Indonesia’s Joko Loses the Economic Plot

Against the symbolic backdrop of a week-long international summit marking the 60th anniversary of the 1955 Asia-Africa Conference, one of the landmarks of developing world nationalism, Indonesia has taken a series of measures that could isolate the country from investors, alienate long-term trading partners and drive growth rates down.

Jakarta is delivering a mixed message at best. At the same time as the Asia Africa summit, some 700 business leaders from 40 countries were in town early in the week to attend the World Economic Forum on East Asia in Jakarta. At that gathering, President Joko Widodo said Indonesia is “an incredible place to invest” and invited the participants "to join our incredible people on an incredible journey and make incredible profits.”

But mounting protectionist policies have ruled Indonesian economic policy for the past several years and they are not going away. Investors complain that it is getting harder not easier to invest in "incredible" Indonesia.

From moves to force banks and other companies to place their data centers onshore to making dollar transactions illegal and even banning the sale of beer in mini markets, a number of often capricious and confusing policies have foreign investors and others wondering if Indonesia wants to withdraw from the world. The beer ban -- which affects about 70 percent of retail outlets nationwide and hits international and local brands -- may be extended to cover all spirits if some religious lawmakers get their way. There was a recent attempt by the Manpower Ministry to force all expatriates to pass a high-level proficiency test in Bahasa Indonesia, the national language, but it was withdrawn after protest.

Retreat from globalization?

"I heard a presidential advisor in a top-level meeting say globalization has been bad for Indonesia," said one businessman with good political connections. "This is being taken seriously."

The recent decision to ban dollar transactions and invoicing by July 1 is an example. Seemingly designed to shore up the weakening rupiah, trading at lows not seen since 1998, it threatens long-standing contracts, insurance policies and investment tenders. It has businesses scrambling to understand what to do now. The rupiah is the worst-performing currency in Asia this year, and foreign exchange reserves dropped by almost $4 billion in March as the central bank stepped in to support the rupiah.

Eko Yulianto, acting director of money management at Bank Indonesia, told Reuters that with the new regulation, the bank aims to reduce current demand of at least $6 billion each month for domestic transactions.

“We don’t want a dollarized economy so we need to uphold the sovereignty of the rupiah,” Eko told reporters at a briefing. “There are still a lot of transactions using foreign exchange and that has added to the pressure on our exchange rate.” He cited as examples the textile, pharmaceutical, chemical and oil and gas sectors where companies often use the dollar for domestic payments. Cash transactions in foreign currencies have been banned since 2011

"We have no idea yet how to respond. There was no consultation. We are just trying to figure out what to do," said one multinational company executive.

Other companies worry about a staggering 40 percent target to increase tax collections for 2015 over the previous year. The drive has resulted not in an increase in the small number of Indonesians who actually pay taxes but still more actions against companies who suddenly find routine logistic deductions and other charges denied. In the first quarter, tax collection did not even reach levels from a year earlier.

Asia-Africa symbolism

Some see the Asia-Africa summit as a symbol of what may be going wrong. The landmark 1955 event was the first gathering of what became the non-aligned movement. The leaders of that generation of newly independent countries were overwhelmingly socialist in orientation and countries like China and India eventually gave up on inward-looking economic prescriptions.

But the 1955 summit was a high point for Indonesia's founding President Sukarno and the week-long commemoration taking place in both Jakarta and Bandung is an opportunity for Indonesia to celebrate nationalism and underscore current feelings.

Jokowi, beset by domestic political problems, seemingly has little control over ministries and little strategic sense of where the economy is going. One very senior former cabinet minister said recently, "Nobody has a big picture. There is no strategy at work in guiding economic policies." Jokowi may be good at solving some problems and identifying things to manage in a city, the former official said, "But there is nobody with a vision of where the country is going or how policies fit together."

This increasing economic nationalism didn’t start with Jokowi. It has been building for several years, partly on a belief that with a population of 253 million, making it the fourth largest country in the world and the biggest in Asean, and a big domestic consumer base and steady growth throughout the global financial crisis that began in 2008, it can hold its own. That is coupled with a feeling, increasingly articulated by senior members of the bureaucracy, that Indonesia isn’t accorded its rightful place in the greater scheme of things.

There are policy demands to build local factories or lose access to the market and growing restrictions on areas where foreign capital is welcomed. "We want to be here," said one investor, "but it is getting harder to convince the home office it is worth all the trouble."

Sjamsu Rahardja, a senior economist at the World Bank office in Indonesia, warned in 2014: “Strict cabotage rules limiting the ability of foreign providers to service Indonesian domestic sea lanes, combined with restrictions on FDI in ports, warehousing, and freight forwarding, mean Indonesia’s logistics sector is less exposed to competition than its main regional competitors. And with the Asean Economic Community to be fully implemented in 2015, there is now pressure on the government to protect domestic businesses and impose new restrictive measures on trade and FDI.”

Disruption in mining

Rather than pursuing import substitution to slowly develop a domestic manufacturing base at home, Sjamsu wrote, “Indonesia should participate more extensively in regional and global manufacturing chains. This would allow Indonesia to accelerate industrialization by taking advantage of natural resource wealth, having FDI pay for capital in the form of factories off-shored to Indonesia and leaving the nation free to focus on investing its own resources in human capital and programs to facilitate local industries climbing up the value chain where the value added is greater."

Instead, however, the government of Susilo Bambang Yudhoyono, which left power last October, cut off nickel and other mineral exports in an effort to drive investment in domestic downstream processing. On nickel, for example, distribution pipelines to China broke down, with prices surging and both supply and demand shrinking. Nickel went to as high as US$12,000 per tonne before retreating as new supply came on line in the Philippines and Africa.

Other minerals have seen prices drop due to shrinking global demand and major mining investments came to a halt. Uneconomic smelting plans remain in the planning stage but the policy created enormous disruption for both domestic and foreign companies. US mining giant Newmont was forced to halt production for several months at its Batu Hijau gold and copper mine and lay off 8,000 workers because of the ban on the export of copper concentrate, its major product.

Despite a four-year window to put a smelting industry in place, the domestic industry remains woefully inadequate. The enormous power needs for smelting plants has meant that Indonesia’s energy grid is unable to deliver enough energy to far-flung areas where the smelting plants would be needed.

For a variety of reasons including problems with economic policy, the World Bank cut its forecast for economic growth for 2015. Exports are expected to remain weak, with China cutting back on coal imports. The domestic market is also facing problems with high interest rates. The Bank’s most recent East Asia and Pacific Economic Forecast said GDP would grow at a 5.2 percent clip, down from the 5.6 percent it projected in October. That is behind the region as a whole, which is forecast to grow at 6.7 percent this year and the next, down from a previous forecast of 6.9 percent in October.

“Indonesia was affected by weakness in its terms of trade and commodity exports, and by the continued impact of policy tightening aimed at addressing external financing constraints,” the report said.

The Bank suggested that Jakarta must urgently tackle structural impediments to creating rapid and inclusive growth, generating high-quality jobs and supporting poverty reduction. But few in the market see any concrete policies to tackle either falling exports or its trade deficit.