JAKARTA (TheInsiderStories)—Bank Indonesia (BI) have no plan to impose tax on yields of foreign capital inflows, the governor said on June, 9. Recently, there is a report the central bank to regulate the inflow of foreign funds to the country.
The governor Perry Warjiyo said, so far the central bank had no intention to issued the policy on it. Recently, a number of countries imposed tax on foreign capital inflows in a bid to curb capital outflows when the economic stability was jolted by external pressures.
This kind of foreign exchange management is common in the world, even International Monetary Fund (IMF) has a guideline on this. The financial institution said the foreign exchange management can be done with prudent monetary discipline by the central bank. The IMF also sees that fiscal discipline alone is insufficient to offset the negative impact of foreign capital flows.
In addition, IMF gives a guideline that foreign exchange management must be targeted and have a certain of a time period.
Volatile capital flows, especially those of short-term and speculative nature, increase risks to both monetary and financial system stability. In one period, large capital inflows often lead to domestic excessive lending and asset bubbles, while in another, large capital reversals pose serious risks to market illiquidity and excessive asset price corrections.
Dual intervention is one of the strategies to smooth out the impacts of volatile capital flows on asset prices and market liquidity. But in many cases, direct measures of capital flow management are needed.
In Indonesia, the policy on foreign capital flow management is guided by three principles. First to help mitigate the negative impacts of short term volatility in capital flows on the stability of both the exchange rate and the overall monetary and financial system.
Second, the measures specifically target short-term and speculative capital flows and medium- to longer-term flows are welcomed, as they benefit the economy. And third, the measures are consistent with the broad principle of maintaining the free foreign exchange system.
During heavy capital inflows from quantitative monetary easing, in 2010, BI introduced a six-month holding period for transactions in central bank bills and imposed a maximum of 30 percent capital to the short-term offshore borrowings of the banks.
However, following the 2013 taper tantrum, the holding period for central bank bills was relaxed to one month and the transactions exempted from the calculation of banks’ offshore borrowings were expanded. Recently, the holding period was further relaxed to one week to provide wider options of asset classes for portfolio investment, as global financial market volatility is lingering.
Another example is BI regulation that was issued in 2014 requiring private corporates to strengthen risk mitigation for their external debts, as public and banks’ external debts were already under strict regulations. The regulation was to respond to the rapid increase of private external debts driven by both global excess liquidity and needs for financing strong domestic demand.
Thus, under the new rule, corporates must provide a minimum hedging ratio of 20 percent net external debts due within three to six months to cover the risks of currency mismatch. On top of this hedging ratio, an additional liquidity ratio of minimum 30 percent net external debts due within three to six months is required to cover liquidity risks.
In addition, to mitigate credit default risk, corporates that resort to external debts will be required to have a minimum credit rating of one notch below investment grade. As it deals with managing the flows and strengthening risks of external debts, the new regulation could be viewed as both capital flow management and macro-prudential measures.
Currently, Indonesia has been under heavy pressure of capital outflow on expectation of an increase in the fund rate of the U.S’s Federal Reserve and a rise in Treasury bond yields. So far, the rupiah value was once shrank by as much as 4.5 percent since January 2018.
However, after the central bank raised its benchmark interest rate twice in two weeks, rupiah began to regain some of its lost against the U.S dollar. There was an inflow of around Rp13 trillion (US$935.25 million) since May 24, especially in government bonds and shares, said Warjiyo.
Earlier, he said the pressure of foreign capital outflows that would weaken rupiah would still shadow the domestic financial market. The pressure of capital outflow would also come with the improvement of the U.S. economic data and from the expansive U.S’s fiscal policy which raises the yield of U.S’s 10-year treasury bills.
Warjiyo, who took over as new Governor of BI on May 24, has repeatedly pledged to adopt a preemptive policy and to remain ahead of the curve. The Bank short term focus through monetary policy is to stabilize exchange rate, he said.
The governor also pledged to shortly issue a macro-prudential policy through relaxation of house ownership credit. He companion, Finance Minister Sri Mulyani Indrawati has said the government, BI, and other members of the Financial System Stabilization Committee are ready to adopt a firm policy to anticipate external pressure that could disrupt economic stability.
As a developing countries, Indonesia suffers the risk of capital outflows as the developed countries including the United States is conducting the normalization of monetary policy. This year, The U.S Federal Reserve will have another two to three more interest rate hikes.
Currently, Indonesia is dominated by foreign capital amounting to 40 per cent, making Indonesia’s economy is very volatile to the shake in the global economy.
The foreign investors booked Rp39 trillion net sell in the stock market by May 2018. In the government bonds, foreign capital was recorded at Rp833.79 trillion by May 11, down Rp46.41 trillion from its highest position this year of Rp880.20 trillion by January 23, 2018.
BI has raised the interest rate two times in the mid and end of May by 50 basis points to 4.75 per cent to reduce the foreign capital outflow that brings impact to the rupiah depreciation against U.S dollar.