Tuesday 19 Mar 2024
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SINGAPORE (Dec 21): Redenomination of the rupiah (IDR) is back on the cards for Indonesia, revealed the country’s central bank governor, Agus Martowardojo, on Monday.

Bank Indonesia (BI) is seeking to slash three zeroes off the face value of the notes in an attempt to simplify the country’s currency system, such that all prices across the Indonesian economy will be reduced by the same value.

In a Tuesday note by UOB’s Global Economics & Markets Research division, FX strategist Peter Chia and economist Francis Tan note how the IDR remains “fairly resilient in the current Trump tantrum”.

However, a still-elevated level of foreign holdings in Indonesia may intensify the impact on the IDR going into 2017 should a capital flight result from Trump’s policies. Indonesian politics could also become more intense, say Chia and Tan, with the Jakarta Governor’s election approaching on Feb 15 next year.

As such, UOB has maintained its forecast of USD/IDR at 13,800 and 13,900 by end-1Q17 and 2Q17 respectively.

“Re-denomination does not have real economic effects because it does not increase a country’s gross domestic product (GDP). The purchasing power remains exactly the same domestically… [It] does not make a currency stronger because the strength and currency is determined by the demand and supply of the currency,” explain Chia and Tan.

Yet, they maintain that redenomination does come with benefits of its own.

These include:

Enhanced efficiency
According to Chia and Tan, the most apparent positive impact is the facilitation of business transactions as smaller amounts of currency are transacted, removing the drudgery of several zeroes which bookkeepers and bankers presently deal with in the case of IDR. The increased portability of IDR bank notes would also reduce the risk of attracting robbers. 

Higher credibility of IDR
Redenomination can be seen as a step that finalises the efforts of the central authorities to stabilise growth of prices in the economy, hence acting to restore credibility and confidence in an economy by bring it to a “really new start”. Chia and Tan attribute such a phenomenon to “money illusion” – the tendency for people to perceive that a currency has little or no value because of many zeroes.

Redenomination of Ghana’s cedi in 2007 as well as the Turkish lira in 2005 are just some of the examples in which the process has proven to bring about a positive impact on the confidence in and credibility of currencies, they add.

Protection from currency substitution
Finally, Chia and Tan believe Indonesia’s redenomination of the rupiah will protect its economy from currency substitution, which is the use of foreign currencies such as the USD in market transactions. Such a practice is often associated with negative impacts on the banking industry by eroding the quality of lending, as well as limiting the central bank’s ability to implement effective monetary policy.

Despite the advantages, Chia and Tan caution that redenomination is “not a bed of roses”.

“There are costs involved in the IDR redenomination, especially during the interim period when speculation happens because of the uncertainty of the new situation,” say the duo. This includes financial costs incurred from the printing of new notes, as well as from the disposal of the old.  

“There could be cases of fraudulent scams, when the old IDR is exchanged for the new IDR, and potential disruption in the market could result from price confusion,” they add.

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