Business Getting Easier in Indonesia, but CEOs Wary of External Risks

President Joko Widodo’s efforts to improve Indonesia’s commercial operating environment appear to be bearing fruit, with 64% of C-suite executives surveyed in the second OBG Business Barometer: Indonesia CEO Survey agreeing that the ease of doing business is better than it was two years ago.

Since the election of President Jokowi, as he is popularly known, Indonesia has jumped 68 places in the World Bank’s ease of doing business index, rising from 140th in 2014 to 72nd in the latest report. This result falls short of the 40th ranking President Jokowi told OBG’s delegation he was targeting in our September meeting, but still represents remarkable progress for a country that has historically had strong protectionist tendencies, stemming partly from lasting memories of resource exploitation under colonial rule.

What factors are driving positive changes in Indonesia’s business environment?

Alongside his flagship infrastructure programme, President Jokowi’s initiatives to create a more open economy and simplify business procedures have undoubtedly piqued the interest of international investors, and according to our survey, they are starting to satisfy the local business community as well.

Moves that have helped improve the business environment include the creation of a one-stop service at the Indonesia Investment Coordinating Board, the easing of foreign ownership restrictions in the government’s negative investment list (DNI) – mainly in tourism, toll roads, retail, e-commerce and pharmaceuticals – and the increase in electricity generation capacity and reliability as part of the broader plan to add 35 GW to the national grid during the President’s first term, a target that is likely to be missed despite substantial progress.

These developments, among others, have translated into tangible, positive results. In the third quarter of 2017 foreign direct investment in Indonesia, excluding investment banking and oil and gas, reached a record high of Rp111.7trn ($8.4bn), representing 12% year-on-year growth.

Potential areas of concern moving forward

While the achievements so far deserve to be applauded, frequent changes to the DNI could foster uncertainty and instability. Furthermore, ongoing restrictions on foreign participation in key sectors – notably transport, health care and construction – and high local content requirements, such as those in smartphone and automotive manufacturing, are likely to weigh on international investor sentiment in the short to medium term.

The executives we met face-to-face for our survey were all too aware that Indonesia cannot afford to isolate its economy from global value chains if the government is to reach its target of 7% annual economic growth. When asked about what external event could affect the Indonesian economy the most in the short to medium term, 38% of respondents cited demand growth from China, while 23% named trade protectionism.

Although Jakarta has been more cautious than other ASEAN governments in forging closer ties with Beijing for many historical and sociopolitical reasons, not least the ongoing bilateral dispute over marine territories, China has still emerged as Indonesia’s largest trading partner, and any slowdown in Chinese demand for Indonesian hydrocarbons, minerals or palm oil could significantly impact growth. Analysts have warned of the risks of debt accumulation and economic slowdown in China for several years, but so far external and internal demand have proved to be remarkably resilient. The Indonesian business community is hopeful both will hold steady in 2018.

In terms of trade protectionism, the Jokowi administration is seeking to expand bilateral and multilateral ties: a free trade agreement was recently signed with Chile, there are ongoing negotiations with Australia and the EU, and trade talks are set to commence with Peru, Kenya, Mozambique, South Africa, Morocco and the GCC. However, without careful navigation, the persistence of protectionist measures in some areas of the economy could potentially derail talks with important trading partners.

Forecast for the new year

Broadly speaking, the executives surveyed by OBG remain upbeat about the country’s prospects, with 76% of respondents indicating they were positive or very positive about local business conditions for the year ahead.

While this is undoubtedly a positive result, it does demonstrate a decline from our previous findings; in OBG’s May 2017 survey, 92% of respondents said they were positive or very positive about local business conditions. This change is perhaps a reflection of creeping political uncertainty following the acrimonious Jakarta gubernatorial election in the spring of last year. As Indonesia gears up for presidential elections in 2019, the business community will be hoping for a campaign free from the ugly sectarianism that clouded last year’s poll and exposed social fractures in a country that ostensibly cherishes its national motto: “Unity in diversity”.

Following on from our last survey’s revelation that 43% of CEOs viewed a lack of skilled human resources as their top concern, we asked respondents in this survey to expand on what skills were most in need in the labour pool. The answers were relatively widespread: 37% said leadership, 20% cited engineering, 16% chose computer technology and 11% said research & development (R&D).

Given that the government is working to plug the vast number of infrastructure gaps across Indonesia’s 17,000 islands, the need for more engineers is to be expected. Demand for IT and R&D skills, meanwhile, stems from the transition towards value-added industries and the cultivation of the nation’s knowledge economy.

The demand for leadership, however, reflects a more complex challenge. It is an indictment of an education system that many in the business community believe has failed to equip young Indonesians with critical thinking and entrepreneurial skills. This is an area that will need to be addressed if the country is to remain competitive, especially against the global backdrop of rapid technological change and lucrative emerging industries.

Irrespective of concerns, Indonesia has the world’s 16th-largest economy by GDP and the fourth-biggest population, providing a wealth of potential to be harnessed as we head into 2018, with government authorities and private sector leaders largely on the same page in terms of development priorities.