Indonesia: Risk Assessment
Country Risk Rating
Business Climate Rating
- Diverse natural resources (agriculture, energy, mining)
- Highly competitive thanks to low labour costs
- Dynamic tourism industry
- Huge internal market
- Strong banking sector
- Sovereign bonds rated “Investment Grade” by the three main rating agencies
- Low investment rate
- Exports of commodities increasingly dependent on Chinese demand
- Infrastructure shortcomings
- Persistent corruption and lack of transparency
- Very extensive archipelago with numerous islands and diverse ethnic groups and religions
- High unemployment and poverty rates sharpening inter-ethnic tensions
Growth Buoyed by Internal Demand
Growth is expected to remain lively in 2018, driven by dynamic internal and external demand. Private consumption (57% of GDP in 2016), the main source of economic growth, is stimulated by a growing population, ever growing urbanization and a rise in per capita GDP enabling the emergence of a middle class. The moderation of inflation, now in the lower tranche of the central bank target of 4±1%, should sustain this private demand. Meanwhile, the infrastructure development program launched by President Widowo’s government in 2016 (225 priority infrastructure projects), as well as recent reforms to simplify administrative procedures, are expected to boost investment (32% of GDP). These reforms, aimed at improving the still poor business climate, have enabled Indonesia to jump 19 places in the Doing Business 2018 Index to occupy 72nd place. However, there is still a long way to go on the path to reform and conclusion of the projects remains uncertain (only 20 projects completed out of 225 in July 2017) for administrative reasons and because of a lack of finance (only half the projects were financed in autumn 2017). In addition, growth will remain constrained by a sluggish mining sector, which is yet to recover, despite the lifting of the ban on exporting unrefined ore in January 2017 (in place since 2014). This is partially explained by unrest at the Grasberg gold and copper mine in Papua. In conflict with the Indonesian government over the terms of a mining license, the US company Freeport faced protests lasting over four months in 2017, then security threats from separatist rebels – 2 police officers killed in autumn 2017 - some of the many factors affecting production.
Finally, exports (19% of GDP) of commodities (oil and gas, palm oil, copra, lignite, and copper), as well as of electrical and IT components, automotives, paper, clothing, and jewelry are dynamic, but are offset by imports to meet internal demand.
Deficits Under Control
Constrained by a constitutional limit of 3% of the annual deficit, the Indonesian government has embarked on tax reforms aimed at controlling expenditure and increasing revenues. Subsidies (particularly on energy) have been cut so as to redirect public spending to infrastructure investments. On the income side, the increase associated with the repatriation of funds following the tax amnesty introduced in 2016 (+3.6% of income between 2015 and 2016) is unlikely to enable the government to achieve its aims. This shortage of income could lead to spending cuts. In this context of a controlled public deficit, the public debt is expected to remain low with interest rates falling after the three main rating agencies raised Indonesia’s credit rating to Investment Grade. From the perspective of the current account, the trade balance shows a surplus (at 1.6% of GDP in 2016), thanks to the lowering of the oil bill, with oil making up 14% of imports in 2016. The balance of services shows a small deficit (-0.8% of GDP) but the main cause of the current account deficit lies in the income deficit (-3.3% of GDP), associated with the repatriation of dividends and debt interest payments. This current account deficit is largely financed by FDI flows (1.7% of GDP) and portfolio investments (2.0% of GDP), allowing the Indonesian Central bank to accumulate reserves. The latter conducts a monetary easing policy as illustrated by the surprise cut in the key rate in August 2017 to stimulate activity. The rupiah remains dependent on the influx of short-term capital, with 39.5% of rupiah-denominated sovereign bonds held abroad.
Joko Widowo Put to the Test by Religious and Ethnic Tensions
In power since 2014, Joko Widowo, known as Jokowi, enjoys great popularity thanks to the economic progress made since the start of his term in office. However, his re-election at the next presidential election in 2019 is not yet assured, due to growing challenge from the opposition candidate, Prabowo Subianto (Gerindra Party), supported by ultra-conservative Muslims. The municipal elections in Jakarta in April 2017 highlighted the country’s worsening religious and ethnic tensions. Basuka Tjahja Purnama (known as Ahok), the candidate supported by Jokowi and from the Chinese Christian population, was accused of blasphemy by the ultra-conservative Muslims, strongly discrediting him in favor of his rival Anis Basedwan, supported by Prabowo Subianto, who ultimately won through. The June 2018 local elections will be a new test for the president in regions accounting for 43% of the total population. Based on local issues, these elections are crucial for the political parties in the run-up to the presidential elections, with support for the “right” candidate determining voters’ future loyalty. Finally, Indonesia’s political landscape is dominated by a hardening anti-terror policy aimed at curtailing the spread of religious fundamentalism in the country.