Indonesia: Policies for growth

The Indonesian economy is maintaining momentum in 2012, despite difficulties across the globe. A large domestic market and growing foreign direct investment (FDI) are ensuring that expansion remains steady. Policymakers and government officials are aware of the downside risks that exist, however, particularly regarding the uncertain global economic climate and the need to tackle the issues that hold back Indonesia’s long-term prospects.

The economy grew by 6.3% year-on-year in the first quarter of 2012, according to official figures. This was in line with most forecasts, if down slightly from the 6.5% achieved in 2011, the highest rate for a decade and a half. FDI grew by 30% in the first quarter of 2012, and overall investment increased by 9.9%.

In December 2011, Indonesia received investment-grade credit status from rating’s agencies Fitch and Moody’s, which has helped buoy confidence in the country. Many investors are now looking to fast-growing Indonesia to offset losses or slower growth elsewhere.

Consumption in the domestic market has been a major factor in maintaining growth through the global economic crisis. According to Armand B Arief, the president-director of PT Bank UOB Indonesia, a Singapore-based bank, much of the demand comes from the newly affluent. “Although still low compared to other countries in the region, the upper middle class segment in Indonesia is on the rise,” he told OBG.

Monetary policy has also been playing its part in the growth story. On May 10, the central bank voted to keep rates on hold at a historic low of 5.75%. Lower borrowing costs make it cheaper for businesses to invest and consumers to borrow, supporting two of the main drivers of Indonesia’s economy.

However, the country is not immune from international turbulence, which includes the ongoing eurozone crisis and a significant slowdown in China and India, two important export markets. Export growth slowed to 7.8% in the first quarter of 2012, down from 17.8% in the fourth quarter of 2011. As a result, the country’s trade balance dropped into the red for the first time in two years in April, with the Central Statistics Agency reporting Indonesia saw a trade deficit of $641.1m in April after recording a surplus $840m in March.

And in late May, a retreat from emerging markets caused the rupiah, which has a history of volatility, to drop 5% from its value at the beginning of the year.

In May, Gita Wirjawan, the minister of trade, told the international press that he was keeping a watchful eye on the eurozone crisis and its effects on Indonesia. Wirjawan added, however, that he still expected the country to top 6% growth this year, possibly reaching 6.5% expansion.

Wirjawan said that Indonesia should focus on developing value-added export sectors to lower the country’s vulnerability to fluctuating commodity prices, a policy which has become a government priority in recent years. Savings from Indonesia’s costly fuel subsidies could be used to invest in infrastructure, which should ease supply bottlenecks and increase the country’s long-term investment and growth potential.

While speaking with the international press in May, President Susilo Bambang Yudhoyono reiterated Indonesia’s aim of increasing per-capita income from $3000 to $14,000 by 2025. Yudhoyono pointed out the progress that has been made in opening up the Indonesian economy, resulting in greater trade volumes, investment and competition, which has allowed domestic producers to “uplift their capabilities to be on par with other global players”.

The president identified several priority policy areas for the coming years, including infrastructure investment, improving the business climate and tackling corruption. These commitments, if implemented, are likely to please investors, who have said that unwieldy bureaucracy and graft – as well as patchy infrastructure – are continuing sources of frustration.

“The biggest challenges to doing business in Indonesia remain legal uncertainty, but this has improved greatly in the last decade,” Tigor Siahaan, the chief country officer at Citi Indonesia, told OBG. “Whether in the banking industry or in any other sector, investors must carefully look at these risks when planning to access the Indonesian market.”

Indeed, Indonesia still has some way to go to enhance its business environment, streamline its public administration and upgrade transport and utilities. None of these will be easy, but continued growth is providing some of the funds needed. Rather than resting on its laurels as one of the world’s hottest investment destinations, Indonesia is setting out the policies that could underpin its long-term growth.