VZCZCXRO3690
RR RUEHCHI RUEHCN RUEHDT RUEHHM
DE RUEHJA #1755/01 2600802
ZNR UUUUU ZZH
R 160802Z SEP 08
FM AMEMBASSY JAKARTA
TO RUEHC/SECSTATE WASHDC 0106
RUEATRS/DEPT OF TREASURY WASHINGTON DC
INFO RUEHZS/ASSOCIATION OF SOUTHEAST ASIAN NATIONS
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUEHRC/DEPT OF AGRICULTURE WASHINGTON DC
RUEHKO/AMEMBASSY TOKYO 2496
RUEHBJ/AMEMBASSY BEIJING 5395
RUEHBY/AMEMBASSY CANBERRA 3037
RUEHUL/AMEMBASSY SEOUL 4910
RUEHGP/AMEMBASSY SINGAPORE 6324
RUEAIIA/CIA WASHDC

UNCLAS SECTION 01 OF 02 JAKARTA 001755 
 
SIPDIS 
SENSITIVE 
 
DEPT FOR EAP/MTS AND EB/IFD/OMA 
TREASURY FOR IA/MALACHY NUGENT 
COMMERCE FOR 4430/KELLY 
DEPARTMENT PASS FEDERAL RESERVE SAN FRANCISCO FOR CURRAN 
DEPARTMENT PASS EXIM BANK 
SINGAPORE FOR SBAKER 
TOKYO FOR MGREWE 
USDA/FAS/OA YOST, MILLER, JACKSON 
USDA/FAS/OCRA CRIKER, HIGGISTON, RADLER 
USDA/FAS/OGA CHAUDRY, DWYER 
DEPT PASS USTR WEISEL, EHLERS 
 
E.O. 12598: N/A 
TAGS: EFIN EINV ECON EAGR ID
SUBJECT: INDONESIAN CURRENCY, MARKETS DROP ON MARKET TURMOIL 
 
REF: Jakarta 1694 
 
¶1. (SBU) Summary.  Indonesian financial markets dropped sharply on 
U.S. financial market uncertainty and falling commodity prices.  The 
Indonesian stock index declined 4.7% on September 15, the sharpest 
drop in the region.  The Rupiah (IDR) has also fallen, moving close 
to the psychologically important level of IDR/USD 9500 this week. 
The Government of Indonesia (GOI) announced several measures to 
address liquidity shortages and calm markets on September 15 and 16. 
 Ongoing uncertainty in global markets and pressure on Indonesia's 
balance of payments threaten to undermine hard won macroeconomic 
stability and curb growth.  End Summary. 
 
Financial Markets Fall on Uncertainty 
------------------------------------- 
 
¶2. (SBU) Indonesia's financial markets are under heavy pressure due 
to growing global investor risk aversion created by US financial 
market turmoil and the decline in global commodity prices.  The 
Jakarta Stock Index (JSX), which is comprised largely of 
commodity-based companies and financial institutions, declined 4.7% 
on September 15, the worst decline in the region.  The JSX was down 
an additional 7.0% in early trading on September 16, before 
recovering those losses toward the end of the day.  The index has 
lost roughly 25% of its value in the month of September.  Government 
bonds have also come under pressure, with the yield on the 5-year 
government bond increasing 100 basis points from September 5 to 
September 15.  In addition, several recent government bond auctions 
have failed due to insufficient interest. 
 
¶3. (SBU) Downward pressure on the IDR, which began earlier this 
month in conjunction with Indonesia's deteriorating trade balance 
(reftel), accelerated this week in response to financial turmoil in 
the US.  The IDR has traded close to IDR/USD 9500 for the past three 
trading days, up from 9150 in late August.  Bank Indonesia (BI) has 
intervened heavily in the foreign exchange market in recent days to 
keep the IDR from exceeding the psychologically important rate of 
IDR/USD 9500, according to market analysts.  Commercial banks have 
also faced liquidity issues in recent weeks, hiking deposit rates to 
attract additional funds. 
 
Indonesian Officials Appeal for Calm 
------------------------------------ 
 
¶4. (SBU) On September 15, Indonesian officials warned against 
excessive reaction to market volatility, stressing that Indonesian 
economic fundamentals remain sound.  Officials also outlined a 
series of actions to improve liquidity.  Finance Minister Sri 
Mulyani Indrawati announced that the government would trim issuance 
of government bonds by IDR 15 trillion ($1.6 billion) to ease 
pressure on markets.  She noted that lower oil prices had reduced 
Indonesia's subsidy bill lowering the projected 2008 budget deficit 
from 2.1% to 1.7% of GDP.  The Finance Minister also stated that the 
GOI would increase the pace of government expenditures, which have 
significantly lagged tax collection this year. 
 
¶5. (SBU) BI also announced several initiatives to calm markets and 
increase liquidity in the banking sector.  On September 16, BI 
increased the rate it pays commercial banks for deposits held 
overnight by the central bank by 100 basis points to 8.25% and cut 
the rate it charges commercial banks for overnight borrowing from 
the central bank, by 200 basis points to 10.25%.  BI adjusted the 
rates in an effort to reduce the overnight interbank lending rate, 
which had risen to close to 13% in recent weeks.  BI also announced 
plans to revise several repo market regulations to make it easier 
for banks to obtain liquidity from BI.  BI maintained its overnight 
policy rate at 9.25% and plans to use open market operations to 
provide additional liquidity to markets.  BI summoned management 
from the twenty largest banks to appeal to them to stop engaging in 
"deposit rate wars" which had taken some deposit rates up to 
 
JAKARTA 00001755  002 OF 002 
 
 
13.25-14%, according to press reports. 
 
Macroeconomic Vulnerabilities Increase 
-------------------------------------- 
 
¶6. (SBU) Global financial market turmoil and lower commodity prices 
threaten to undermine macroeconomic stability in Indonesia.  Most 
analysts dismiss the risk of a 1997 style economic crisis given the 
comparative health of Indonesia's banking system and size of foreign 
currency reserves, which stood at $58 billion as of August 31.  In 
addition, foreign ownership of state bonds has not declined sharply 
in recent weeks, remaining a roughly 20% of total outstanding 
government bonds.  However, pressure on the currency may increase in 
the coming months if the balance of payments position deteriorates. 
Market analysts expect Indonesia's trade balance to worsen this 
quarter due to flagging demand from the US, Japan and Europe and the 
deterioration of Indonesia's terms of trade.  In addition, foreign 
and domestic portfolio investors may seek a safe-haven in cheaper US 
stocks and bonds, which carry significantly less country risk, 
raising the risk of increased capital outflows.  [Note: Indonesia's 
open capital account allows for rapid conversion from IDR to USD 
assets. End note.] 
 
¶7. (SBU) The outlook for economic growth this year also continues to 
weaken, as policy rate hikes appear inevitable.  If pressure on the 
currency increases significantly, the cost of foreign exchange 
intervention may begin to drain BI's foreign exchange reserves. 
Some analysts also worry that by setting a clear target for the IDR, 
BI may actually be increasing pressure on the currency by 
discouraging currency traders from buying Rupiah.  Significant 
depreciation of the currency could fan inflationary pressures and 
reduce the benefit of lower world food prices.  Some market analysts 
and the IMF are already calling for additional rate hikes to ensure 
price stability.  While more aggressive monetary tightening will 
help control inflation, higher interest rates will slow domestic 
demand as global demand also stagnates, clouding economic growth 
prospects for the second half of 2008. 
 
HUME