In March 1983 the Indonesian government introduced a program of financial measures that would transform the country's banking system as part of a broader program including reform of taxation, regulations governing international trade, and other areas of financial markets. The measures were a response to deteriorating economic conditions especially in the market for Indonesia's primary export, petroleum products, and were intended to strengthen the economy by diversification. This chapter provides the macroeconomic and financial background to these measures, presents and explains the various reforms, and analyzes their costs and benefits.

Economic background to deregulation

After the oil boom

The macroeconomic climate in Indonesia at the start of the reforms was not encouraging. It was nearing the end of its second oil boom in less than a decade, and its dependence on oil during the boom years had been substantial: at the peak of the boom, 80% of exports and 70% of government revenues came from oil. Indonesia's industrialization up to the early 1980s followed the pattern of import substitution behind protection. During the boom years (1973–82), state intervention increased with trade and industrial policies influencing the pattern of industrialization through protection of domestic industries. State intervention also guided financial sector development (see Section 9.2).

Even during the boom there was a recognition that diversification from oil was needed. Policy measures to increase nonoil exports began as early as 1978 when the government devalued the rupiah by 50% to offset the appreciation of the real exchange rate.