The linkage between banking sector, economic fundamentals and the Indonesian currency crisis : a thesis presented in partial fulfillment of the requirements for the degree of Master of Applied Economics at Massey University
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Date
2000
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Massey University
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Abstract
This study shows that a link exists between the weaknesses in the banking sector, economic fundamentals and the rapid depreciation of the rupiah exchange rate. The weakness in the banking sector was strongly associated with the number of insolvent banks and the rise in foreign liabilities of the banking sector in the pre-crisis period. The increase in the ratio of trade deficit to GDP and the rise in the domestic and foreign interest rate differential largely contributed to the deterioration in the Indonesian economic fundamentals during 1990-1998. Somewhat surprisingly, the interaction variable between the ratio of foreign reserves to imports and the foreign and domestic interest rate is statistically significant. This finding implies that the impact of the change in the ratio of foreign reserves to imports on the change in the rupiah exchange rate is moderated by the magnitude of the foreign and domestic interest rate differential. Similarly, the change in the rupiah exchange rate resulting from a change in the foreign and domestic interest rate differential is moderated by the value of the ratio of foreign reserves to imports. Finally, the dummy variable used to capture the effect of a change in the policy of exchange rate regime shows that the abandonment of the pegged exchange rate regime led to the rapid depreciation of the rupiah exchange rate.
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Indonesia, Monetary policy, Financial crises, Banks and banking