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Cablegate: Goi Focuses On Policy Coordination in Bid to Reduce Impact

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RR RUEHWEB

DE RUEHJA #1872/01 2812155
ZNR UUUUU ZZH
R 072155Z OCT 08
FM AMEMBASSY JAKARTA
TO RUEHC/SECSTATE WASHDC 0274
INFO RUCPDOC/USDOC WASHDC 1530
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TOKYO FOR MGREWE
USDA/FAS/OA YOST, MILLER, JACKSON
USDA/FAS/OCRA CRIKER, HIGGISTON, RADLER
USDA/FAS/OGA CHAUDRY, DWYER
USTR WEISEL, EHLERS

E.O. 12958: N/A
TAGS: EFIN ECON ETRD EINV ID

SUBJECT: GOI Focuses on Policy Coordination In Bid to Reduce Impact
of Growing Financial Crisis

1. (SBU) SUMMARY: A four-day local holiday beginning September 30
had insulated Indonesian markets from recent financial market
volatility. On October 6, however, the main Jakarta Stock Exchange
index sank 10%, the rupiah weakened by 1.5%, and domestic bonds sold
off, causing a spike in benchmark 10-year domestic government bond
yields to over 14%. As of late-day October 7, the stock market was
down by another 1.75%, the rupiah finished flat following
considerable volatility and government bonds fluctuated wildly ,
with ten-year yields moving from 12.1% to 14.7%, before closing at
14.256%. President Yudhoyono (SBY) convened a special meeting
October 6 to discuss how Indonesia could reduce the impact of the
growing financial crisis and respond to expected reduced demand from
a slowing global economy. Following the meeting, the government of
Indonesia released a statement announcing extension of tax
incentives aimed at attracting additional investment. On October 7,
Bank Indonesia continued to tighten monetary policy, raising
overnight policy interest rates by 25 basis points for a sixth
consecutive time (to 9.5%), in line with expectations. BI's
decision followed release of September consumer price inflation
data, showing the fastest inflation in two years (0.97% m-o-m/12.14%
y-o-y), up from the pace in August and slightly above market
expectations. END SUMMARY.

2. (U) Note: With financial markets gyrating, SBY named State
Minister for State Enterprises Sofyan Djalil interim Finance
Minister for ten days, beginning October 7, during Finance Minister
Sri Mulyani's absence from the country due to attendance at upcoming
World Bank/IMF meetings and a trip to the Gulf, where activities
include a road show previewing Indonesia's planned global sukuk
(shariah bond) issuance.

BI HIKES POLICY RATE AGAIN, CONTINUES MEASURED TIGHTENING
- - - - - - - - - - - - - - - - - - - - - - - - - - - - -

3. (U) BI's latest hike should help to support the rupiah, as BI
attempts to avoid sharp fluctuations in the exchange rate. The hike
was welcomed by analysts, who had called for continued central bank
tightening to reduce strong domestic demand pressures which have
fueled inflation. Many observers believe this may be the last in
this series of rate hikes, as inflation is expected to begin
trending down on lower energy and food prices. BI's October 7
monetary policy statement noted the decision had been taken after
carefully considering recent financial and economic developments and
their possible effects on the national economy. The statement
further advised that going forward, Bank Indonesia will continue to
coordinate with the government in assessing ongoing developments and
taking necessary steps to maintain the sustainability and stability
of Indonesia's financial system. The statement noted complete
information about the latest economic conditions, including balance
of payments information, would be included in BI's Monetary Policy
Report, available October 14.

4. (U) Although the October 7 statement did not report gross foreign
reserves as of end-September, the BI web site reported official
reserve assets of $57.47 million (as of September 23), down from
$58.36 billion at end-August, and foreign currency reserves of $54.9
billion, down from $55.9 billion at end-August. These declines came
as BI reportedly intervened frequently, though selectively, in
recent weeks to support the rupiah, which has fallen 2.3% in the
past month. Indonesia remains vulnerable to sudden reversals in
capital flows due to increased risk aversion. Bank Indonesia
Governor Boediono told the press on October 5 that he believed most
of the truly "hot money" had already exited Indonesia and that
investors who remained are focused on Indonesia's economic
fundamentals, which remain solid.

5. (U) Bank Indonesia's latest rate hike followed its decision on
September 23 to extend the period of Fine Tune Operations, part of
its Open Markets Operation, from a period of 1 to14 days to a period

of 1 day to 3 months. This period extension provides BI with wider
flexibility for liquidity management and may improve its
effectiveness in maintaining a well functioning money market. Other
regulatory issues, including possible changes in reserve
requirements, reportedly remain under consideration.

INFLATION TICKS UP ON HOLIDAY SPENDING
- - - - - - - - - - - - - - - - - - - -

6. (U) September consumer price inflation released October 6 showed
CPI running at a two-year high (0.97% m-o-m/12.14% y-o-y), and
slightly above market expectations. The up-tick in inflation was
expected, given increased demand associated with the Ramadan and
Idul Fitri holidays. Raw food prices rose 1.9% m-o-m (20.12% y-o-y)
and processed food rose 0.94% m-o-m (11.19% y-o-y). Housing and
utilities rose 1.22% m-o-m (11.02% y-o-y), reflecting in part the
effect of LPG price hikes made in July and August.

TRADE BALANCE IMPROVES, AS IMPORTS FALL
- - - - - - - - - - - - - - - - - - - -

7. (U) August trade figures released October 6 show continued strong
economic activity and an improved trade balance, with the trade
account moving back to surplus following July's trade deficit.
While exports declined by 0.4% m-o-m in August (to $12.5 billion),
they rose by 30.3% y-o-y. Declining commodity prices contributed to
the slight monthly decline in exports, but crude palm exports rose
strongly (to $1.03 billion, from $581.6 million in July) on higher
volumes as the GOI cut export taxes. Total imports fell 7.5% m-o-m
to $11.86 billion, but imports outside the free-trade zones rose 55%
y-o-y.

EFFORTS TO DEAL WITH MARKET VOLATILITY INCLUDE
TEMPORARY BAN ON SHORT SELLING
- - - - - - - - - - - - - - - -

8. (U) The volatility which hit the Indonesian Stock Exchange, whose
main index fell more than 10% (to 1,648.74) on October 6, followed a
4-day holiday closure from September 30 through October 3. The
Indonesian Stock Exchange had announced September 30 the imposition
of a temporary ban on short selling for the month of October. The
Exchange has lost more than 35% from its January 14 high as lower
commodity prices and greater risk aversion have reduced demand for
emerging market equities.

SBY ENCOURAGES A MORE COMPREHENSIVE RESPONSE
- - - - - - - - - - - - - - - - - - - - - - -

9. (U) As volatility has increased in international financial
markets, the Yudhoyono administration has begun to mobilize efforts
across government agencies. SBY has reached out to the private
sector and large state-owned enterprises to contribute to a more
comprehensive response aimed at maintaining economic growth of at
least six percent. This wider engagement should augment the
continuing close collaboration between the Ministry of Finance and
Bank Indonesia.

10. (U) On October 6, SBY convened a special plenary meeting of
ministers, BI, and leaders of state-owned enterprises (SOEs), the
banking community, and representatives of the private sector,
academicians and the media to discuss Indonesia's response to the
growing crisis in international financial markets. SBY noted
Indonesia was in a much better position to face this crisis than it
had been ten years ago and highlighted greatly improved political
and economic stability. SBY outlined ten instructions focused on
the united effort needed to manage and overcome the effects of the
current financial crisis on Indonesia. A central aim is to maintain
economic growth of 6%. SBY said this will require the concerted
efforts of the government, BI and the private sector. These efforts

will include the guarantee of credit and liquidity, improvements in
regulatory policy, the investment climate and incentives aimed at
assisting the real sector to continue moving forward, and a campaign
to promote consumption of domestic products. SBY also stressed that
the state budget should be optimized to spur economic growth, build
a social safety net, increase efficiency, and limit consumption
spending and discretionary spending that could be delayed. He also
noted that Indonesia must also take advantage of opportunities for
trade and economic cooperation with other countries.

GOI TO OFFER INCENTIVES TO ATTRACT INVESTMENT
- - - - - - - - - - - - - - - - - - - - - - -

11. (U) On October 6, the government of Indonesia announced issuance
of a new government regulation (no. 62/2008, revising regulation no.
1/2007), which will offer additional incentives to attract
investment. These incentives focus on expanding the number of
sectors and local areas in which firms may invest and enjoy a lower
income tax rate for up to six years (a reduction in net income of up
to 30% of capital investment, over six years for up to 5% each
year); accelerated amortization; a 10% income tax on dividends paid
to foreign tax entities and favorable treatment of losses (in years
5 through 10 of the investment). Firms investing in specified
sectors (including steel, forestry, geothermal, animal husbandry,
coal mining, textiles, pulp and paper, oil refining, small-scale gas
liquefaction, chemicals, agriculture, automotive parts, and
electronics) will enjoy these benefits.

Efforts to Reduce Budget Deficit, Seek
Alternative Sources of Financing
- - - - - - - - - - - - - - - - -

12. (U) As the global credit crunch has driven up the costs of
financing and of insuring against credit defaults, the Ministry of
Finance has sought to ease financing requirements. Finance Minister
and Coordinating Minister for the Economy Sri Mulyani Indrawati has
made a number of statements outlining her interest in limiting the
2009 budget deficit to 1.5% of GDP, below its previous target of
1.9% of GDP, and the possibility that the 2008 budget deficit may
fall even further from a recently revised figure of 1.7% of GDP (vs.
the original target of 2.1% of GDP), presumably as non-essential
spending is deferred. Sri Mulyani has also advised that the
government would attempt to finance a larger portion of the budget
deficit from bilateral borrowing rather than capital markets,
although the government currently plans to move forward with its
first global sukuk issuance later this year.

ENCOURAGING REPATRIATION OF FUNDS
- - - - - - - - - - - - - - - - -

13. (U) According to press reports, the State Minister for
State-Owned Enterprises, Sofyan Djalil, urged SOEs with off-shore
foreign currency deposits in excess of specific needs to transfer
those funds to the domestic banking system. Djalil said companies
such as Pertamina, Telkom, PLN, Aneka Tambang, Perusahaan Gas Negara
and Timah should not park funds off-shore when Indonesia needed
additional foreign currency.

HUME

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