Jokowi’s Sea of Troubles

A month and a half before Indonesia’s president-elect Joko “Jokowi” Widodo takes office, he already faces considerable headwinds and is not getting much cooperation from outgoing President Susilo Bambang Yudhoyono, who leaves office on October 20.

Last week, Yudhoyono refused to cut fuel subsidies, a political third rail that Jokowi had asked for help over. Jokowi had proposed a 50/50 split with Yudhoyono, raising the price of fuel by Rp 1,000 now and a further Rp 1,000 under his watch in November, which would bring the price of premium gasoline to the equivalent of about 75 US cents per liter, still well below global prices.

The president told him to forget it because the burden on consumers would be too high. Jokowi had hoped that Yudhoyono would take part of the pressure off him before he assumed office. His allies were furious with Yudhoyono’s decision.

In addition the new government faces an investor backlash over various nationalist economic measures, including the ban on the export of raw ores and minerals.

Another law, still in draft form but likely to be passed before the end of the current legislative session in October, will force foreign companies to divest all but 30 percent of their holdings in plantations to Indonesian owners; they are currently allowed to own 95 percent of a plantation.

The measure is another factor presaging a wider concern that international investors are becoming disillusioned with what had been one of the globe’s most attractive investment destinations. Foreign ownership of banks and access to Indonesian deposits is also expected to be restricted soon as economic nationalism bites ever deeper. Meanwhile, analysts say, a property bubble may be expanding. Electricity tariffs are rising.

“Anything to do with asset ownership – land, mining, banks – is under pressure,” said a long-time Jakarta-based economic analyst. “That is a fact of life and it isn’t going to change under Jokowi.”

But it is the fuel subsidy that is his most immediate issue. It puts Jokowi in the same trap that Yudhoyono has faced for a decade. Jokowi wants the cut in subsidies to allow the government to divert additional revenues into a variety of social programs. He has now said it is likely that fuel prices will go up after he takes office.

The Indonesia Survey Circle polling organization in its latest poll found that 73.17 percent of Indonesians are opposed to cutting the subsidies, which are a perennially emotional issue. Yudhoyono raised the fuel price in 2005 during his first term. In 2012, he backed off of planned cuts in the face of political pressure, waiting until 2013 to make a modest reduction in the subsidy of 30 percent. With domestic oil production decreasing steadily, the subsidy keeps going higher as fuel imports rise. Further pressure comes from widespread smuggling of cheap subsidized fuel by a well-connected so-called oil mafia. Jokowi’s advisors say he is poised to tackle the fuel smuggling issue as part of an expected battle against entrenched corruption.

According to the fiscal 2015 state budget, the subsidies are expected to cost the treasury US$37 billion. That is a full 14 percent of the budget, a figure a revenue-strapped government can no longer afford. With revenue growth weakening and the energy subsidy in place, development spending is likely to be squeezed in critical areas, including badly needed infrastructure, health spending and social protection.

Other problems include the growth rate of real exports of goods and services, which dropped markedly in the first quarter of 2014, contracting by 0.8 percent annually compared with growth of 7.4 percent annually in the fourth quarter of 2013, according to the World Bank. All of this is adding to pressure on the rupiah, which has bounced around from a low of about 12,100:US$1 in late June to a high of 11,500 on July 22 to its current level of 11,700 today. Analysts fear it will fall off a cliff if the current economic atmosphere continues.

The Bank, in its first-half report on the Indonesian economy – appropriately titled “Hard Choices” – warned that the economy, ranked No. 16 in the world, would moderate slightly in the coming year, from growth of 5.4 percent to 5.2 percent.

“Lower government consumption than previously expected, slower credit growth and continued weakness in commodity-related income growth are likely to constrain GDP growth in the second half of 2014,” the World Bank report noted. External pressures could yet re-emerge in the absence of improved export performance as commodity prices continue to moderate and the government’s policies restricting natural resources exports remain in place.

Domestic miners are now openly lobbying Jokowi to relax the seven-month old ban on exports of unrefined ores, with analysts warning that the ban is forecast to cost US$400 million a month in lost exports. Last week, one of the biggest multinational mining companies, Newmont Mining, withdrew an international arbitration case against the ban, saying it would work with the government over the issue of copper concentrate exports and local processing. Earlier, US mining giant Freeport McMoRan signed a deal with the government to develop a domestic smelter and make various changes to its contract terms.

The deals with Freeport and Newmont were seen inside the government as a major victory over recalcitrant foreigners.

Local Bauxite and nickel miners are seeking to persuade the government to drop the export ban, saying it is causing unemployment and other hardships. Jokowi’s advisors say he is unlikely to relax the ban because he believes in the goal of creating a downstream smelting industry.

The government is trying to force the mining sector to process raw materials in Indonesia and export finished products. But the ban has put a real dent in export performance. The government says that it can change an escalating export tax it imposed earlier in the year, but the ore ban has been written into a law that it can’t change.

The government last month did ease the stiff export taxes as part of a deal to allow Freeport-McMoRan and other miners building smelters to resume shipments. Now bauxite and nickel miners are hoping Joko will do the same for them and lift the ban on mineral ore after he takes office on Oct. 20.

The restriction on foreign ownership on plantations is equally troubling. Lawmakers are seeking to cut foreign ownership, most of which is either Malaysian or to a lesser extent Singaporean, in the country’s palm oil industry, the world’s largest. The bill is aimed at opening up the sector to smaller, local players. But that goes in contrast to the government’s goal of raising palm oil output by a third to 40 million metric tons by 2020.

“It’s a bombshell and has snuck in under the radar, and as far as I know, without consultation with the industry,” a Jakarta-based financial advisor with a major international accountancy firm, who is not authorized to speak to the media told the Jakarta Globe. “There will clearly be a decline in new foreign investment … I would think there will be a decline in the capital value of plantations.”