This Selected Issues paper takes stock of Indonesia’s performance against the original macroeconomic objectives under the IMF’s extended arrangement. The paper compares the performance of the Indonesian economy in the post-crisis period with that of the other major “crisis” countries in the region. It reviews the background to the current extended arrangement and describes the core macroeconomic objectives of the program. The paper also considers Indonesia’s performance against objectives for growth, inflation, the balance of payments, and improving Indonesia’s debt sustainability.


This Selected Issues paper takes stock of Indonesia’s performance against the original macroeconomic objectives under the IMF’s extended arrangement. The paper compares the performance of the Indonesian economy in the post-crisis period with that of the other major “crisis” countries in the region. It reviews the background to the current extended arrangement and describes the core macroeconomic objectives of the program. The paper also considers Indonesia’s performance against objectives for growth, inflation, the balance of payments, and improving Indonesia’s debt sustainability.

I. Macroeconomic Performance Under the Extended Arrangement1

A. Introduction and Summary

1. With the completion of the fifth review, Indonesia will be approaching the halfway stage under the current extended arrangement. This chapter takes stock of Indonesia’s performance against the original macroeconomic objectives and compares the performance of the Indonesian economy in the postcrisis period against that of the other major “crisis” countries in the region. In this context it also revisits the staff’s earlier analysis of the medium-term outlook for Indonesia’s debt sustainability.

2. Performance against the four core macroeconomic objectives of the program—restoring growth, entrenching low inflation, reducing the debt burden and eliminating reliance on exceptional financing—has lagged behind the original expectations of the program. More generally, Indonesia’s recovery from the crisis has been weaker than that of other countries in the region. The principal factor behind the lagging macroeconomic performance has been the failure, over much of the program, to sufficiently accelerate reforms in key areas such as bank and corporate restructuring and judicial reform. The chapter concludes, however, that the core macroeconomic objectives under the program remain attainable, provided that the momentum of reforms is increased.

3. This chapter is organized as follows. Section B reviews the background to the current extended arrangement and describes the core macroeconomic objectives of the program. Section C considers the performance against these objectives, focusing in particular on the objectives for growth, inflation, the balance of payments and improving Indonesia’s debt sustainability. Section D reviews the medium-term outlook in light of these developments.

B. Background to the Extended Arrangement

4. The current extended arrangement (EFF) for SDR 3.6 billion was approved in February 2000. It replaced an extended arrangement approved in August 1998, which in turn had succeeded Indonesia’s first stand-by arrangement which was approved in November 1997. The current arrangement was extended to December 2003 at the time of the fourth review to provide more time for the reforms under the program to take root.

5. The EFF was negotiated against a background of a still fragile economy. Although macroeconomic stability had been restored and the rupiah had appreciated significantly from its crisis lows, overall progress in restructuring—especially of the bank and corporate sectors—had yet to reach a decisive stage. Government debt had also risen sharply as a result of recapitalizing the banking system and Indonesia’s external position remained difficult despite a significant turnaround in the external trade and current accounts.

6. The new program sought to accelerate reforms, focusing in particular on the unfinished agenda for bank and corporate restructuring, asset recovery and privatization, and legal and governance reforms. The key objectives were to restore growth, entrench low inflation, reduce the debt burden and eliminate Indonesia’s reliance on exceptional external financing. The specific targets under the program included:

  • A recovery in economic growth to around 5–6 percent, to bring output back to its precrisis level by 2003;

  • Maintaining inflation in the low single digit range;

  • Reducing government debt to around 65 percent of GDP by 2004.

7. It was recognized that achievement of these objectives was predicated on continued political stability and renewed momentum in restructuring and reforms, without which the favorable macroeconomic environment assumed under the program—notably further declines in real interest rates and sustaining the appreciation of the rupiah—was unlikely to be realized.

C. Performance Under the Program

8. This section reviews the performance of the economy since 1999/2000 against the original objectives under the program. It considers first performance against the growth and inflation objectives, contrasting the experience in Indonesia with other countries in the region. It then reviews progress against the program’s balance of payments and public debt objectives and considers the extent to which the key elements of the strategy to reduce Indonesia’s debt—fiscal consolidation, asset recovery and favorable macroeconomic environment—have evolved in line with expectations under the original program.


9. Despite a promising beginning, the economic recovery has yet to fully take hold (Figure 1). The economy initially rebounded more strongly than anticipated from the crisis. Real GDP grew by 4.8 percent in 2000, above the range of 3–4 percent assumed under the program. The recovery also broadened beyond domestic consumption, with investment making a significant contribution.

Figure 1:
Figure 1:

Economic Recovery, 1997/98-2002

Citation: IMF Staff Country Reports 2002, 154; 10.5089/9781451818239.002.A001

10. The recovery however faltered in 2001. Growth slowed to 3.3 percent and while private consumption remained buoyant, both investment and exports weakened sharply. The economic slowdown in 2001 reflects in part the impact of the domestic political upheaval in 2000–01 and the weakening global environment, particularly post September 11. Indeed given the difficult environment in 2001, economic activity held up reasonably well. Nevertheless the recent slowdown in investment suggests that the sustainability of the recovery is far from assured and the growth outlook for 2002 is much weaker than envisaged under the original program.

11. Indonesia’s recovery from the crisis has also been significantly weaker than most other crisis countries in the region (Chart 1). The rapid recovery in output in the region in 1999–2000 was underpinned by strong external demand, particularly for electronics, and a sharp rebound in fixed investment. The recovery was strongest in those countries, such as Malaysia and Korea, where there was substantial early progress on reform that helped boost market confidence. In contrast, in Indonesia, where doubts remained about the authorities’ commitment to reform, market sentiment has remained more fragile, real interest rates have been correspondingly higher, and the recovery has been less robust.


12. Although macroeconomic stability has been maintained, the rate of inflation has been significantly above the range targeted under the program (Figure 2). Having fallen sharply in 1999/00—to under 5 percent—following the tightening of monetary conditions in the postcrisis stabilization phase, Indonesia’s core inflation rate moved steadily upward from mid-2000 onwards, peaking at around 14 percent in mid-2001. The upward trend in inflation abated in the second half of the year and core inflation has eased to 12–13 percent since then. Headline inflation rose sharply in the first two months of 2002, on the effects of large hikes in administered energy prices and supply disruptions associated with the severe floods, but has since fallen back to around 14 percent.

Figure 2:
Figure 2:

Inflation Developments

(12-month basis)

Citation: IMF Staff Country Reports 2002, 154; 10.5089/9781451818239.002.A001

13. The rise in inflation in Indonesia in 2001 contrasts with that of the other Asian emerging economies, where inflation remained in the low to mid single digits (Chart 1). One obvious distinguishing factor was the steep depreciation of the rupiah through early 2001. The rupiah depreciated from about Rp 7,000 per dollar in early 2000 to a post crisis low of Rp 12,000 per dollar in April 2001. It has since recovered below Rp 10,000, but remains about 40 percent below its level in early 2000.

14. Monetary policy, however, was slow to respond to the rise in inflationary pressures in 2000 and early 2001. As a result, base money growth accelerated sharply, remaining at around 20 percent (12 month basis) throughout 2001.2 Monetary policy was tightened progressively in the first half of 2001, with the benchmark one month SBI rate rising by more than 3 percentage points to 17½ percent (Figure 3). Base–money growth has since slowed sharply, falling to around 13–14 percent in early 2002. Since the beginning of the year the SBI rate has fallen by around ¾ of a percentage point.

Figure 3:
Figure 3:

Policy Rates

(Percent per annum)

Citation: IMF Staff Country Reports 2002, 154; 10.5089/9781451818239.002.A001

Balance of payments

15. The current account surplus has remained significantly higher than projected, reflecting mainly lower imports. The current account surplus rose to $8 billion (5.2 percent of GDP) in 2000 and remained at $6½ billion (4 percent of GDP) in 2001, compared to an original forecast of near balance (Table 1). Higher oil prices contributed in 2000–01, but the primary reason was weaker imports, linked to the slower recovery in investment.

Table 1.

Balance of Payments Performance against program Targets

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16. The counterpart to the larger current account surplus has been persistent private capital outflows. The original program had assumed that net private capital flows would be largely in balance by 2001, but the latest staff estimates suggest net outflows remained over $6 billion.3 Net official inflows have also been weaker than expected, reflecting primarily the impact of delayed implementation of policy reforms on the disbursement of official program financing.

17. Progress toward eliminating Indonesia’s reliance on exceptional financing has also lagged. The program had envisaged that international reserves would rise to around S30 billion and that the need for exceptional financing would be eliminated. In the event, reserves accumulation has been slightly weaker than envisaged, and an exceptional financing need is still projected for 2002 and 2003. To close this gap, the authorities have submitted a request to Paris Club creditors for a successor rescheduling covering interest and principal falling due beyond March 2002.

Public Debt

18. Indonesia’s debt burden increased sharply during the crisis. By the time that the current EFF was negotiated, total government debt had risen from a relatively comfortable precrisis level of around 25 percent of GDP to close to 100 percent of GDP. Most of the increase in debt reflected the issuance of domestic debt to finance the costs of bank restructuring. Thus, by end-1999 domestic debt had risen to over 50 percent of GDP, up from zero before the crisis. External debt had roughly doubled as a percent of GDP, but this reflected largely the impact of the steep depreciation of the rupiah. The increase in external debt in US$ terms was relatively modest.

19. The program aimed to reduce the government debt-GDP ratio to around 65 percent of GDP by 2004. The strategy for achieving this objective rested on fiscal consolidation and the mobilization of resources through IBRA asset recovery and privatization. The achievement of sustainable debt dynamics also required a favorable macroeconomic environment, notably a pick-up in GDP growth, a decline in real interest rates to below the growth of real GDP, and a preservation of the appreciation of the rupiah.4

20. Indonesia’s debt has yet to be placed on a sustainable footing, despite the fact that the evolution of the debt-to-GDP ratio has been broadly in line with the path envisaged under the original program. Progress on fiscal consolidation and asset recovery have lagged earlier expectations. More fundamentally, Indonesia has yet to establish the supportive macroeconomic environment of higher growth, declining real interest rates, and a strengthened rupiah upon which the original debt sustainability strategy was predicated.

21. This section reviews briefly the performance of the individual components of the program strategy in this area, to obtain a better understanding of the progress made towards the improving Indonesia debt dynamics (Table 1).

  • Fiscal consolidation. While the reduction in the primary balance and the overall deficit has outperformed the original program targets, this reflected primarily a windfall from higher-than-expected international oil prices. The underlying non-oil primary deficit was significantly larger than originally programmed in 2000–01. Progress was made in mobilizing non-oil revenues, a key program objective, but this was more than offset by delays in reducing energy subsidies and larger-than-expected costs of fiscal decentralization.5 The 2002 budget targets, however, will broadly restore the deficit reduction path envisaged under the original program.

  • IBRA Asset Recovery. The original program strategy was to use IBRA’s cash proceeds from asset recoveries to finance the budget, thereby reducing dependence on debt financing, and to use recoveries from sales paid in bonds to directly retire debt. Total cash recoveries over the period 2000-2001 were estimated at 3½ percent of GDP, while total recoveries for direct debt reduction were estimated at just over 3 percent of GDP. Cash recoveries have performed well, exceeding their target in both 2000 and 2001. However, there was a significant shortfall in recoveries for debt reduction. IBRA recoveries from this source totaled less than 1 percent of GDP, and the bulk of these recoveries came from the return of “excess recapitalization bonds” from the banking system, rather than from loan and equity sales. The program for 2002 envisages a significant increase in cash recoveries, although total recoveries are expected to remain below the original program targets.6

  • Privatization. Like IBRA cash recoveries, it was envisaged that privatization proceeds to would help reduce the budget’s dependence on debt financing. Progress under the privatization program has, however, been a major area of weakness, with effectively no sales until late 2001. In addition to its negative impact on the public debt dynamics, this performance has also adversely affected investor sentiment more generally. The new government has made the reactivation of the privatization program a priority for 2002.

  • Macroeconomic environment. After a promising start, the macroeconomic environment has turned out very different from that envisaged under the original program. The recovery has been weaker, the nominal exchange rate has been significantly more depreciated, and nominal interest rates have been higher. These factors reflect primarily the failure to reinvigorate the reform agenda sufficiently to achieve a sustained restoration of investor confidence in Indonesia. The prolonged period of domestic political uncertainty was clearly also a significant contributory factor to the weaker economic environment. Higher inflation has temporarily moderated some of the adverse impact on Indonesia’s debt dynamics. In particular, the rise in inflation in 2000 and 2001 lowered real interest rates below those envisaged under the original program, easing some of the pressure on Indonesia’s debt dynamics.

Table 2.

Fiscal Sustainability, 1999-2004 Performance Compared with Original Program Targets

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Transfers to budget.

Period average.

SBI rate.

Projections for 2003 and 2004 onwards assume a constant real exchange rate.

D. Medium-Term Outlook

22. The original macroeconomic objectives remain attainable provided the government is able to establish the mutually reinforcing cycle of economic reforms and rising market confidence envisaged under the original program. Consistent implementation of the economic strategy laid out in the current program provides a basis for achieving this objective. Key aspects of the strategy include continued prudent macroeconomic policies as well as accelerated reforms in the core areas of bank and corporate restructuring, legal and judicial reform and governance. Pursuit of sound policies in other areas, such as labor market reforms,7 will also be important.

23. The staff has updated its earlier assessment of the medium-term outlook under such a scenario (Chart 2). The macroeconomic assumptions are broadly unchanged from that presented under the original program, reflecting an unchanged assessment of Indonesia’s economic potential. Growth is projected to accelerate to 5–6 percent over the medium term, inflation is expected to decline gradually to the mid-single digits, the real exchange rate is assumed to appreciate somewhat in 2002 and to broadly maintain its value thereafter, and real interest rates to stabilize at around 4–5 percent over the medium-term. Finally, fiscal policy would be geared to maintaining a primary surplus of about 3-3½ percent, close to current levels.

24. Under the staff’s baseline scenario public debt would decline to about two-thirds of GDP by 2004 and to about 50 percent of GDP by 2007. The budget would move gradually into balance, but with the elimination of untargeted fuel subsidies and continued improvements in the non-oil tax performance, there would be room to boost the priority social and development spending needed to maintain the basic infrastructure, sustain growth, and reduce poverty.

25. There clearly remain significant downside risks to the achievement of such a scenario, as progress on reforms has yet to be sufficient to achieve the required turnaround in investor sentiment. Without such a turnaround, investment and growth are unlikely to recover from recent levels on a sustained basis. Risk premia associated with Indonesia would remain high, the exchange rate would remain weak and there would correspondingly be limited scope for monetary policy to be more supportive of an economic recovery, further weakening the economic outlook. Under such an alternative scenario (Chart 2) the decline in the public debt ratio would be significantly more gradual. Progress on asset recovery and privatization would be slower and access to concessional external financing would be reduced. The rise in domestic financing implicit in such a scenario would risk crowding out the private sector recovery.

Chart 1:
Chart 1:

Recovery from Crisis in Comparison to Other Countries in the Region.

Citation: IMF Staff Country Reports 2002, 154; 10.5089/9781451818239.002.A001

Chart 2:
Chart 2:

Medium-Term Framework, 2000-07

Citation: IMF Staff Country Reports 2002, 154; 10.5089/9781451818239.002.A001

Source: Fund staff estimates.

Prepared by Ben Bingham and Jung Yeon Kim (both APD).


The linkages between monetary policy and inflation are discussed in Chapter II.


Trends in private capital flows are discussed in Chapter IV.


The rupiah had appreciated from a crisis low of Rp 16,000 per dollar in early 1998 to around Rp 7,100 per dollar by end-1999, just prior to the approval of the current program.


Subsidies rose to over 6 percent of GDP in FY2000, from 4 percent in FY1999, and remained around 5½ percent in FY2001. Staff estimates suggest that the net cost of fiscal decentralization was about 1½ percent of GDP (Chapter V reviews the experience with fiscal decentralization to date).


Chapter III reviews performance and prospects for IBRA asset recoveries.


Recent labor market developments and policies are discussed in Chapter VI.

Indonesia: Selected Issues
Author: International Monetary Fund