THE IMF BAILOUT: UP IN SMOKE (int'l edition) How the IMF's rescue plan for Indonesia turned into a debacle The IMF delegation fled at dawn. As the Indonesian capital still smoldered from the May 14 fires set during Jakarta's most devastating demonstrations yet, the eight expatriates working for the International Monetary Fund and two of their spouses set out for the military airport to catch a chartered flight out of the country. Leaving early to avoid bandits searching cars along the way, they skirted burnt-out trucks, toppled lampposts, and debris. In a final humiliation, immigration officials kept the group at the airport--first finding fault with their visas, then using them to bargain for a planeload of food and water. After six hours and phone calls to senior government officials, the IMF employees finally got to board a plane evacuating expatriates to Singapore. With the flight of the IMF delegation, the fund's $43 billion bailout plan to help stabilize Indonesia is dead, at least for now. The $4 billion already spent to prop up the economy is gone. The program may start up again in a new form, but it's hard to see how the IMF could disburse funds in the midst of ongoing economic chaos. The devastation of Indonesia calls into question the efficacy of not only the IMF but also the behind-the-scenes activity of the U.S. Treasury Dept. It raises doubts on whether these two institutions can ever again muster the support to embark on such costly and risky rescue missions. While the IMF and the Treasury made their share of missteps and miscalculations, the Indonesians matched them and even surpassed them with their own blunders. Both the Indonesians and the IMF misjudged the scale of the crisis. President Suharto erred by backtracking on promises to reform Indonesia's economy and by protecting his family and cronies. The IMF wrongly assumed that Suharto would commit to change and then pressed for draconian reforms that undermined the essential supports of the economy. In particular, the IMF's insistence that Suharto end subsidies for gasoline and food set the stage for riots that have torn through the country. At the center of this tragedy is Suharto himself, an aging dictator who one day seems to grasp his country's economic realities in minutest detail--and the next seems out of touch with the crisis. The 76-year-old leader who has spent 32 years in power has been determined to preserve his clan's vast wealth. In echoes of Malaysian Prime Minister Mahathir Mohamad, sources close to him say he is obsessed by conspiracy theories. A visitor to the presidential palace in March quotes Suharto as saying the IMF was plotting with Israel to undermine Indonesia's aircraft industry. ''The IMF consists of a lot of Jews, and that's how Israel influences the IMF,'' Suharto said. Then, Suharto explained in a fatherly manner the real reasons behind the riots: ''This is the opposition creating chaos, together with foreign investors who want to take over our assets at deeply discounted prices.'' None of these weaknesses were apparent to Suharto's allies just a year ago. Sure, Suharto was the practitioner par excellence of crony capitalism, a man who gleefully ladled out monopolies and franchises to his children and old friends. But Suharto also won praise for opening up Indonesia to free trade, scrupulously servicing the national debt, raising prosperity, and practicing artful diplomacy with the U.S., particularly during the cold war. Thus when the Asian financial crisis began in mid-1997, Indonesia looked like a safe bet. As the rupiah weakened in the wake of the Thai crisis, Suharto's ministers called in the IMF, winning praise for their judicious and timely appeal for international aid to stop speculators in their tracks. When IMF officials first sized up their mission to Indonesia, they reassured Suharto that the economy was sound. The IMF saw no need to expand the fund's cramped one-man office in a back room of the central Bank Indonesia. Its officials suggested a simple widening of the band in which the currency traded would be enough to contain any damage. PANICKED DEPOSITORS. But the Indonesian rupiah kept tumbling. That's when the IMF made its first major mistake. The officials assumed they could apply the bitter medicine of high interest rates to stabilize the currency and reform the crony-ridden banking system. The IMF also wanted to dissolve the monopolies run by Suharto's friends and children, and dissolve costly subsidies. The fund got Suharto's economic adviser, Widjojo Nitisastro, to agree to this in early October. But there was a fundamental flaw. Suharto knew that the IMF prescription would directly threaten his hold on power. The monopolies were the keystones of the country's whole economy--and of the family's control of it. And low prices had kept impoverished Indonesians from rebelling against Suharto for decades. Yet Suharto had to take some steps to build confidence. His first one, on Nov. 1, was to close 16 weak Indonesian banks, as recommended by the IMF. His intention was to stimulate confidence by signaling that serious banking reform was at hand. In a country of 220 banks--far too many for a $250 billion economy--the IMF figured that international investors would welcome such prudence. Instead, Indonesians saw the shuttering of big street-corner banks as a reason to pull their money out of all banks. As big neon bank signs overlooking the main drag of Jakarta's Chinatown went dark, depositors panicked and withdrew their life savings. At foreign banks such as Citibank and Hong Kong Bank, lines snaked around the block as people attempted to deposit their money in safer places. Then Suharto backtracked, giving his first sign that he was not serious about reform. He allowed a bank operated by his son Bambang Trihatmodjo, though targeted for closure, to reopen for business after simply changing its name. Next, Suharto fell sick, introducing confusion and delay. In early December, Widjojo, who had been shuttling between meetings with Suharto, the IMF, and the World Bank, told negotiators that the President was too ill to work on the deal. That put further IMF reforms in limbo. When visiting Australian political scientist Harold Crouch was told that the President was urinating blood, it raised fears that he might die without a successor and that Indonesia could explode into violence. As Suharto canceled a trip to Kuala Lumpur for a summit of Southeast Asian leaders, the rupiah plunged to half its previous value on the news. Precious weeks were lost before Suharto recovered. Then he made a critical blunder. On Jan. 6, the weakened leader announced an overly optimistic national budget that seemed out of line with reality--expectations of 4% annual economic growth, 11% inflation, and an exchange rate of 4,000 rupiah to the dollar--although the currency was then trading at 8,000. He ignored--or was unaware of--independent economists' predictions of a 15% contraction in the economy and 55% inflation for 1998. The impact was disastrous, dragging the rupiah below the psychological barrier of 10,000 to the dollar. Millions of Indonesians rushed to convert their rupiah into rice, cooking oil, and other foodstuffs. Then they snapped up electronic goods, figuring runaway inflation would drive prices beyond reach. One executive bought four Sony Trinitron color TVs as gifts to induce his servants to stay in the capital, where they expected famine and riots to break out. Concern throughout the world was growing, and negotiators were losing patience. On Jan. 13, U.S. Deputy Treasury Secretary Lawrence H. Summers and other Clinton administration officials met Suharto at the presidential palace. In preparation for a scheduled 45-minute meeting, Summers was instructed not to show the soles of his feet, or fold his arms--insulting gestures in Indonesia. Summers expected a serious, frank discussion of the situation. To his surprise, his host instead took the first 40 minutes for ''Indonesia 101'': how Suharto single-handedly transformed Indonesia from a beggar nation with a per capita income on a par with Bangladesh to a thriving manufacturing economy. Fearing he had little time left, Summers hung on for at least another 20 minutes trying to make his points, even though the President refused to respond and appeared to be trying to end the session. UNEXPECTED CAPITULATION. Summers walked out of the meeting deeply disappointed. What happened after the U.S. delegation left Suharto's office is still disputed. But a U.S. source says Summers was so upset that his colleagues feared he would tell reporters gathered at the front gate that Suharto's intransigence was putting the IMF's rescue in doubt. As Summers headed outside, U.S. Ambassador J. Stapleton Roy prevailed on Summers that this was not the time or the place to put the lives of 200 million people at risk, says the source. When Summers met the reporters, he read from a prepared statement blandly describing Suharto's desire to restore confidence. The jawboning did seem to have some effect on ongoing negotiations. IMF negotiators had decided on a new strategy to extract concessions. They decided to ask for every tough measure they could think of in hopes that Suharto would accept at least some of the provisions. Unlike the first reform deal, this one had firm deadlines. The IMF demanded that Indonesia abolish a dozen ''economy distorting'' monopolies by February. Those monopolies were also the cash cows of the ethnic Chinese businessmen who built up the Indonesian stock market in the early 1990s. They included the plywood cartel of Suharto's fund manager Mohamad ''Bob'' Hasan and the Bogasari flour-milling monopoly of his old friend Liem Sioe Liong. To the shock of IMF negotiators, Suharto's advisers came back with an oral agreement from him to implement everything the negotiators had asked for. Nobody knows why the Indonesians assented--except perhaps to buy time or because Suharto was exasperated and wanted to end negotiations. Some say he may have been sincere. Looking back in regret, negotiators now admit that if they had known Suharto would agree, they would have written into the deal a period of adjustment and monitoring of at least six months. Instead, they wound up with a ludicrously ambitious plan that could never have met the strict deadlines imposed and that set the stage for failure. ''ENERGY DRINK.'' Official negotiations to draw up the agreement had started on Sunday evening, Jan. 12, after Suharto agreed to rough terms during talks with IMF First Deputy Managing Director Stanley Fischer at the President's modest Dutch colonial house. Fischer then led more than 15 IMF economists across town to the cavernous Finance Ministry and broke them up into two teams in adjacent conference rooms. They haggled with Indonesian negotiators until 4 a.m. over the language of a 50-paragraph letter of intent. The meetings continued from breakfast to midnight for the next three days. ''There was not a half-hour that was free,'' recalls one negotiator. They were fueled by tiny 150-ml bottles of Krating Daeng, a highly caffeinated ''energy drink'' Javanese truck drivers take on 24-hour hauls from Jakarta to Surabaya, plus endless deliveries from the nearest Pizza Hut and regular bouts of rude joke-telling. By the time they had agreement, the IMF had aroused the hackles of the Indonesian public. A key public-relations blunder occurred when IMF Managing Director Michel Camdessus flew in from Washington to sign the new agreement at Suharto's residence on Jan. 15. He was surprised to find only one chair at the podium in the glassed-in visitor's parlor reserved for Suharto, so he had to stand. As the cameras flashed and Suharto signed, Camdessus stood over the President, his arms folded across his chest like a reproving schoolmaster. No offense was meant, says Camdessus: ''When I was a boy, my mother told me: 'When you don't know what to do with your hands, do not hold them behind your back like the Duke of Edinburgh. Fold them in front of your chest.''' The next day, with the photo plastered across the local papers, talk in Jakarta focused on Camdessus' humiliation of the President. The rupiah continued to plummet, cheapening Indonesian assets to a level that seemed to support Suharto's theory that the IMF would help foreign investors take over the country. By the end of January, it was clear that Suharto had no intention of forcing Indonesian companies to work out their total debt of nearly $80 billion with foreign banks. On Jan. 27, Radius Prawiro, a 70-year-old former Finance Minister whom Suharto had pulled out of retirement to replace Widjojo, announced the government was considering a freeze on servicing corporate debt. ''In effect, Suharto told Indonesian corporates not to repay their debts,'' says Neil Saker, economist at SocGen-Crosby Securities Ltd. in Singapore. Confidence hit bottom, sending the rupiah below 18,000 to the dollar. In early February, Suharto committed his biggest misstep by making it clear he was interested only in quick fixes. He announced his plan to institute a currency board. At the behest of his children, he gave a private audience to Johns Hopkins University Professor Steve H. Hanke, who claimed experience in instituting foreign exchange mechanisms. No other economic advisers were in the room as Hanke presented only the upside of such a move. His plan would have pegged the rupiah to 5,000 to the dollar and backed it with reserves of U.S. dollars--which, according to the IMF, the country did not have. The plan was widely decried as a means to give Suharto's cronies and family members a window for converting their fortunes into dollars and leaving the country penniless. ''This was the most disastrous debate in the history of Indonesia,'' laments one negotiator. ''It cost the country dearly in terms of credibility--more than any other problem Indonesia had in its dealings with the IMF, more than the cronyism or nepotism issues.'' As the rupiah collapsed further, opposition to the currency board idea grew. Working to keep his plan alive, Hanke told one negotiator he knew foreign bankers who would lend Bank Indonesia enough money for a board on one condition: The national oil company Pertamina must put up its cash as collateral. The negotiator just laughed: Pertamina is dominated by the Indonesian military and the Suharto family. Such a thing was impossible. Worried that an economic collapse would kick off regionwide instability, world leaders jumped into action. Delivering coordinated messages, U.S. President Bill Clinton and German Chancellor Helmut Kohl phoned Suharto during the week of Feb. 15, and Clinton dispatched former Vice-President Walter Mondale to Indonesia the following week. They begged Suharto to abandon the currency board idea and honor his commitments to the IMF. Japanese Prime Minister Ryutaro Hashimoto, who had first phoned Suharto after the budget debacle in January, visited three weeks later. BRINKMANSHIP. The result was that Hanke was abruptly abandoned. But in return, Suharto wanted a third, softer deal with the IMF. He threatened to cut off Indonesia's economy from the outside world unless he got it. Continuing his brinkmanship, on Mar. 11, Suharto had himself reelected to a seventh five-year term. That day, the IMF voted to withhold a further $3 billion. Increasingly defiant, Suharto packed his cabinet with his closest cronies. He blatantly protected multibillion-dollar white-elephant projects such as the IPTN aircraft factory run by his new Vice-President, B.J. Habibie, and the elevated-commuter-train project granted to his daughter and new Social Affairs Minister, Siti Hardiyanti Rukmana, or Tutut. ''This is not the Republic of the IMF,'' proclaimed Bob Hasan, the plywood tycoon whom Suharto named his Minister of Industry & Trade. But by the third week of March, the IMF's negotiators realized they could trigger a social disaster in Indonesia if they walked away. So they trudged back to the negotiating table, resigned to granting Suharto concessions. ''And by the way, this time we're giving in to Bob Hasan,'' one dejected negotiator admitted. Predictably, international economists saw nothing but a loss of credibility for the IMF. ''The teacher is not only giving the bad pupil the most attention but also making the test easier and moving him up to next grade--even though he flunked the exam,'' says Rajeev Malik, senior economist at Jardine Fleming International Securities Ltd. in Singapore. Both sides tried to keep the negotiations as quiet as possible. For three solid weeks, night and day, the negotiators stayed at the table. Ashtrays in the two meeting rooms at the Finance Ministry overflowed with cigarette butts and pizza crusts. Suharto refused to sign the letter of intent himself, letting Coordinating Minister Ginandjar Kartasasmita--his latest in a long string of negotiators--sign it on Apr. 8 and send it by courier to Washington. There was no ceremony. Camdessus did not set foot on Indonesian soil. CALCULATED MOVE? IMF negotiators finally thought they had the goods--by reaching an agreement strong enough to push the economy in the right direction but filled with enough concessions to prevent another showdown. By the end of April, the IMF announced it was ready to resume aid payments in $1 billion installments. In return, on May 4, the government abruptly removed price controls on fuel. The IMF had wanted an end to subsidies but had not pressured Suharto for such a sudden move. Riots by desperate Indonesians broke out across the country. Some political analysts think Suharto removed price controls in a calculated attempt to derail the IMF. He provoked a crisis, the reasoning goes, so he could crack down on dissent, restore his authority, and prove beyond a doubt the folly of the IMF prescriptions. The utter failure of the bailout of Indonesia will serve as a lesson to all countries that consider seeking IMF aid in the future. To hear the fund's Camdessus tell it, the lesson is that leaders such as Suharto should honor their pledges: ''It's better when you initiate a program to stick to it rather than negotiate it three times.'' Many observers are more harsh on the IMF. They say the IMF's experience in the archipelago has set a precedent for desperate governments to build their own credibility by making mockery of the IMF. ''There are no heroes in this story. It's not black and white,'' says Thee Kian Wee, economist at the Indonesian Institute of Sciences in Jakarta. Whatever the lesson, the fund's Indonesia program was not a shining example of either the doctor or the patient on their best behavior. BY MICHAEL SHARI with Dean Foust in Washington Return to main story

Updated May 21, 1998 by bwwebmaster
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