As financial market meltdowns in Argentina and Turkey spread through global emerging markets, Indonesia is feeling the pain more than its peers in Asia. The rupiah slumped to its weakest level against the dollar since the 1998 Asian financial crisis, prompting the central bank to step up its efforts to stabilize the currency. Bank Indonesia has been tapping its reserves to the tune of billions of dollars and has raised interest rates four times since mid-May.
1. What triggered the selloff?
Even before Argentina and Turkey entered crisis mode, emerging markets were under pressure because of rising U.S. interest rates and a stronger dollar. Part of the appeal of emerging markets is their relatively higher yields compared with developed markets. When that differential falls because of the U.S. Federal Reserve raising borrowing costs, emerging markets become less attractive. More broadly, a deepening currency crisis in Argentina on top of ructions in Turkey have reduced investor appetite for risky assets, prompting an exodus from emerging markets to relatively safe havens in developed markets.
2. Why is Indonesia being targeted?
It’s one of a few Asian emerging markets that runs current-account deficits (so do India and the Philippines), and recent data shows that widened to a four-year high. The deficit economies rely on foreign inflows to finance their import needs, making them vulnerable to a slump in sentiment and sharp outflows. Foreign investors own almost 40 percent of Indonesia’s government bonds, among the highest of Asian emerging markets. Add to that the government runs a budget deficit, meaning it needs to borrow to finance spending.
3. How badly are the currency and stocks faring?
The rupiah is the second-worst performer in Asia (after India) this year, but it’s the hardest-hit currency since the emerging-market selloff began in late January, weakening about 9 percent. The Jakarta Stock Exchange Composite Index, or JCI, is down more than 6 percent this year, while the yield on the benchmark 10-year government bonds has risen this year to the highest since the end of 2016.
4. What has the central bank done to stem the rout?
Bank Indonesia raised interest rates by a total of 125 basis points since May and intervened in both the currency and the bond market to curb losses, draining what was a record stockpile of foreign reserves in January by about $14 billion to $118 billion in July. The central bank has said it stands ready to respond to excessive market volatility and has maintained a hawkish monetary policy. The central bank confirmed further interventions in the currency and bond markets on Aug. 31 as the rupiah fell to its lowest level against the dollar since 1998. The government is doing its bit to shore up dollar supplies too, announcing a range of measures from plans to restrict imports of consumer goods, the acceleration of the use of palm-based biodiesel to cut fuel imports and efforts to boost tourism and exports. It also intends to order its main energy company to be the sole buyer of locally produced crude to help reduce oil imports.
5. Will it succeed?
The central bank says Indonesia’s economic fundamentals are better than many emerging market counterparts such as Argentina, Turkey and Russia, while analysts point to a generally stronger position for Asian emerging markets -- mainly due to healthy foreign-exchange reserves and robust economic fundamentals -- that puts them in a strong position to withstand external shocks. But with the Fed set to continue raising interest rates and the spread between US and emerging market yields narrowing, expect more currency weakness.
6. Hasn’t this happened before?
In the so-called “taper tantrum” of 2013, when the Fed first raised the idea of withdrawing stimulus, the rupiah was one of the hardest-hit currencies in Asia, dropping more than 25 percent against the dollar that year. Finance Minister Sri Mulyani Indrawati has been at pains to point out the economy is in a stronger position than it was in 2013, given bigger foreign reserves and lower inflation. Indeed, Moody’s Investors Service upgraded Indonesia in April citing steps taken to improve the economy’s resilience to global shocks.