Course : 0062J

Perekonomian Indonesia
Monetary Crisis in Indonesia
Week 7
 Financial Crises, Stabilization,
and Deficits (Chapter 30, Case, Fair, Oster, 2012)

1. A firm can finance an investment project by borrowing

from banks, by issuing bonds, or by issuing new shares of
its stock.
2. The price of a stock should equal the discounted value of
its expected future dividends, where the discount factors
depend on the interest rate and risk.
3. A bubble exists when the price of a stock exceeds the
discounted value of its expected future dividends. In this
case what matters is what people expect that other people
expect about how much the stock can be sold for in the
future.
 Financial Crises, Stabilization,
and Deficits (Chapter 30, Case, Fair, Oster, 2012)

4. The largest stock market boom in U.S. history occurred between

1995 and 2000, when the S&P 500 index rose by 25 percent per
year. The boom added $14 trillion to household wealth.
5. Why there was a stock market boom in 1995–2000 appears to be
a puzzle. There was nothing unusual about earnings that would
predict such a boom. Many people believe that the boom was
merely a bubble.
6. Housing prices rose rapidly between 2000 and 2006 and fell
rapidly between 2006 and 2009.Many consider that the fall in
housing prices beginning in 2006 led to the recession and
financial crisis of 2008–2009.
 Financial Crises, Stabilization,
and Deficits (Chapter 30, Case, Fair, Oster, 2012)

7. Changes in stock prices and housing prices change

household wealth, which affects consumption and thus
the real economy. Changes in stock and housing prices
are largely unpredictable, which makes many fluctuations
in the economy unpredictable.
 Time Lags Regarding Monetary and Fiscal
Policy (Chapter 30, Case, Fair, Oster, 2012)
• Stabilization policy describes both fiscal and monetary policy,
the goals of which are to smooth out fluctuations in output and
employment and to keep prices as stable as possible.
Stabilization goals are not necessarily easy to achieve because
of the existence of certain time lags, or delays in the response
of the economy to macroeconomic policies.
• A recognition lag is the time it takes for policy makers to
recognize the existence of a boom or a slump. An
implementation lag is the time it takes to put the desired policy
into effect once economists and policy makers recognize that
the economy is in a boom or a slump.
 Time Lags Regarding Monetary and Fiscal
Policy (Chapter 30, Case, Fair, Oster, 2012)
• A response lag is the time it takes for the economy to
adjust to the new conditions after a new policy is
implemented—in other words, a lag that occurs because of
the operation of the economy itself. In general, monetary
policy can be implemented more rapidly than fiscal policy
but fiscal policy generally has a shorter response lag than
monetary policy.
 Deficit Targeting as an Automatic Destabilizer
(Chapter 30, Case, Fair, Oster, 2012)

• Deficit targeting changes the way the economy responds to negative

demand shocks because it does not allow the deficit to increase. The
result is a smaller deficit but a larger decline in income than would have
otherwise occurred.
Deficit Targeting as an Automatic Destabilizer
(Chapter 30, Case, Fair, Oster, 2012)
 Indonesia National Income Per capita
(World Bank, 2012)

Monetary Economic
Crisis Recovery
 Indonesia Stock Exchange
(BEI, 2012)

Global
Financial
Crisis

Monetary Economic
Crisis Recovery
 Causes of the Crisis
• Devaluation of the Indonesian rupiah in relations to the dollar.
– 1997: Rp 2,600/USD 1
– 1998: Rp 11,000/USD 1
– Highest - Lowest: Rp 15,000 – Rp 8,000 / USD 1
 Causes of the Crisis
• Fundamental weakness in the economy
– Inadequate liquidity where banks and corporations had
too little cash and current assets to pay of their current
and maturing liabilities.
 Causes of the Crisis

• Fundamental weakness in the economy

– Excessive un-hedged and unsecured borrowing
abroad by the private sector, specifically
corporations and banks.
• Supported by inadequate supervisory institutions.
 Causes of the Crisis
• The cycle caused by lack of liquidity and over borrowing.
– Strong demand for dollars.

Declining ability
to repay loans

Develop and
Foreign
increase
financial issues borrowing

Foreign investor Unable to repay

with capital loans
 Causes of the Crisis
• Fundamental weakness in the economy
– Investment/Overinvestment of borrowed funds
into speculative projects and export industries
where growth was difficult to predict.
• Like luxury condos, steel, shipbuilding and others.
 Causes of the Crisis
• Increased the currency band.
– Indonesia responds by increase currency band
on rupiah from 8% to 12% so the value of the
currency had more room to fluctuate and to
allow the currency to re-stabilize within the
band.
– Manage floating exchange rate (SEEN AS STABLE)
to a free floating exchange rate (SEEN AS
UNSTABLE).
 Causes of the Crisis
• How does it all come together?
– As the strength of the of the Indonesian rupiah
continually decreased.
– The over borrowing of foreign loans by the
private sector (specifically private corporations)
cause increased borrowing of the dollar.
– Corporations discarded rupiah (because of
increase in debt under the rupiah), continuingly
undermining the value of the rupiah.
Indonesia Monetary Crisis 1997-
1999
Thank You