Pressure Mounting for Indonesian Growth

Indonesia’s economy grew at a steady pace throughout 2012, but the World Bank’s March 2013 edition of the Indonesia Economic Quarterly (IEQ) has been given a rather bleak title; ‘Pressures Mounting’.

Full-year GDP growth for 2012 was 6.2 percent, which was down slightly from 6.5 percent in 2011. The Bank projects a 6.2 percent growth in 2013 but warns that shfting growth significantly higher will be challenging and highlighted five sources of the “mounting pressure”; the cooling in investment growth, the possible implications of moderating measured real sales and nominal GDP growth, trends in the external balances, the continuing burden of energy subsidies, and the slowing pace of poverty reduction.

Drops in key commodity prices and the weak external environment led  Indonesia’s current account to slip into a deficit of 2.7 percent of GDP in 2012, from a small surplus of 0.2 percent of GDP in 2011.

According to the Bank, fuel subsidies, which reached 2.6 percent of GDP in 2012, may have added to the pressure on the external trade accounts, and weighed substantially on the fiscal sector.

But the biggest risk to near-term growth may come from domestic investment, which drove two-fifths of the growth in 2012.  Investment spending has slowed, particularly in capital-intensive resource sectors.  Fixed investment growth declined to 7.3 percent year-on-year in the fourth quarter of 2012, down from 12.5 percent in the second, and imports of capital goods have weakened.

Suggestions of appropriate policy responses to these mounting pressures included increasing public infrastructure investment and focusing on trade competitiveness, as well as the political hot-potato fuel subsidy reform.

Investment is also crucially needed in inadequate and ageing infrastructure which continues to constrain growth, causing bottlenecks and high logistics costs.  Infrastructure investment remains at around 3 to 4 percent of GDP, compared with pre-Asian crisis levels of around 7 percent.

The Bank concluded that despite the domestic and international risks, Indonesia’s economic foundations were solid. The future of Indonesia’s growth and development is dependent on the Government’s continued progress in redirecting and improving the quality of its spending. Effective spending on infrastructure and education, along with measures to improve the business climate, could potentially boost Indonesia’s growth rate up to 7 percent or higher.

“Economic resilience has been Indonesia’s strength despite a weaker global economy,” says Stefan Koeberle, World Bank Country Director for Indonesia. “With the right policies in place, Indonesia could move growth higher, harnessing the forces of urbanization and rising incomes, while providing quality jobs for a growing labour force.”