Formerly Fragile Indonesia Shows Resilience

IMF projects 6% growth in 2018

Economic growth in Southeast Asia is likely to remain well above the average for emerging markets this year. Even Thailand, regarded as the regional laggard, outperforms many major non-Asian emerging market economies.

But it is Indonesia that is proving particularly resilient.

During the “taper tantrum” turmoil of 2013, Indonesia was characterized as one of the “Fragile Five” economies, along with Brazil, India, South Africa, and Turkey. Today, due to improved fundamentals, Indonesia is well placed to ride out the impact of the U.S. Federal Reserve’s tightening of interest rates this year.

One of the biggest changes in Indonesia since 2013 is political. President Joko Widodo (Jokowi) took office in 2014 and is nearly halfway through his term.

“Our base case is that he will be re-elected to a second five-year term in 2019. Parliamentary elections will be held simultaneously for the first time,” Win Thin, global head of emerging market currency strategy with Brown Brothers Harriman & Co., wrote in a March note to clients.

Structural Improvements

In addition, after acting quickly to cut fuel subsidies in 2014, Jokowi turned the focus to structural reforms that are meant to boost competitiveness and attract foreign investment. He has also put greater emphasis on infrastructure spending.

The nation now ranks 91st (out of 190) in the World Bank’s Ease of Doing Business rankings, up from 106 in 2016.

Indonesian Finance Minister Sri Mulyani

GDP growth is forecast by the International Monetary Fund to accelerate to 5.3% in 2017 and 6.0% in 2018 from 5.0% in 2016. The quarterly year-over-year growth, 4.9% in Q4 of 2016, had declined two quarters in a row, so there is a slight downside risk to the growth forecasts.

Consumer confidence has been steadily rising since 2015 and is just below all-time highs, which Thin deems “important,” as domestic consumption is a bigger driver of growth than exports.

Foreign reserves, at $120 billion in February, are the highest since 2011 and near all-time highs. Reserves cover nearly seven months of imports and are three times larger than short-term external debt.

Currency Recovers

The rupiah (IDR), Indonesia’s official currency, has recouped most of its post-election decline. However, the exchange rate has been stuck in a narrow 13200-13400 range for most of this year.

“The rupiah’s direction will largely be dictated by wider emerging markets,” Thin said, but it should still outperform.

Indonesian equities have also lagged after a strong 2016, when MSCI Indonesia was up 12% versus the MSCI Emerging Markets benchmark’s 7%.

So far this year, MSCI Indonesia is up nearly 2%, underperforming MSCI EM’s 9%.

“Our own sovereign ratings model shows Indonesia’s implied rating at BBB/Baa2/BBB,” Thin said. “This makes it even more surprising that S&P Global has not upgraded Indonesia to investment grade BBB- to match the other two agencies.”

He added that the ratings have upgrade potential, noting that Fitch recently moved the outlook on its BBB- rating from stable to positive.

Infrastructure and Other Impediments

However, high levels of growth across the region conceal a range of structural issues, and more could be done by governments to boost activity, according to Jon Harrison, London-based director of macro strategy with Lombard Street Research.

The quality of infrastructure is a “perennial impediment to growth, as are excessive regulatory, licensing and other administrative burdens,” Harrison says. The progress in “hard” infrastructure across the region has not always been matched by improvements in the “soft” infrastructure that makes it easier to do business.

“The other factor most often cited as holding back growth is insufficient levels of foreign investment,” he says. “The quality of hard and soft infrastructure is important in attracting overseas investors, but so is the willingness and ability of government to carry out structural reform.”

Photo Credit: Paul Marotta | WireImage | Getty Images

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