Indonesia: Regulatory Failure and Reform

As Indonesia's currency crisis deepened from late 1997, the country's well-known regulatory weaknesses began to assume greater significance in the eyes of domestic and foreign reformers. As a result, Indonesia, like Thailand and Korea, adopted an IMF-led program of bank restructuring, structural economic reforms and changes to the legal framework governing banking, bankruptcy and corporate governance. Indonesia's currency collapse was by far the most severe of all the crisis-hit countries; its economy contracted the most and signs of recovery were slow to emerge. Nonetheless, for the optimistic, the very depth of the crisis in Indonesia offered prospects for real reform, as the rotten core of the country's political and administrative system was conclusively exposed. In May 1998, President Suharto was forced to resign after thirty-two years in power. He was succeeded by his deputy, B.J. Habibie, who assumed office as an interim president. Habibie voiced support for legal reform, removed controls over the media, released political prisoners and scheduled open elections for June 1999. In addition, the new government stated its commitment to financial sector reform, with the support of the International Monetary Fund (IMF) and other external agencies.

The failure of financial governance cannot account for the timing and extent of the currency crisis, but regulatory weakness did make Indonesia vulnerable to a sudden reversal of capital flows.