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MANILA BULLETIN Business & Society January 24, 2011 Indonesia: A Star Performer It was a happy coincidence. I arrived in Surabaya, Indonesia on the same day that President Obama landed in the Jakarta airport for his 24-hour visit last November 10. One of the reading materials I brought with me for the flight to Surabaya was a bullish report from the Banco Bilbao Vizcaza Argentaria, S.A. (BBVA) with the same title of this article. As I listened to the TV coverage of President Obama, I could identify with his words about the bright economic prospects faced by this fourth largest populated country in the world. Beyond his penchant for the Indonesian dishes “soto” and “satay”, I also shared his optimism for the only ASEAN nation who is a member of the prestigious G-20. While meeting with the highly entrepreneurial business people of Surabaya (Indonesia’s equivalent to our Cebu), I imagined what the Philippines could be six years from today: the Indonesia that six years of leadership of President Susilo Bambang Yudhoyono (SBY) was able to achieve in economic development through both governance and economic reforms. I am convinced that President Benigno C. Aquino III can replicate in the next six years what President SBY accomplished in the last six years. Why do the analysts of BBVA consider Indonesia “a star performer”? Mr. Stephen Schwartz and Serena Wang give the following answers: Indonesia has become a favorite of international investors due to its sound economic management, healthy fundamentals, and growth resilience. 2 The country is a major economic and political force in Asia. It is the world’s fourth most populous country, and the largest in Southeast Asia—by population, economic size, and land mass. Indonesia is an active member of the G20, and other international forums, and is home to the Association of Southeast Asian nations’ (ASEAN) Secretariat. Its rich endowment of natural resources, such as oil, gas, and metals adds to its strategic value. Although the sovereign credit rating is still 1-2 notches below investment grade, the country has been receiving upgrades by major ratings agencies in recognition of its strong prospects. Many observers expect Indonesia soon to reach investment grade. Beyond sound policies, Indonesia’s resilience to external shocks is due its large size and dependence on domestic, rather than external demand. Sound public finances and low public debt, along with rising foreign exchange reserves, have further reduced external vulnerability. The challenge now for policy is to raise investment in order to accelerate GDP growth to its long-term potential of around 7% Improvements to the investment climate are needed, as underscored by Indonesia’s low rankings in doing business surveys. Upgrading of infrastructure—especially power, ports, and roads—is a priority, as are improvement to the judicial system. The outlook for the banking sector is excellent given strong capitalization, low non-performing loans, high profitability, low penetration, and strong 3 projected economic growth. The sector remains open to foreign investment— 99% foreign ownership is permitted—although this is now under review. Indonesia was one of the hardest hit economies during the Asian Financial Crisis of 1997-98. Political upheaval and economic collapse resulted in social unrest that threatened the very existence of the country as a unified nation. A decade later, however, Indonesia has emerged stronger thanks to reforms, and has become a shining star among emerging markets. On the political front, Indonesia’s transition to democracy was faster and smoother than even the most optimistic observers expected. The first direct Presidential election was in 2004, giving rise to the administration of Susilo Bambang Yudhoyono (SBY). SBY enjoys broad popular support thanks to his administration’s perceived success in combating corruption and improving the well-being of lower income segments of the population. Riding on this popularity, SBY easily won a second 5-year term in 2008 (the constitution forbids a third term). SBY has been praised by foreign investors, not only for bringing stability to Indonesia, but for pressing ahead with business-friendly economic reforms. That said, many business people express frustration that improvements to the investment climate have not proceeded faster. Sound economic management has led to strong fundamentals that have reduced Indonesia’s vulnerability to external shocks over time. Low public debt: a history of prudent fiscal management has resulted in low and falling public debt levels. From a peak of over 100% of 4 GDP just after the Asian Financial Crisis (due to the costs of the government-led banking bailout), public debt-to-GDP has fallen to about 30%. The fiscal deficit this year is projected at just over 1% of GDP, with a deficit of around 1½ percent of GDP for next year. High reserves: after dipping to US$50 billion in late 2008, reserves have risen steadily to US$87 billion at present. Diversified exports: the wide range of export products and markets, evenly distributed across the U.S., Europe, Japan, and the rest of Asia, helps reduce Indonesia’s exposure to shocks emanating from any single country or region. Strong banking system: banks proved resilient to the post-Lehman crisis, thanks to limited exposure to structured products, high capital adequacy rations (around 7½% as end-2009, above the regulatory minimum of 8%), and a low level of non-performing loans. Credit growth has been picking up steadily, to about 20% at present The macro environment has been very stable. Along with China and India, GDP growth held up well throughout the post-Lehman crisis, dipping to 4.5% in 2009 (remaining positive in contrast to other emerging markets) before rebounding to at least 6.0% in the current year. Growth has been underpinned by robust domestic consumption and rising fixed investment. We expect growth to pick up in the coming years, to 6.4% in 2011 and to about 7% over the medium term. Inflation has recently risen, 5 and is on the high side, at around 6% y/y. We expect Bank Indonesia to begin raising interest rates early next year. Strong economic growth has resulted in a gradual reduction in the poverty rate, to 14.1 percent in 2009. The government aims to reduce the poverty rate to 8-10 percent by 2015. Unemployment stands at about 7½ percent, although under-employment may be substantially higher. Given growth of the labor force, high rates of GDP growth are needed to keep unemployment from rising. Strong economic performance and capital inflows have resulted in a sharp rally in Indonesia’s stock market, which is up by around 50% for the year, one of the world’s best performers. After having traveled to both Jakarta, Surabaya and surrounding cities for seven times over the last two years, I can only say “Amen” to Mr. Schwartz and Wang of BBVA Research. And since the Philippines was still ahead of Indonesia in economic development just ten years ago, I think I am not being overly optimistic if I predict that six years from today the Philippines can be rated also as a “star performer,” achieving what Indonesia has achieved in the last six years in fighting corruption and improving the investment climate as described above. [email protected]. For comments, my email address is