Managing Capital Flows

Managing Capital Flows

The Search for a Framework

ADBI series on Asian Economic Integration and Cooperation

Edited by Masahiro Kawai and Mario B. Lamberte

Managing Capital Flows provides analyses designed to help policymakers develop a framework for managing capital flows that is consistent with prudent macroeconomic and financial sector stability.

Chapter 10: Managing Capital Flows: The Case of Indonesia

Ira S. Titiheruw and Raymond Atje

Subjects: asian studies, asian economics, development studies, development economics, economics and finance, asian economics, development economics


Ira S. Titiheruw and Raymond Atje INTRODUCTION 10.1 A close look at Indonesia’s economy after the East Asian financial crisis reveals a mixed picture of its performance. On the one hand, various macroeconomic indicators show that the economy is doing fairly well. The government has done a good job in maintaining macroeconomic stability and sound fiscal performance: inflation is down, although it is still high compared to other emerging economies in the region, and the fiscal deficit was only slightly above 1 per cent of GDP in 2006. In addition, the financial sector is stable, with the banking sector in better shape compared to the pre-crisis period: capital adequacy ratio (CAR) remains high (around 20 per cent) and non-performing loans (NPLs) are on a declining trend. The capital account is in surplus and in 2007 foreign reserve was over $50 billion. On the other hand, GDP growth and the investment rate remain low compared to before the crisis. Capital flows into Indonesia tumbled following the crisis and the net inflow of foreign direct investment (FDI) turned positive only in 2004. There are a number of factors that may explain this phenomenon. One of the often-mentioned factors is the unfavorable investment climate, which, in turn, depends on a host of other factors, such as inadequate infrastructure, lack of contractual enforcement, draconian labor regulations, and so on. As for the portfolio investment, it is reported that foreign investors dominate trading in the Jakarta Stock Exchange (JSX), lured in by lower dollar prices...

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