REAL GROSS DOMESTIC PRODUCT

After falling by 13.01 percent in 1998, the economy showed signs of recovery beginning in the second quarter of 1999 when real GDP grew by 3.7 percent (year-on-year), followed by 1.18 percent in the third quarter. In the fourth quarter, real GDP grew by 5.01 percent, and for the year as a whole, GDP grew by 0.31 percent. The positive growth in 1999 was mainly attributable to private consumption while investment and export and import activities, despite their negative growth, showed an improving trend.

The economic turnaround from deep recession to modest growth has been produced largely by manufacturing, agriculture and public utilities. This growth reflected the consumption-led nature of the recovery. In contrast, the financial sector continued to be in recession, as reflected by its underlying structural and insolvency problems.

The quarterly GDP growth continues to be positive as shown by its 3.60 percent growth (year-on-year) in the first quarter of 2000. It then grew further to 4.13 percent (year-on-year) in the second quarter. The main source of growth again came from domestic demand and better export and investment performance. However, consumption growth in the second quarter was slower than in the previous quarter. The Bank Indonesia¡¯s consumer survey showed that the second quarter consumer confidence index was lower than that of the previous quarter.

Investment activities have shown a moderate improvement, especially since the fourth quarter of 1999. Private/business sector investment rose as domestic and foreign investment projects approved in the third quarter in 1999 began implementation in the second quarter of 2000. Manufacturing, construction and trade all recorded positive growth in the second quarter of 2000.

INFLATION

After recording a high annual inflation rate of 77.6 percent in 1998 associated with the country¡¯s financial crisis, price stability has now been restored. In 1999, inflation for the year as measured by the CPI, stood at only 2.01 percent. This lower inflation outcome for the year reflected the actual price decreases registered for several months.

Since April 2000, inflation has shown an upward trend in line with government policies to raise electric tariffs, the price of premix (special type of gasoline), transportation costs, telephone rates, and minimum wages. Quarterly inflation increased from 0.94 percent in the first quarter to 1.91 per cent in the second quarter of 2000. During the first half of 2000, the inflation rate reached 2.86 percent compared to 2.73 percent during the same period in the previous year. Considering that the administered commodities are being used as inputs for the production of many other products, the inflationary pressure for the next quarter is projected to increase further. The depreciation of the rupiah since the beginning of 2000 will also put further pressure on the inflation rate.

BALANCE OF PAYMENTS

Indonesia¡¯s balance of payments (BOP) during 1999 recorded an overall surplus. This shows a current account surplus more than offsetting the deficit in the capital account. This outcome was similar to that of 1998 but contrasts to the current account deficits which Indonesia experienced in 1997 and earlier when the capital account was in a surplus position as a result of strong private capital inflows.

The observed slight increase in the current account surplus from US$4.1 billion in 1998 to US$5.8 billion in 1999 was due to higher exports and lower imports. The increase in exports was attributable to higher oil/gas exports, while non-oil/gas exports remained largely sluggish. In terms of its share of GDP, however, the current account surplus showed a slight decline from 4.3 percent in 1998 to 4.1 percent in 1999 due to the rupiah strengthening against the US dollar in 1999.

The current account surplus in the first half of 2000 increased to US$3.9 billion, compared with US$2.4 billion during the same period in the previous year. This was mainly attributable to higher oil prices as well as strong growth of non-oil/gas exports. Non-oil gas exports made a strong rebound, growing by 21 percent in the first half of 2000 against a negative 13.7 percent in the same period of the previous year.

In the second quarter of 2000, non-oil/gas exports continued to show an improvement, increasing by 7.3 percent compared to the previous quarter (5.1 percent). This increase was brought about by an increase in exports of manufactured goods, such as electronics, textiles, wood and paper products. On the import side, non-oil/gas showed an improvement though it still recorded a negative growth of 5.4 percent as compared to 7.9 percent in the previous quarter. The increased imports were due to the resumption of economic activities, with non-oil/gas imports still dominated by imports of raw materials, capital goods, and consumption goods. The overall performance of the external sector in the second quarter was characterized by a lower current account surplus of US$1.3 billion as against US$2.0 billion in the earlier quarter.

EXCHANGE RATE

Consistent macroeconomic policies, as exemplified by a tight monetary policy, have been instrumental in stabilizing the economy and reducing exchange rate volatility during 1999. This condition was strengthened with the improved international confidence in the new government following the peaceful conduct of the presidential and vice-presidential elections. For the whole year of 1999, the rupiah strengthened from around Rp 8,000 against the US dollar in December 1998 to Rp 7,000 per US dollar at the end of 1999.

However, entering the first quarter of 2000, negative market sentiment along with heightening political and economic uncertainties put strong pressure on the rupiah to depreciate. During the second quarter of 2000, the rupiah on average depreciated by around 11.6 percent, from Rp 7,391 in the first quarter to Rp 8,255 to the US dollar in the second quarter. It went on to depreciate to as low as Rp 9,000 at the end of July 2000. The Ambon and Aceh crises, the banking sector¡¯s scandal, the annual session of the people¡¯s consultative assembly in August 2000 as well as the downgrading of Indonesia¡¯s credit rating from CCC+ to Selective Default (SD) have resulted in uncertainties in political and economic conditions.

FISCAL POLICY

For fiscal year (FY)1999/2000, the overall fiscal deficit stood at Rp 16.9 trillion, or 1.5 percent of GDP, much lower than the 6.8 percent budgeted at the start of the fiscal year. This lower fiscal deficit was due to a number of factors. First, on the revenue side, receipts were much stronger than anticipated. This was particularly due to higher government incomes from oil/gas activities. Second, on the expenditure side, government spending was much slower than budgeted. This was particularly attributable to a slowing down in investment and spending, owing to the delay in the international creditor¡¯s financing.

For FY 2000 (covering only the last nine months of calendar year 2000 in a transition to allow the fiscal and calendar years to coincide in the future), an overall deficit of 4.8 percent of GDP is predicted/the target. However, as of July 2000, the government¡¯s fiscal operation recorded a surplus amounting to Rp 17.0 trillion. This development, however, is seen not to give enough stimulus for re-energizing economic activities. On the revenue side, the main sources of the contraction were the income and value-added taxes, which accounted for as much as 50 percent of total revenue. On the expenditure side, the bulk of the spending was allocated to wages and interest payments of government bonds resulting from bank recapitalization.

MONETARY POLICY

In 1999, Bank Indonesia continued to implement prudent monetary policies aimed at recovering exchange rate stability. To attain these policy objectives, a number of intermediate indicative targets of monetary aggregates and variables have been formulated and publicly announced. These intermediate targets include base money (BM), net international reserves (NIR), and net domestic assets (NDA).

Reflecting the tightening of monetary policies in early 1998, the growth of the monetary aggregates, measured on a year-on-year basis, has been brought back under control and has dropped considerably. The base money target performance for the year has remained largely on track, with the exception of December 1999. After increasing sharply to Rp 101.8 trillion in that month, the base money position has declined gradually to Rp 88.9 trillion at the end of March 2000. This development indicates that the deviation of base money from the target by as much as Rp 16.7 trillion in the end of the year was just temporary.

The broader monetary aggregates (M1 and M2) behaved in similar fashion as base money, M0. In line with the shift in deposits to currency, the measured nominal and real M1 also increased sharply. Until December 1999, M2 was still increasing in nominal and real value. On the component side, there was a shifting trend of assets holding from deposits to currency. The expected seasonal factors, such as Christmas, New Year, and Ramadhan, and the concern about Y2K issues also played a role in the increasing currency demand.

Inflationary pressure subsided and the rupiah strengthened, allowing a gradual reduction of the interest rate within the context of the overall monetary policy program. The benchmark SBI auction rates declined subsequently from around 38 percent at the end of 1998 to around 22 percent in mid-1999 and continued to decline to 12.51 percent by the end of December 1999. The lower SBI rate, in turn, has been followed by a further decline in deposit rates.

However, since the start of 2000, monetary aggregates as reflected by base money have tended to move above their indicative target due to the strong demand for currencies resulting from stronger than expected economic growth and the precautionary motive of the general public in anticipation of unexpected events.

Consequently, at the end of the second quarter of 2000, the SBI rate increased to 11.74 percent from 11.03 percent in the first quarter. On July 26, 2000, the 1-month SBI weighted average interest rate was 13.53 percent. An expansion in base money (driven by interest payment of government bonds, SBIs and rupiah intervention), the pressure on the rupiah as well as the hike in foreign interest rates have prompted the monetary authority to adopt a tight monetary policy stance through open market operations.