Over the past decade, Indonesia has shown strong economic performance and resilience. Real GDP has expanded by an average 5.8% p.a. and per capita incomes have more than doubled over the past 10 years to reach US$3,400 in 2015. However, despite solid economic growth, Indonesia’s per capita income and business climate lag regional peers.
GDP growth was 4.8% in 2015 — making Indonesia one of the best performing emerging economies. The IMF expects GDP growth of 4.9% this year — meaning it will remain in the top quartile of emerging markets. This outperformance is driven by stronger spending on public investment in transport and energy.
Recent policy initiatives to lift foreign investment and reduce bureaucratic red tape add further upside to the outlook. Indonesia received US$10b in FDI in Q1 2016—17% y/y increase in local currency terms. Falling oil prices and the stable exchange rate have kept inflation pressures at bay, with the headline print expected to remain within the central bank’s 3%-5% target.
But a rise in financial market volatility, weaker Chinese growth causing a further downturn in global commodity prices and a resumption of investor risk aversion could stymie investment, confidence and growth.
The medium term outlook is positive. Favourable demographics and an expanding middle class bode well for Indonesia. But much rests on the Jokowi administration’s ability to execute its reform agenda over the medium term. The infrastructure gap is of particular concern, with logistic expenses equivalent to 24% of GDP, compared to 13% in Malaysia.
Per capita income has risen from around US$850 to US$3,400 over the past two decades. But Indonesia is still well below the regional average — current per capita income ranks it only 119th in the world.
Indonesia is rated BB+ by Standard & Poor’s — considered the highest speculative grade. But it is considered investment grade by other credit rating agencies and has an OECD country credit grade of 3. This suggests a relatively low likelihood that it will be unable or unwilling to meet its external debt obligations in a systemic sense (though, needless to say, individual debtors can and do default).
The World Bank’s ease of doing business gauge — which measures regulation and red tape relevant to a domestic small to mid-sized firm — ranks the Indonesian business climate 109th out of 189 economies, an improvement from the 120th ranking in 2013. Starting a business, registering property, paying taxes and enforcing contracts are particularly difficult relative to the regional average.
The World Bank ranks Indonesia in the second bottom quartile for all but one dimension of governance. Indonesia lags behind the regional average for control of corruption, ‘political stability and absence of violence’, but is ranked relatively highly on ‘voice and accountability’.
The Indonesian consuming class —individuals with net income of more than US$3,600 per annum in purchasing power parity, at 2005 exchange rates—now numbers around 45 million and is forecast to increase to 135 million by 2030. Australia is expected to benefit from rising Indonesian consumer demand for education, finance, healthcare, ICT and tourism in particular.
Indonesia is Australia’s 12th largest trading partner. In 2014-2015, Australia's goods exports to Indonesia totalled A$5.6b (2% of total goods exports). Major exports included wheat (A$1.4b), live animals (A$600m) and sugars, molasses and honey (A$374m).
Australia also exported A$1.3b of services to Indonesia in 2014-2015 — of which A$585m was education exports. Indonesia is Australia’s tenth largest source of international students — with 19,300 enrolments in 2015 (2.5% of total).
Indonesia is also an important source of tourists, with over 152,000 arrivals in 2015— 2% of total. This is a 3% increase relative to 2014.
Indonesia is a marginal investor in Australia, owning a portfolio of just $1.4b in 2015. Australia’s largest investors remain traditional markets — the US with $758b, and the UK with $484b. But regional flows are expanding quickly — ASEAN contributed 4% of inward foreign investment flows in 2015.
The stock of Australia’s investment in Indonesia is modest at A$8.4b (0.4% of the total in 2015). While the US (A$594) and UK (A$353b) remain the leading destinations for Australia’s foreign investment, investment stocks in ASEAN countries increased by 18% over the year to 2015.