Indonesia Economic Outlook 2014: Stronger GDP Growth On Trade Balance Recovery And Lower Inflation
January 14 2014 6:20 AM
Indonesia can expect an easier 2014, as the Southeast Asian nation’s
economic fundamentals improve across the board. In particular, GDP is expected
to grow 5.8 percent, the current account deficit should narrow as the trade
balance recovers and inflation should drop to safer levels with no further
fuel-price hikes for the year.
The year just ended was rough for Indonesia. After fuel-price hikes,
resulting from reductions in the government fuel subsidy, inflation climbed to
8.4 percent at the end of year, nearly double of the 4.3 percent at the end of
2012, and real GDP growth was estimated to have fallen from 6.2 percent to 5.6
percent, according to a Standard Chartered research note.
While most 2013 statistics have not yet been released, the current
account deficit is expected to have widened, from $24.4 billion to $32.3
billion. The Indonesian rupiah, as a result of worsening fundamentals and
concerns over the risk of capital outflows triggered by the U.S. Fed tapering,
weakened to 12,171 rupiahs per dollar at the end of 2013, compared to 9,793
rupiahs at the end of 2012.
But those fundamentals should look up in the coming year. The trade
balance, which contributed a great deal to the nation’s current account
deficit, will improve as imports slow. The fourth quarter of 2013 was already
showing signs of a recovery – the trade surplus rose to $777 million in
November from just $24 million in October, according to data from the National
Statistics Agency.
In 2012, Indonesia’s trade deficit was just $1.7 billion, while the
figure for the first 11 months of 2013 amounted to $5.6 billion.
January 2014 saw the implementation of a law banning mineral
exports, which may cause the potential loss of revenue of $5 billion, but since
the law excludes coal, which contributes around 13 percent of Indonesia’s total
exports, the impact of the ban on the nation’s overall exports should be
limited.
As the trade balance gets under control, the overall current account
deficit is expected to fall back to $26.9 billion (3.1 percent of nominal GDP)
in 2014 from the 3.7 percent in 2013. Before 2011, the nation was still
consistently running a current account surplus.
The legal limit of budget deficits in Indonesia is 3 percent, and
overshooting the limit in June 2013 prompted the government to cut back fuel
subsidies that economists have warned for years to be detrimental to the
economy. The resulting hike in fuel prices – 44 percent at one point – caused
inflation to almost double from 2012.
But this year, as elections loom, no further fuel-price hikes are
expected, and inflation should slow to 5 percent year-on-year by the end of
2014, the Standard Chartered note said, within the central bank’s target range
of 3.5 to 5.5 percent for the year.
Recovering fundamentals will have benefits for the rupiah as well,
with a stronger second half.
“The Indonesian rupiah (IDR) is likely to remain under pressure in
early 2014 amid uncertainty over the election results and U.S. Fed tapering,”
according to Standard Chartered. “However, we expect the IDR to strengthen in
H2, reaching 11,400 by end-2014, once the election results are known and U.S.
Fed tapering is in place.”
The year 2013 exposed a number of weak
spots in Indonesia’s economic setup and demonstrated that the country remains
vulnerable to capital outflows. At the same time, GDP growth slowed and
consumer sentiment was dragged down by higher fuel as well as electricity
prices and rising interest rates.
In many ways, 2013 was a sobering
experience for an economy that overflowed with self-confidence just two years
earlier, and it begs the question as to what 2014 holds in store. National
elections add a political dimension to uncertainty over Indonesia's immediate
future, but they could usher in brighter business prospects and help the
economy get back on form.
A lower Rupiah, tighter credit conditions and slower GDP growth will
make Indonesia's economy less dependent on domestic consumption, foreign
investment and commodity exports
Macroeconomic Adjustment
After key economic indicators worsened in the course of 2013, there
are reasonable expectations that the year ahead should see some trends turn for
the better.
GDP: While still strong by global comparison, Indonesia's economy
has gradually slowed over the past two years. By the third quarter of 2013,
annual GDP growth had declined to 5.6%, down from 6.5% in 2011.
The slowdown was at first largely owed to lower global prices for
key Indonesian export commodities such as thermal coal, natural rubber, gold
and crude palm oil, and more recently also to slowing investment and
consumption.
Net exports are set to remain subdued going into 2014 amid large
stockpiles of rubber and coal in China. Investors will likely remain cautious
ahead of presidential elections in July, while household spending – the core
pillar of Indonesia's economy – is under the cosh as consumers fret about
inflation.
If downward pressure on the Rupiah persists, Bank Indonesia (BI) may
be compelled to raise interest rates further in early 2014, which could hurt
investment and consumption in the short run. On the bright side, public
spending is set to buoy GDP in 2014, as the state budget plan foresees an
increase of 6.7% over 2013, largely to boost infrastructure development.
The second half of the year could see brighter prospects for both
investment and household spending, as inflation is expected to come back down
which would allow BI to relax its monetary policy. Assuming the world economy
continues to strengthen, so should global commodity prices and hence Indonesian
exports.
Rupiah: On a downward trend for more than two years, the rupiah's
exchange value dropped below 12,000 to the US dollar in November 2013, making
it the year's worst performer among Asian currencies. The driving forces behind
the Rupiah's depreciation to a four-year low were the worsening trade balance
and asset sales by global portfolio investors fearing that the US Federal
Reserve would soon begin to reduce quantitative easing.
The weaker rupiah in turn stoked imported inflation by driving up
the domestic cost of imported goods and materials. The current account deficit
reinforced negative sentiment about Indonesia's currency to the extent that
traders appeared to disregard repeated rate hikes and other countermeasures
taken by the central bank. Approaching the end of 2013 however, a growing
number of experts opined that the devaluation no longer fairly reflected the
economic fundamentals, which gives rise to hope that the currency might regain
some strength in 2013. That said, the government appears quite willing to
accept a lower Rupiah as it seeks to bolster exports; it is therefore unlikely
that the currency will return to its 2011 strength any time soon.
Trade: Indonesia's current account balance turned negative in late
2011 and has remained in red territory almost ever since, dragged down by poor
exports and, more recently, faltering foreign investment. However, the current
account gap narrowed slightly in the third quarter of 2013 to $8.5 billion
(3.8% of GDP) after hitting $10.0 billion (4.4% of GDP) in the second quarter,
mainly because non-oil and gas imports fell more than exports. The combination
of a weak currency and elevated interest rates should prove a potent mixture to
further reduce the current account deficit in 2014, because a weak Rupiah makes
imported goods and services less affordable for Indonesian firms and consumers,
while higher borrowing costs constrain domestic demand by tightening credit
conditions. It seems reasonable, therefore, to expect the current account
deficit to shrink further next year, which should improve investor confidence
in Indonesia's economy as a whole.
Monetary policy: Bank Indonesia raised its benchmark interest rate
by a total of 1.75 percentage points between June and November 2013 in an
effort to stabilise consumer prices. Further tightening in early 2014 appears
quite possible after the rate action so far failed to arrest Rupiah
devaluation. In an interview with Bloomberg in early December, BI Senior Deputy
Governor Mirza Adityaswara has said the bank might use interest rates and
reserve requirement ratios to curb inflation and shrink the current-account
deficit to below 3% of GDP in 2014. The central bank seems happy to trade in a
few basis points of GDP growth in exchange for a more balanced current account.
Adityaswara called the Rupiah “undervalued” at 12,000 to the dollar but seemed
to be comfortable with a level between 11,000 and 11,500, saying this would
help reduce import demand.
New Political Verve?
A lower Rupiah, tighter credit conditions and slower GDP growth will
make Indonesia's economy less dependent on domestic consumption, foreign
investment and commodity exports. Together, these three factors amount to a
fundamental economic adjustment that will impact the country well beyond 2014.
How this adjustment plays out will also depend on the political context, which
should become clearer following national legislative elections in April 2014
and the presidential poll in July.
While political change naturally entails a degree of risk for
investors, Indonesia's elections may well come to be seen as revitalizing the
economy. President Susilo Bambang Yudhoyono's final term in office has been
criticised by some as unambitious, not least because corruption scandals
engulfing high-ranking figures within his Democratic Party appear to have drawn
much of the attention away from economic reform. At the same time, the
president's struggle to push through unpopular reforms such as the fuel price
hike against resistance from within the ruling coalition have raised questions
as to how much progress can be expected before a new government takes office.
One problem with Indonesian elections is that they frequently end in
protracted legal quarrelling to determine the winner, typically with mutual
accusations of foul play. While more of an issue at the local level, the
economic risks this poses for 2014 should not be dismissed out of hand. Neither
should the possibility of violence ahead, during or following the polls in
April and July. However, Jakarta's 2012 gubernatorial elections and a number of
other mostly-peaceful regional elections since suggest that the likelihood of
widespread violence is low.
A new government may find itself in a freer position to open
Indonesia to more foreign investment – a policy for which the current
government would risk a populist backlash in the impending elections, given the
current sentiment of economic nationalism. While incumbent Finance Minister
Chatib Basri, Bank of Indonesia Governor Agus Martowardojo and the head of the
Investment Coordinating Board, Mahendra Siregar, have all been dubbed
“reformers”, it is unclear how much they can promise, let alone implement,
before the elections. One of the foremost concerns on investors' minds are the
excessive wage increases and at times hostile industrial relations that
Indonesia witnessed in recent years. Government officials appeared to be unable
or unwilling to act as mediators between labour representatives and employers,
instead changing legislation in line with union demands. This is another area
that a new government should be able to address in a more pragmatic, less
populist manner.
One Sector's Pain is Another's Gain
The macroeconomic shifts in Indonesia will affect some industries
more than others and will generally help export and harm imports. Exporters
will enjoy the weaker Rupiah, while importers, as well as domestic-focused
companies within the country, will grapple with lower purchasing power in the
hands of local consumers.
This suggests slower growth should be expected in consumer-focused
industries that in the past years have enjoyed exceptional increases, such as
fast-moving consumer goods (See Indonesia’s
Fast Moving Consumer Goods (FMCG) Sector) and the automotive sector (See Indonesia’s
Automotive Industry). The effects of a slowdown in consumer spending,
coupled with higher BI interest rates, may also be felt at banks and consumer
finance companies, sectors that similarly have seen exceptional growth.
Purchasing power and interest rates will be of less concern in the
healthcare and pharmaceutical sectors (See Indonesia’s
Healthcare Sector), where spending is generally motivated less by choice
and more by need. In addition, the launching of universal healthcare in 2014
should boost demand for medical services, making this one of the most appealing
sector in the near and medium term. Infrastructure developers stand to benefit
from pressing demand for better transportation along with improved regulations
on public-private partnerships (PPPs) and increased government spending.
Foreign investors in the extractive industries will hope for a more
accommodative and less nationalistic political environment after the elections,
though in the case of metal mining the most important question will be how the
government intends to circumvent its own ban on the export of mineral ores (See
Metal
Mining: Foreign Investment More Necessary than Ever ).
A number of sectors could be newly opened for foreign investors and
existing ownership limits lifted as government officials have proposed
revisions to the negative investment list. The proposals, which require
presidential approval, could see foreign companies operate Indonesian airports
and seaports and hold greater stakes in pharmaceutical and telecommunication
companies (See An
Overview of Indonesia’s Telecommunication Sector) and tourism businesses,
among others.
CONCLUTION
The economic of Indonesia is very very
fragile and unstable. Our economic is far away from consistent, even worse than
previous years. The slowdown was at first largely owed to lower global prices
for key Indonesian export commodities such as thermal coal, natural rubber,
gold and crude palm oil, and more recently also to slowing investment and
consumption.
