly it is not a small thing.
Will the rupiah collapse as it did in 1998. This seems very unlikely as banks are much stronger, and, unlike the previous era, Indonesia now has a centralized credit reporting system under the auspices of OJK (Financial Services Authority) and can better monitor its foreign exchange exposure. However, concerns do not just end with DSI. Investors are also watching recent legal changes to Indonesia’s financial sector law giving Parliament more direct oversight of Bank Indonesia, OJK, and the Deposit Insurance Corporation. Although the changes enacted did not include the ability to recall the Central Bank Governor, the fact that there was a significant sentiment in the legislature for this is of major concern. Even without it lawmakers can now issue binding recommendations to these institutions, which dangerously increases political influence over bodies that were designed to be independent.
For decades Indonesia prided itself on technocratic economic leadership. It could use a re-injection of it, otherwise, the rupiah could drift even lower.
(The above remarks are the author’s and may not reflect the views of AICC or its members.)