There has been much fussing over the past year about whether or not Indonesian President Joko Widodo has the determination and backing to get a grip on the nation’s politics and rule effectively. The balance of opinion has now mostly shifted in his favor. But behind all this lies what can only be described as a minor economic miracle.
Last week the central bank, Bank Indonesia, cut its benchmark interest rate to 6.75 percent, the third cut in recent times. The rupiah barely budged. It now stands around 13,200 to the US dollar, compared with a low point last year of 14,800. Part of this improvement is due to the general weakening of the US dollar in recent weeks. The downward spike of the rupiah last year was likewise part of a generalized panic about so-called emerging markets and nonsense talk about a return of the Asian financial crisis.
But closing ears to market noise and looking at the actual data shows just how effectively conservative fiscal and monetary policies have been in Indonesia in adjusting to the collapse in commodity prices notably for coal, palm oil, rubber and base metals.
Terms of trade – the difference between import and export price indices – fell by 20 percent in the two years to late 2015. They have since staged a modest recovery. It could well have been expected that the collapse would drive the current account deficit to 4 percent or more of GDP and staying there. This would lead to genuine worries about debt and sustainability. In turn high interest rates to defend the currency would encourage foreign borrowing and make the medium term debt picture worse.
For sure some who borrowed US dollars back in 2012-13 may now find that the exchange rate fall has more than wiped out the benefits of lower interest rates. But corporate debt problems, as in the coal business, are more related to commodity prices than currency rates.
Overall the pricing factors, not least the decline in the currency which less than three years ago was trading at 10,000 to the dollar has helped shifted demand and supply and largely corrected the trade imbalance. Thus in 2015 the current account deficit fell by one third to just under 2 percent of GDP. That is a readily sustainable level.
For sure, GDP growth has also come down to 4.8 percent in 2015 and will be lucky to regain 5 percent level this year. Government revenues are lagging which will probably increase the size of the budget deficit particularly if long delayed infrastructure spending gets moving as promised. But cautious fiscal policy as well as the ponderous bureaucracy now make it possible for some increase in both budget and current account deficits as economic growth picks up in advance of major improvements in the terms of trade.
With nominal GDP growth of around 8 percent, a budget deficit of 3 percent is manageable, particularly given Indonesia’s plentiful access to loans from the Asian Development Bank, now also the Asian Infrastructure Investment Bank, and competition between China and Japan to support infrastructure projects. Inflation is down to 4 percent or less but despite cuts interest rates remains in positive territory and banking margins healthy – maybe too healthy.
External debt with foreign reserves of 45 percent of total debt of US$308 billion, of which US$48 billion is denominated in rupiah, the dangers of major currency turmoil are slight. Of the total, US$138 billion is government debt, of which 40 percent is long-term borrowings from multilateral institutions. Government debt has been rising but private debt has been static for the past 18 months at US$164 billion, mostly to the non-financial sector.
For sure there is pressure on Joko and Bank Indonesia to speed up GDP growth through budgetary and monetary measures. But there is room both in the budget and in debt position for Indonesia to be a leader, not laggard in the gradual recovery of Asian growth. This has now been at least partly recognised by markets, as witness a 9 percent rise in stocks on top of a 6 percent rise in the rupiah since the start of 2016. Further advances may be unlikely in the short term, not least because there are other big commodity sensitive economies – Brazil, South Africa – which have been far less successful in adjusting to downturns.
But Indonesia over the past two years has shown commendable progress in difficult circumstances however disappointed different sectors – labour, foreign mining companies and others – may be with specific policies or outcomes, and with the corruption and bureaucracy which no one man can resolve.