Why did the GFC have little impact on Indonesia?
28 Jul
Recalling the cataclysmic impact of the Asian Financial Crisis on Indonesia in the late 1990s, it came as something of a surprise that Indonesia weathered the storm of the Global Financial Crisis so easily in 2008-09. We in Australia were pleasantly surprised to find that our economy also suffered very little from the GFC.
The explanations typically put forward to explain Australia’s good fortune focus on the role of the strong Chinese economy as a key export market, and on the fiscal stimulus policies implemented by the government in response to the seemingly impending crisis.
In Indonesia’s case, however, it seems clear that the attempt at fiscal stimulus had little impact, mainly because of the inability of the bureaucracy to increase spending quickly. Rather, the explanation has been found in Indonesia’s relatively low reliance on export demand—which, it is argued, meant that there was not much of a reduction in aggregate demand as a consequence of the GFC. Even at a superficial level this argument is somewhat implausible, because the decline in export demand was very large—even if smaller relative to GDP than in other countries.
Moreover, as Mark Baird and Monica Wihardja point out in their new Survey of recent developments, this view suffers from its failure to take into account changes in the level of imports. The national income accounts data show that net exports were rising at the relevant time, because imports were falling more rapidly than exports. It was this that set Indonesia apart from its neighbours.
It turns out that the same is true of Australia, as pointed out by Tony Makin in an article just published in The Australian newspaper: ‘… it was a dramatic turnaround in Australia’s trade balance that mainly offset falling private investment… not extra government spending, or household consumption assisted by federal cash handouts at the time’.
Another parallel between the Indonesian and Australian experiences with the GFC relates to exchange rate policy. In both cases the exchange rate was permitted to perform its function of signalling changes in external circumstances. Both currencies underwent large depreciations, which helped to increase net exports and to prevent currency speculation from running wild. After all, such speculation is driven by the expectation of depreciation: once depreciation has occurred, it is too late to speculate. Sound monetary policy subsequently in the case of both countries has seen their exchange rates recover to previous levels.
All of this calls into question the recent decision of Bank Indonesia to introduce limited controls on so-called hot money flows (imposing a minimum one month holding period on its own certificates, SBIs). The central bank handled monetary and exchange rate policy remarkably well at this time of upheaval, as discussed in an earlier Survey, and the results speak for themselves. It seems astonishing that BI simply does not realise that it already has all the ammunition it needs to deal with an imminent balance of payments crisis.
For regular observers, it is astonishing to see how the Indonesian economy withstood relatively well the Global Financial Crisis (GFC). The article and the Survey of recent developments certainly contribute to a better understanding of the policy process that Indonesia went through during the GFC.
But the success of Indonesia in navigating the GFC also led to an interesting “policy spin”. Many believe that less exposure to trade had saved Indonesian economy from the collapse of global trade. Therefore, going forward, Indonesia should not pay much attention to global trade and should focus more on developing domestic demand.
In Basri and Rahardja (2010), we disagree with that notion. Although the share of exports in Indonesian GDP is smaller than in other countries, we believe that the role of exports in driving the economy is greater than what is reported by the simple national accounts breakdown. Exports, particularly commodity exports, played an important role in driving growth before the GFC hit Indonesia. We are in full agreement with Mark Baird and Monica Wihardja in their Survey of recent developments. We also pointed out that the decline in Indonesian export growth was similar to that in other Asian countries.
However, we do not agree with the statement that Indonesia was the only economy experiencing rising net exports during the GFC. One can substract import value (cif) from fob export value (fob) and oberve that net exports of Singapore and South Korea also increased between the 4th quarter of 2008 and 4th quarter of 2009. The decline in Indonesian imports during the GFC was particularly severe for raw materials, and this is consistent with the collapse in export processing and the decline in domestic industry activities.
On the exchange rate policy of Bank Indonesia, I tend to think the otherwise. First, I think this is a forward looking policy beyond dealing with the GFC. Second, I think Bank Indonesia realized that it had time on its side and strong economic fundamentals to introduce a mechanism that could reduce short-term fluctuations in the rupiah exchange rate. And they were right. The policy did not upset the market. In fact, since the instrument was put in place on July 7th 2010, standard deviation of daily changes in rupiah/US$ has declined by half compared to standard deviation in June 2010.
Reference:
Basri, Muhammad and Sjamsu Rahardja, 2010. “The Indonesian Economy Amidst the Global Crisis: Good Policy and Good Luck”, Asean Economic Bulletin. vol 27 (1), pp 77-98
I thank Pak Sjamsu for his comment.
In response, I begin by noting that I did not say ‘that Indonesia was the only economy experiencing rising net exports during the GFC’.
More importantly, I note that the observation that ‘net exports of Singapore and South Korea also increased between the 4th quarter of 2008 and 4th quarter of 2009′ is not particularly helpful. In East Asia the impact of the GFC began to be felt in Q2 2008, gaining strength in Q3 and becoming severe in Q4. There was a little further deterioration in Q1 2009, but GDP growth began to recover thereafter. Thus what happened in most of 2009 is largely irrelevant to the point I was making.
Roughly speaking, the GFC was at its worst in this region in the second half of 2008, and during this period the growth of Indonesia’s net exports was positive and accelerating, while in countries such as Malaysia, Thailand and Taiwan net export growth was decelerating rapidly, and was negative in most cases.
In short, different countries had quite different experiences of the GFC, and it is clear that one cannot focus solely on the importance of exports relative to GDP to explain the severity of the crisis. The USA, for example, has a low level of exports to GDP, yet it has suffered considerably from the GFC.
One of the problems with focusing on exports, rather than net exports, is precisely that this leads to superficial, knee-jerk policy responses along the lines that Indonesia would be better off not to trade too heavily with the rest of the world. Such a response would not have arisen if the original focus had been on net exports.