Currency Market in Indonesia

Caitlynn Hans Setiabudi

115753

International Finance

Dr hab. Małgorzata Pawłowska, dr Marcin Grzelak

Contents
Introduction ............................................................................................................................................ 3
Chapter 1: Overview of Indonesian’s Economy ...................................................................................... 4
Chapter 2: Currency Market in Indonesia ............................................................................................... 5
2.1 Overview and Current Condition of the Currency Market in Indonesia ....................................... 5
Table 1: Indonesian Spot Market .................................................................................................... 5
2.3 Key Participants in the Currency Market ...................................................................................... 6
2.4 Regulations Framework and Detailed Role of Central Banks ....................................................... 7
Chapter 3: Factors Influencing the Exchange Rate of IDR ...................................................................... 9
Table 2: Indonesia Exchange Rate History ..................................................................................... 9
3.1 Domestic Factors........................................................................................................................... 9
3.2 International Factors ................................................................................................................... 10
3.3 Additional Factors ....................................................................................................................... 10
Chapter 4: Impact of the Currency Market on the Economy ............................................................... 11
Conclusion ............................................................................................................................................. 12
References ............................................................................................................................................ 13

2
Introduction
In this fast-paced world, the currency market of each country holds immense significance in
determining its economic stability and international financial position. Indonesia's currency
market serves as a perfect example, having great influence as a key player within Southeast
Asia's economic landscape. The management and fluctuations of Indonesia's official currency,
the Rupiah (IDR), have significant implications not only for the country's domestic economic
well-being but also for its relationships with other economies globally.

This essay aims to delve into the intricate workings of Indonesia's currency market, examining
its structure, the factors that exert influence upon it, and its impact on both domestic and global
economic scenarios. The writer will discuss about the economic condition of Indonesia and the
currency market in details, with factors that can affect the volatility of the currency market and
its impact to the economy.

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Chapter 1: Overview of Indonesian’s Economy
Indonesia's economy, a mix of private and governmental components, is widely considered as
one of the strongest globally, also being the largest in Southeast Asia. This can be proven by
analysing its purchasing power, which holds the seventh-largest position based on GDP at
Purchasing Power Parity (PPP). The country benefits from an abundance of natural resources
like petroleum, natural gas, tin, copper, and gold, and is the largest global producer of palm oil,
making the export of these resources a significant pillar of the country's economy.

The rapid growth of the industrial sector, including the automotive production, electrical
appliance manufacturing, and textile and garment manufacturing, contributes significantly to
Indonesia's GDP. At the same time, the service sector, particularly tourism, further bolsters the
economy, with popular tourist destinations such as Bali having international recognition.

Infrastructure improvements have undeniably played a crucial role in Indonesia’s economic

progress because the government has prioritized the advancement of its digital economy and
tourism sector. In addition, Indonesia has always actively engaged in free trade agreements
such as Vietnam Free Trade Area and the ASEAN Free Trade Area (AFTA). The country has
also established bilateral free trade agreements, further promoting trade and economic growth.
Indonesia’s strategic focus on key export commodities, such as palm oil, coal, and cocoa, has
contributed to its economic success and global competitiveness.

In order to attract foreign investment, the Indonesian government implements fiscal policy
measures such as tax incentives and the liberalization of specific economic sectors. The
responsibility for managing the nation’s monetary policy and stability of IDR is being held by
the Central Bank of Indonesia (BI).

It is important to note that even though Indonesia is very fast growing, Indonesian also faces
several challenges. One of the main one is unemployment rate. As for now, the unemployment
rate in Indonesia is 5.30% which is considered high in South-East Asian Countries
(Employment – Indonesia | Statista Market Forecast, n.d.). Other challenges include
inadequate infrastructure, heavy corruption, a complex regulatory environment, and disparities
in the distribution of resources among its population. Nevertheless, despite their obstacles,
Indonesian government still try their best to overcome this. Combining between the
government effort and Indonesian’s economic position, it shows a promising future for
Indonesia.

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Chapter 2: Currency Market in Indonesia
2.1 Overview and Current Condition of the Currency Market in Indonesia
The Indonesia’s currency market is primarily managed by Bank Indonesia, the country’s
central bank. Bank Indonesia is responsible for implementing the country’s monetary policy
and maintaining the stability of the Rupiah (IDR), which is Indonesia’s official currency.

The Indonesian currency market operates under a managed float regime. This means that the
value of the IDR is largely determined by market forces, i.e., supply and demand. However,
Bank Indonesia occasionally intervenes to prevent excessive volatility and to maintain stability.

In the currency market, transactions generally occur in two forms, spot, and forward
transactions. Spot transactions are where currencies are immediately exchanged, while forward
transactions involve a contract to exchange currencies at a future date and at a specified rate.
Other than this, Indonesia also has a foreign exchange swap market, where two parties agree
to exchange two different currencies for a specified period and then reverse the transaction at
the end of that period.

As of November 15, 2023, the Indonesian rupiah (IDR) is trading at around Rp15,300 per US
dollar. This represents a slight appreciation from its level of Rp15,400 per US dollar in October
2023 (U.S. Dollar-Indonesian Rupiah History: 2023, n.d.). The IDR has been relatively stable
in recent months, despite global economic uncertainties.

In terms of Spot market, it can be seen from the graph below that Indonesia is experiencing
slight downward if compared to October. However, it still shows higher trend since previous
months.

Table 1: Indonesian Spot Market, source: https://www.reuters.com/markets/commodities/indonesia-fires-

thermal-coal-exports-new-highs-2023-11-09/
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Several factors are supporting the IDR, including:
• Strong economic growth: Indonesia's economy is expected to grow by 4.8% in 2023,
driven by strong domestic consumption and investment (PricewaterhouseCoopers, n.d.).
• Rising commodity prices: Indonesia is a major exporter of commodities, such as oil, palm
oil, and rubber. Rising commodity prices have boosted export earnings and supported the
IDR.
• Positive investor sentiment: Investors are increasingly optimistic about Indonesia's
economic outlook, which has helped to attract foreign capital inflows and support the
IDR.

On the other hand, the risks that IDR poses can be seen below:
• Global economic uncertainties: The global economy is facing a number of challenges,
including rising inflation, interest rates, and geopolitical tensions. These could lead to a
flight to haven currencies, such as the US dollar, and put downward pressure on the IDR.
• Domestic political risks: Indonesia's political landscape is relatively stable, but there are
always some risks associated with elections and changes in government. These risks
could lead to increased uncertainty and volatility in the IDR.

Looking ahead, the prospect for the IDR appears promising. Indonesia’s strong economic
fundamentals and positive investor sentiment are expected to contribute to the currency
stability. However, it is important for investors to remain objective to the risks related to the
economic climate and domestic factors since it can impact the IDR’s trajectory.

2.3 Key Participants in the Currency Market

Indonesia’s currency market is a very complex system, with a diverse range of participants
playing crucial roles in its operation and stability. These participants can be broadly categorized
into three main groups: banks, non-bank financial institutions, corporations, and individuals.
1. Banks
Banks are the main player of Indonesia’s currency market since they are acting as
intermediaries between individuals, businesses, and the government. They facilitate
currency exchange, trade finance, and other financial transactions, ensuring the smooth
flow of funds in the economy. Major banks in Indonesia include Bank Mandiri, Bank
Negara Indonesia (BNI), and Bank Rakyat Indonesia (BRI).
2. Non-Bank Financial Institutions
These institutions include investment banks, hedge funds, and insurance companies
such as Prudential Life Assurance and Mandiri Sekuritas. They engage in a variety of
6
 currency-related activities, such as proprietary trading, asset management, and risk
hedging.
3. Corporations and Individuals
Corporations engage in currency transactions to facilitate international trade and
investment, while individuals participate in the market for personal reasons such as
travel or remittances.

In addition to these main groups, several other entities also play crucial roles in Indonesia’s
currency market. One of the most important entities is Bank Indonesia (BI) which is the central
bank of Indonesia and the primary regulator of the country’s currency market. Another example
is Indonesia Financial Market Supervisory Authority (OJK) which is responsible for regulating
and supervising the non-bank financial sector in Indonesia, including NBFIs that participate in
the currency market. Lastly, currency brokers and electronic trading platforms also play a role
since they facilitate currency transactions between market participants, providing liquidity and
price discovery.

Together, these diverse participants contribute to the dynamism and stability of Indonesia’s
currency market, ensuring an efficient and effective mechanism for facilitating cross-border
trade and investment.

2.4 Regulations Framework and Detailed Role of Central Banks

The currency market in Indonesia is regulated by a comprehensive framework of laws,
regulations, and guidelines issued by the Bank of Indonesia (BI), and the Indonesia Financial
Market Supervisory Authority (OJK).

Established in 1953, Bank of Indonesia serves as the central bank of Indonesia, tasked with
maintaining monetary and financial stability to promote sustainable economic growth. BI’s
primarily roles in relation to the currency market include maintaining Indonesia’s foreign
exchange reserves which act as a buffer against external shocks and provide liquidity for
international transactions. BI also establishes regulations and guidelines governing foreign
exchange trading in Indonesia by ensuring currency market activities to comply with regulatory
requirements. Furthermore, they also facilitate cross-border payments to support international
trade and investment and enforcing AML/CFT regulations within the currency market to
prevent the use of financial channels for illicit activities.

Together with OJK, BI and OJK ensure market’s compliance with the currency market
regulations by conducting inspections, impose penalties, and take other enforcement actions

7
based on the law. They also maintain regular dialogue with market participants to address
emerging issues and adapt regulations when necessary.

Regarding the regulation, Indonesia’s currency market regulations is aimed to promote market
stability, transparency, and investor protection. Key regulations governing the currency market
includes:

1. Bank Indonesia Act (Act No.23 of 1999, as amended by Act No. 4 of 2023)
This overarching law establishes BI’s mandate and authority to regulate the currency
market. It empowers BI to set monetary policy, manage the IDR, and oversee the
activities of market participants.
2. Regulation on Foreign Exchange Trading (Regulation BI No. 22/21/PBI/2020)
This regulation outlines the specific rules governing foreign exchange trading in
Indonesia. It covers topics such as foreign exchange licenses, trading procedures, and
reporting requirements.
3. Circular on the Implementation of Foreign Exchange Trading Regulation (Circular BI
No. 19/21/PBI/2020)
This circular provides detailed guidance on the implementation of the Foreign
Exchange Trading Regulation. It clarifies interpretations and clarifies operational
procedures.
4. Regulation on Reporting of Foreign Exchange Transactions (Regulation BI No.
12/21/PBI/2020)
This regulation mandates the reporting of foreign exchange transactions to BI for
monitoring and analysis purposes.
Even though the regulations can be seen as sufficient, Bank Indonesia’s efforts to maintain a
stable exchange rate, the Rupiah has seen bouts of volatility due to various domestic and
international factors such as changes in commodity prices, geopolitical risks, and investor
sentiment towards emerging market economies.

8
Chapter 3: Factors Influencing the Exchange Rate of IDR

Table 2: Indonesia Exchange Rate History, source: https://www.statista.com/statistics/995840/indonesia-

exchange-rate-between-rupiahs-and-us-dollar/

As shown by the graph, Indonesian exchange rates fluctuates significantly throughout the
history. This is because the exchange rate is determined by a complex interplay of factors which
can be divided into two groups, domestic and international factors.

3.1 Domestic Factors

Domestic factors that influence the fluctuation of IDR include interest rate, inflation, economic
growth, fiscal policy, and balance of trade. With regards to interest rate, higher interest rates
attract more foreign investment into IDR-denominated assets which leads to increased demand
for IDR and appreciation of the currency. On the other hand, lower interest rates can discourage
foreign investment and put downward pressure on the IDR.

In terms of inflation, higher inflation erodes the purchasing power of the IDR, making it less
attractive to foreign investors and potentially leading to depreciation. Inline with this, stronger
economic growth typically leads to increased demand for IDR and the other way around.

The government’s fiscal policy, particularly its spending and borrowing patterns, can also
influence the IDR exchange rate. Expansionary fiscal policies, involving increased government
spending or borrowing, can put downward pressure on the currency, while contractionary
policies may support its appreciation.

Lastly, the balance of trade. Indonesia’s balance of trade, the difference between its exports
and imports, plays a significant role in influencing the IDR exchange rate. A trade surplus,
where exports exceed imports, typically leads to increased demand for IDR and supports the
currency’s value. Meanwhile, a trade deficit can put downward pressure on the IDR.

9
3.2 International Factors
Global economic conditions, international interest rates, and Geopolitical Developments are
some of the international factors that are affecting the exchange rate of IDR. The global
economic conditions can significantly impact the IDR exchange rate. A strong global economy
typically leads to increased demand for riskier assets, including emerging market currencies
like IDR. Conversely, a weak global economy can trigger risk aversion and put downward
pressure on the currency.

International interest rates, especially those set by major central banks like the US Federal
Reserve, is also influencing the rate. Higher international interest rates attract capital away
from emerging markets like Indonesia, putting downward pressure on IDR. On the other hand,
lower international interest rates can encourage capital inflows and support IDR appreciation.

Lastly, geopolitical events also can be put into account. Geopolitical events, such as conflicts
or tensions in major regions can create uncertainty and risk aversion in the global financial
markets. This can lead to capital flight from emerging markets such as Indonesia, putting
downward pressure on the IDR.

3.3 Additional Factors

Often overlooked, investor sentiment, currency speculation, and capital flows can affect the
exchange rate significantly. A positive outlook from investors will attract capital inflows and
support the currency, while a negative outlook will lead to capital outflows and put negative
pressure on Rupiah.

In terms of currency speculation, currency speculators may buy or sell IDR based on their
expectations of future exchange rate movements, which can create temporary volatility. In
addition, capital flows, both inward and outward, are also affecting the rate. Net inflows, when
foreign investment exceeds domestic investment, typically lead to increased demand for IDR
and support the currency. On the other hand, net outflows, when domestic investment exceeds
foreign investment, will lead to negative impact towards IDR.

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Chapter 4: Impact of the Currency Market on the Economy
The Indonesian Rupiah (IDR) plays a critical role in the Indonesian economy, influencing
trade, investment, inflation, and overall economic growth. Fluctuations in the exchange rate of
the IDR can have significant impacts on various sectors of the economy.

First, Indonesia is an export-oriented economy, and the exchange rate of the IDR directly
influences the competitiveness of Indonesian exports. A depreciated IDR makes Indonesian
exports cheaper in foreign markets, leading to increased export earnings and potentially
stimulating economic growth, and vice versa.

The exchange rate also affects investment decisions in Indonesia. A stable and attractive IDR
can attract foreign investment, providing access to foreign capital and expertise that can support
economic development. Conversely, an unstable or unattractive IDR can discourage foreign
investment, hindering economic growth and limiting investment opportunities. Furthermore, it
is also influencing the consumer and business confidence in Indonesia. A stable currency
environment can foster confidence and encourage spending and investment, while a volatile
currency market can create uncertainty and discourage economic activity.

Thirdly, Currency fluctuations can also indirectly impact inflation in Indonesia. A depreciated
IDR can increase the cost of imported goods, potentially contributing to domestic inflation, and
the other way around. Moreover, it can also impact debt servicing. Businesses and the
government often borrow in foreign currencies, making them vulnerable to exchange rate
fluctuations. A depreciation of the IDR can increase the cost of servicing foreign-denominated
debt, potentially straining corporate and government finances.

Finally, policy implications. The Indonesian government and central bank, Bank Indonesia
(BI), closely monitor the currency market and implement policies to maintain exchange rate
stability and promote economic growth. These actions may include changes in monetary
policy, intervention to the foreign exchange market, changes towards macroeconomic
measures, and fiscal policy.

In general, currency market plays a significant role in the country’s economic performance.
Therefore, it is very crucial to maintain stable currency market since it will result in conducive
environment for trade, investment, and overall economic growth.

11
Conclusion
The currency market in Indonesia is significantly affecting the country's economic stability and
growth. The exchange rate of the Indonesian rupiah (IDR) can impact trade, investment,
inflation, and consumer and business confidence. Therefore, it is very important for
government, businesses, and individuals to understand the dynamics of the currency market
and its influence on various economic sectors.

In terms of the projected economic growth of 4.8% in 2023, several factors contribute to this.
This includes rising commodity prices which beneficial for Indonesia as focusing mainly on
export, and positive investor sentiment which attract foreign capital inflows.

Despite these positive developments, the Indonesian currency market is still not without its
challenges. Global economic uncertainties, including rising inflation, interest rates, and
geopolitical tensions, could lead to a flight to safe-haven currencies, such as the US dollar, and
put negative pressure on the IDR. Domestic political risks, while relatively low, could also
introduce elements of uncertainty and volatility to the currency market.

In conclusion, the currency market in Indonesia is a dynamic and complex landscape that plays
a crucial role in the country's economic well-being. Understanding the interplay of domestic
and international factors, along with the government's policy responses, is essential for
navigating the intricacies of the Indonesian currency market and making informed financial
decisions.

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