Business

Saturday September 26, 2009

Indonesia regaining its lost charm

By CECILIA KOK


THEY say what doesn’t kill you will only make you stronger. This adage rings true for Indonesia, which has long been regarded as an economic laggard in South-East Asia.

Pretty much written off and abandoned by global investors about a decade ago, when the Asian financial crisis plunged the country’s economy into a brink of total collapse, Indonesia is now crawling back onto their radar screens.

The country has somewhat regained its lost charm after going through its own version of a “Great Depression”, whereby it had to be rescued by the International Monetary Fund (IMF), thanks to its current economic resilience and political stability under President Susilo Bambang Yudhoyono.

Indonesia’s economic resilience, however, is not an overnight miracle. But it has been built over 10 years of intense efforts in reforming the country’s financial and political system, and corporate sectors. These reformation efforts are bearing results now, and they are still ongoing as the current administration endeavours to build a buoyant economy.

The stronger political mandate given to Susilo’s Democrat Party is a positive factor as it allows the government to accelerate the pace of reforms needed to boost the country’s economy.

In its latest economics report, US investment bank Morgan Stanley argues that Indonesia has the fundamentals that qualify it to be included in the economic block of BRIC (Brazil, Russia, India and China).

If that is not enough, what about “Chindonesia”, a newly coined term to reflect the rising economic power of Indonesia, along with China and India. Even the World Bank in July said Indonesia could well emerge as a “winner” of the current global economic crisis.

So, what is Indonesia’s saving grace this time around? A large domestic market and its less reliance on external market, of course.

The country is seen to have weathered the current economic storm much better than its neighbouring countries as a result of its strong domestic consumption and higher government spending.

And with the global economy showing signs of gradual recovery, Indonesia is set to gain from the stabilisation of external demand, although one has to remember that the country has never really been highly dependent on exports for growth in the first place.

Indonesia’s exports represent less than 30% of its gross domestic product (GDP), making it the least export-oriented economies in the Asean region, compared with Thailand, Malaysia and Singapore, whose exports share of GDP stand at 65%, 100% and 185%, respectively.

Domestic factors play key role

With external demand, particularly from industrialised nations, expected to remain sluggish for a while (despite their economies returning to gradual growth), Asian countries, many of whom are highly dependent on exports to these nations, are now turning to domestic demand – which constitutes household consumption, government expenditure and aggregate investments – as the key recipe for sustainable growth. And this is where Indonesia has the advantage.

Morgan Stanley, in its latest analysis of the Asean economies, says it prefers “domestic secular stories over external demand cyclical stories, net commodity exporters over importers, and economies where policymakers are taking aggressive measures”.

In this regard, its preference ranking goes in the order of Indonesia, Thailand, Malaysia and then Singapore.

The investment bank ranks Indonesia highest of the four in terms of having the strongest domestic demand story, although it is seen as the least aggressive in terms of running economic stimulus measures.

Indonesia’s announced stimulus measures currently stand at 2.4% of its GDP, or about US$14bil. This compared with Thailand’s 19.4% of GDP, Malaysia’s 9.4%, and Singapore’s 8.6%.

Morgan Stanley believes that Indonesia’s strong domestic factors would lend support for the country to outperform its regional peers. It argues that a confluence of domestic factors such as its huge population, abundant natural resources, and structural decline in the cost of capital as well as policies and political reforms could help push Indonesia’s economy towards its growth potential of 6% to 7% from 2011 onwards.

And being the second-largest net commodity exporter in Asia (after Malaysia), Indonesia is poised to benefit from the rise of global commodity prices, which could result in the net transfer of commodity dollars from elsewhere into its economy.

Strong growth

But the key difference in its bullish call for Indonesia, Morgan Stanley explains, is that it sees the “structural decline in the cost of capital as the dominant factor in the growth equation compared to other factors such as the strengthening of the political foundation and the natural advantage from commodities and demographics”.

The structural credit cost decline has been a result of the continuous improvement in the country’s macro balance sheets, as fiscal deficits are consolidated, and public and private debt, particularly from external sources, are reduced.

Morgan Stanley is of the opinion that the scenario will empower the private sector in Indonesia with capital at attractive rates and hence boost the country’s economic growth.

Its estimates for Indonesia’s economy are slightly above the general consensus. It expects the country’s GDP for 2009 and 2010 to grow 4.4% and 5.5%, respectively.

This compares with the World Bank’s growth estimates for Indonesia’s GDP of 4.3% this year and 5.4% in 2010. The World Bank’s estimates are similar to that of the Indonesian government and the Asian Development Bank (ADB).

Although the estimates represent slower growth for Indonesia, compared with its performance last year of a 6.8% growth, the numbers are still impressive, considering that the world economy is expected to contract 1.4% this year before growing again at 2.5% in 2010.

ADB, in its recent report, says Indonesia’s economic growth in 2010 could even exceed its projection of 5.4% if the government manages to accelerate the rollout of its infrastructure investments by addressing constraints such as legal uncertainties and land acquisition for projects.

The Manila-based multilateral financial institution cites the improving global economic outlook and recovery of major financial markets as factors underpinning the growth in Indonesia’s external and domestic demand.

Additionally, the ADB expects the flow of investments into Indonesia to increase when the corporate income tax rate in the country is cut by three-percentage points to 25% next year.

All these feel-good factors aside, Morgan Stanley believes that currency stability remains a pressing issue for Indonesia.

“This is likely why currency stability has been the key mandate of the central bank,” it says. “Due to its fairly open capital account convertability and a past high proportion of external debt, initial currency volatility tends to be amplified as weakness is compounded by the locals switching out of rupiah and by debt capital outflows,” it adds.

Although such risks have been reduced over the years, as the economy is now less reliant on foreign debt inflows and the latest 2010 budget shows a concerted effort by the government towards zero foreign financing, the country is still considered vulnerable at this juncture.

This is particularly so when its total external debt to foreign reserves ratio is relatively high compared with other Asian economies.

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