Country report - Indonesia: An export destination?

INTRODUCTION

In spite of the bleak prospects for the global economy recently, the Indonesian economy is demonstrating what can only described as impressive growth accompanied by stability. Economic growth sources have been balanced as economic activity gains momentum due to strong economic fundamentals and an improving business climate.

Government expenditure has played a prominent role in providing stimulus to the economy while at the same time they have continued to preserve a prudent fiscal position; unfortunately the recent downward revision of global outlook has resulted in the authorities lowering GDP and inflation forecasts, particularly for 2012.  The forecast for 2011 and 2012 is now 6.6% and 6.5 percent respectively with inflation 4.9% and 5% respectively.

The level of reserves has reached an all-time high, and this is reflected in sufficient cover for more than 7 months of imports and external debt services of the Govt. (those readers who have attended the Export Import Transaction & Risk Management Course will remember this from module 5, “Country Risk” and what happens when democracy is impeded such as in Fiji).  External debt has been on a steady downward path now for some time, including publicdebt, this is in line with the Governments medium-term fiscal target aimed at a build up of fiscal space.

Capital flow composition continues to improve and is reflected in the FDI flows surpassing net portfolio flows beginning in the second half of this year. This change of the nature of inflows to longer – term flows should result in a further enhanced resilience of the economy.

In addition to this, financial stability continues to be preserved which is reflected by the high level of capital adequacy ratio and the markedly lower level of NPL.

Government bond prices and the stock market index are also on a rising trend.  Backed by these fundamentals the Rupiah exchange rate has been on an appreciating trend which has alleviated the temporary pressures due to global sentiment triggered by uncertainty of the US and Euro area economic prospects.  Taking into account favourable growth prospects, Indonesia has had its credit rating upgraded to one notch below the investment grade by two rating agencies this year and one rating at the end of last year.

The Indonesian authorities consider a top priority to sustain the growth momentum but at the same time not be tempted to compromise stability and to improve the quality of growth.

MONETARY POLICY

The objective here is to always achieve and safeguard price stability, hence the critical importance of getting in place the correct policies.  Therefore policy responses towards inflationary pressures must be assessed carefully in view of uncertainties in the global economy, the massive capital inflows (and the possibility of capital reversal) as well as gaps in market development. The policy response  remains a part of the policy tool-kit for the maintenance of macroeconomic and financial stability in addition to other monetary and macro prudential polices which capture continued efforts to promote monetary policy operations and also prudential policies and these include continuing efforts to strengthen monetary policy operations an promote financial deepening. The Indonesian authorities have acknowledged the possibility of higher inflation pressures in 2012, two important factors must however be taken into consideration when formulating policy responses to inflation moving forward.

1. Any consideration in administered prices should be viewed as a one-time and temporary shock.
2. Authorities are also concerned over the possibility of a more pronounced global economic slowdown, hence less pressures from commodity and oil price.

As a result of these considerations the authorities will focus their attention to limit any second round effects of this adjustment to headline inflation and they were successful in this as demonstrated by developments when food prices increased in 2010.

Indicators to check price stability remains in check

To track demand side pressures, core inflation was analysed.  The result indicated that the current unptrend in core inflation has been mainly due to gold.  Core inflation excluding gold as well as non- food core inflation excluding gold remain at levels of 4.3% and 4% respectively, lower than core    inflation of 5.2%. In addition inflation expectation indicators also indicated declining expectations for both 2011 and 2012. Authorities continue to ensure sufficient supply of food and have it  distributed smoothly while at the same time strengthen the communication strategy to ensure public expectations are well anchored.

Credit

Credit growth expansion is important to boost economic capacity.  Rapid credit growth in 2010, 2011 has witnessed broad-based expansion, including working capital and investment loans.  Most funds are channelled to productive sectors which in turn will boost the economic capacity and address infrastructure bottlenecks.

FISCAL POLICY

The authorities are firmly committed to ensuring fiscal sustain inability is improving public finance management. This is very important so as to achieve the medium fiscal strategy of attaining public debt consolidation and improving the quality of government expenditure.

Public debt to GDP has steadily declined from 36.9% in 2007 and is now targeted to fall in less than 24% at the end of 2011. If we look at the revenue side, authorities continue their efforts to increase the tax revenue ratio, including a broadening tax base and continuing administration reform agenda. The improvements in the budget structure will be addressed thru implementation of a gradual phase-out of subsidies, reallocation of spending towards infrastructure and alleviation of poverty and unemployment. In support of these efforts the authorities are in the process of seeking TA programs which should help the blue print and implementation strategy for strategic government projects.

FINANCIAL SECTOR POLICY

Authorities have focussed on marshalling efforts to optimize the intermediary function of the financial system while at the same time continuously maintain financial stability.  Indonesia has undertaken intensive financial sector reform and is now implementing the FSAP recommendations.  To assist, the authorities have welcomed TA programs to help concerns in the priority sectors.

Banking

Reforms in the banking sector such as Basel II implementation and principle-based supervisory approach have progressed according to the time line. Bank Indonesia has revamped the system for individual banking and sharpened the Prompt Corrective Action measure with the introduction of Risk Based Rating (RBBR) to pre-emptively determine bank supervisory status and exit policy. In terms of the government bond market, the Ministry of Finance and Bank Indonesia have taken a co-ordinate initiative to provide a back stop mechanisms as it deems necessary so as to avoid excessive   volatility in the market.  This is considered important as bond price fluctuation has a significant role   in building up market expectations.

Capital Market

The Bapepam – LK continues to implement the five year development plan with a five year period for development, namely increasing accessible and efficient sources of funds, improving the ease of transaction, promoting a stable resilient and liquid industry which should enhance a fair and transparent regulatory framework that will guarantee LEGAL CERTAINTY and promote a creditable, reliable international standard infrastructure

The authorities have continued to strengthen the Crisis Management Framework despite the sound and solid banking condition.

STRUCTURAL REFORM

The government is very cognizant of the need to understand and address infrastructure bottlenecks and, to address this has strengthened the provision of government guarantees and direct contributions for infrastructure projects as well as accelerating and streamlining the procurement processes. The authorities regularly set targets on an annual basis for national food security, transportation connectivity, communications, energy security, water resources and flood management.  

Based on the IMF 2011 assessment, the Investors Relations Unit of Indonesia has been ranked first, together with a few other emerging market countries. Such a positive achievement should contribute to longer term financing from abroad, including those supporting the most needed infrastructure financing, and at a better cost.

CONCLUSION

Indonesia ha successfully weathered the deep global crisis in 2008 but at the same time registered continued and notable economic growth. This has been due to intensive reform and prudent macroeconomic policies which have laid the foundation to entail sustainable economic growth.

In years to come, the authorities envisage an improvement in the quality of growth, aiming to bring more people out of the poverty line so as to deliver equality in social welfare.  Indonesia has indicated its support to play a greater role in cushioning a potential global economic slowdown in conjunction with other EMDC’s.

Acknowledgement: selected data and statistics from the IMF and OECD.

John Brooks
Trade Economist
The Auspacific Institute
October 2011
+ 61 2 9982 9856
auspacific@iprimus.com.au