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Reform or stagnate, Indonesia warned

Publication Date : 14-12-2013

 

International stakeholders have warned Indonesia the market will “punish” the nation if it fails to implement the medium- and long-term reforms needed to prevent economic stagnation.

 “It’s about the idea of pursuing policies to maintain high productivity — markets will love you [Indonesia] if you have those types of policies clearly dedicated to pursuing growth in the medium term,” David Fernandez, the managing director of Barclays Bank in Singapore, said at an international seminar in Nusa Dua, Bali on Friday.

“Markets loved you [Indonesia] for growth, but they could also punish you if they sense there’s going to be instability,” he warned.

Fernandez suggested government officials continue prioritizing long-term economic policies so that Indonesia could avoid falling into the middle-income trap.

The strategy should be taken despite the fact that uncertainties in the external environment, which stem from the possible tapering of US quantitative easing, would encourage the implementation of short-term policies and might make it more difficult for countries trying to pursue long-term goals, he said.

The warnings came after Indonesia, following years of robust economic growth, saw a slowdown in its economy recently, with gross domestic product (GDP) growth decelerating to only 5.6 per cent in the third quarter, the slowest pace in nearly four years.

The situation caused concern that Indonesia, once a darling of foreign investors, might fall into the middle income trap — the situation where a former high-growth emerging nation is “trapped” in mediocre economic expansion and decreased competitiveness.

This is seen as a paradox because analysts have long touted Indonesia as the “next big thing” in the global economic landscape. Indonesia’s potential is reportedly so great that if it can maintain its existing growth rate, then the archipelago will overtake Germany and the UK to become the world’s seventh largest economy by 2030, at least according to McKinsey & Company.

The global consulting firm suggested last year that the country had to boost its labor productivity by 60 per cent if the economy was to grow by its potential of around 7 per cent annually.

However, Bank Indonesia (BI) has recently warned that the country does not have the capacity, either in terms of infrastructure or the capabilities of local industry, to grow by more than 6 per cent. This year, the central bank has hiked interest rates by 175 basis points due to signs of overheating in the economy.

 “Monetary policies only address a very short-term problem on the demand side, but they are unable to address structural issues in the real economy,” Dody Budi Waluyo, BI’s executive director for monetary policy, said here on Thursday.

Economists have said that Indonesia has been punching below its weight because it had been lulled by the commodity-boom cycle occurring in the mid 2000s, with the country relying heavily on resources-based industry while overlooking the development of a value-added manufacturing sector.

Indonesia’s undersized manufacturing sector and its overreliance on natural resources have made the country vulnerable to external shocks, as its position depends on factors such as commodity-price fluctuations, warned World Bank lead economist for Indonesia, Ndiamé Diop.

“It is also very easy for the [Indonesian] economy to get into an ‘excess demand’ situation, because the supply side has not been very responsive, putting pressure on its external finances,” Diop said.

Benedict Bingham, a senior resident representative in Indonesia for the International Monetary Fund (IMF), said that the key for Indonesia to escape the middle-income trap was to boost its human resources capacity, so that it could meet the growing demand for skilled workers required for high and sustainable economic growth.

 

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