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Indonesia: Staff Report for the 2006 Article IV Consultation and Fifth Post–Program Monitoring Discussions

Author(s):
International Monetary Fund
Published Date:
August 2006
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This supplement provides an update on developments since the issuance of the staff report. The thrust of the staff appraisal remains unchanged. Following the earlier release of the infrastructure and investment climate policy packages, the financial sector reform package announced on July 7 represents a useful attempt to consolidate financial sector reform efforts, with a focus on accelerating implementation.

Recent developments

1. After being significantly affected by the global market turmoil in May/June, Indonesia’s financial markets have been recovering. In the period since mid-June, which has seen both a rebound and a greater differentiation between emerging markets by investors, capital inflows to Indonesia appear to have resumed. The rupiah has recovered somewhat more strongly than other emerging market currencies, though stock prices have lagged (see Table). Foreign exchange reserves have edged up since end-June, when Indonesia repaid early one-half of its obligations to the Fund, and now amount to about $41 billion.

Financial Market Developments

(As of July 25, 2006)

Change in percent
IndonesiaEmerging markets 1/
Foreign Exchange
Peak to trough–8.1–6.2
Trough to today3.82.2
Stocks
Peak to trough–20.5–19.8
Trough to today6.011.4
Sources: Bloomberg; and Fund staff estimates.

2. Some recent indicators suggest that growth could begin to pick up in the second half of 2006. The consumer confidence index improved further in June reaching its highest level since September 2005 (see Chart). Motorcycle sales have stabilized in the last three months, albeit at a lower level than last summer, and retail sales also show signs of a recovery in May. After a decelerating trend in the first part of 2006, export growth picked up in May (exports in May were 16 percent higher than a year earlier). However, credit growth remains slow.

Consumer Confidence Index

3. Preliminary information through end-June shows a cumulative overall fiscal deficit of about 0.1 percent of GDP, compared to a surplus of 0.7 percent of GDP for the same period last year. There has been some pickup in spending recently. For example, capital expenditures in January–June reached 20 percent of the amount budgeted for the whole year, compared with only 15 percent in January–May. Current expenditures in January–June reached 34 percent of the amount budgeted for the year. If the current pace of spending continues, staff’s projections of spending for 2006 could materialize; a shortfall in spending was seen as a significant risk in the staff report.

Financial sector policy package

4. As expected, the government unveiled a financial sector policy package (FSP) on July 7, aimed at strengthening financial intermediation and enhancing stability. To this end, the FSP includes a series of measures to: (i) address nonperforming loans at the state banks; (ii) improve and strengthen management performance at the state banks; (iii) foster the development and deepening of the nonbank financial sector, including the merger of the Jakarta and Surabaya stock exchanges, and encourage the government debt market; (iv) improve banking supervision, in particular with respect to the introduction of risk-based, consolidated supervision; (v) develop a medium-term privatization strategy; (vi) strengthen the financial safety net through the submission of the long-awaited Financial Sector Safety Net Law to parliament; and (vii) improve the functioning of the credit bureau.

5. While details in some areas have yet to be specified, the package addresses a number of long-standing issues, and includes many of the measures that have been recommended by Fund staff in the past. It was drafted with input from several key stakeholders. To ensure accountability, the FSP clearly identifies the different government agencies that will be responsible for each of the measures.

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