John A. Prasetio, Jakarta
Growth in Indonesia and most Asian countries last year was surprisingly robust. The impact of high oil prices and the U.S. subprime mortgage crisis has so far been limited. However, with the U.S. economy experiencing significant strains, some commentators have begun to voice concerns regarding the outlook for the global economy this year.
All the same, a number of leading financial institutions have forecast that the momentum of growth will continue for Indonesia and developing Asia in 2008. In the same fashion, at a recent public forum a number of prominent young Indonesian entrepreneurs expressed continuing optimism for their business prospects this year.
A few years ago, it became almost a cliche to suggest the old source of wealth creation had gone and the new basis for wealth was “knowledge” and “total factor productivity”.
Suddenly, “the old economy” was back and resource-related businesses reemerged as a key generator of large fortunes.
While it is probably reckless to assume the global boom in commodities will continue forever, during the last two years the explosion in commodity prices has created quite a number of new billionaires in Indonesia and has also contributed to our growth performance.
The future matters. However, no one knows what the future holds. Last June, Chuck Prince, the then CEO of Citigroup, was unmistakably bullish on the U.S. financial market. He said, “the music is still on. We must continue the dance”.
A few weeks later, financial tremors began to be felt across markets and borders and large subprime mortgage losses incurred by major financial institutions dominated the headlines of Wall Street and business journals all over the world.
There are obviously hundreds of conflicting opinions about the direction Indonesia’s economy will take this year. Different commentators are coming up with different readings on whether or not there will be capital market disruptions or if the bubble in asset and commodity prices will begin to burst.
Commentators also have mixed views on how the political scene will look this year, with political parties preparing to compete in the 2009 elections.
Indonesia is blessed with an abundance of natural resources. Other countries in the region are not as fortunate and have to rely on intellectual resources as well as on investment policies to attract foreign capital and achieve economic progress.
Indeed, there is a strong case for Indonesia achieving growth in the 8-9 percent range in the near future if its shortcomings in the areas of regulatory framework, rule of law, government effectiveness and human capital can be systematically addressed.
The current messy handling of illegal logging issues in Riau islands is just one example of the bewildering regulations, chaotic inter-departmental coordination and unclear licensing procedures evident in the country. It also demonstrates how a commendable government initiative ended up in an unintended dire situation.
According to the 2007 Global Competitiveness Reports from the Institute of Management Development and the World Economic Forum, Indonesia continued to rank badly among other Asian countries in the areas of policy instability, government efficiency, inadequate supply of infrastructure, tax regulations and rigid labor markets.
As we are approaching the 2009 presidential elections, it is probably unrealistic to expect members of the government to take bold steps to radically correct weaknesses in our competitive structure.
Notwithstanding the impediments to doing business in Indonesia, the December 2007 A.T. Kearney Survey of Transnational Corporate Executivese placed Indonesia among the top 25 most attractive destinations for foreign direct investment.
In a recent discussion, organized by an international consulting firm, it appeared Indonesian entrepreneurs were essentially divided in their outlook for the 2008 economy.
More than half of the participants at the event said even if doing business in Indonesia continued to be challenging, they remained confident about economic conditions for 2008 due to increasing growth in commodity exports and the government’s plan to boost spending, particularly on badly needed infrastructure.
Many participants also said they expected private sector credit, which has been picking up over the past few months, to continue growing. They also agreed the implementation of the new tax administration law would help create a stronger business environment in 2008.
Obviously there were reservations. Other participants were concerned about increasing inflationary pressure from high food and energy prices and a possible electricity crisis or other infrastructure bottlenecks.
While reductions in interest rates since May 2006 have energized private consumption and pushed investment growth, it was predicted that this year Bank Indonesia will only have limited room to further ease its money policies.
Participants also expressed concern that declining oil lifting coupled with a worsening fiscal position might force the government to increase fuel and electricity prices, which could lead to tighter monetary policies.
On the other hand, the government’s failure to provide an appropriate response to sustaining high fuel prices could bring back a crisis of confidence similar to that of August 2005 when the rupiah exchange rate crossed its psychological threshold of Rp 10,000 to the U.S. dollar and rapidly rose to almost Rp 12,000.
In short, this group of participants agreed that strong growth momentum was not on the country’s side and the already depressed performance of the labor-intensive manufacturing sector would most likely get worse.
By the same token, they expected many infrastructure projects not to be implemented on schedule because of the weak capacity of the central and local governments to execute projects. As a consequence, they said hiring expectations in the corporate sector, at best, would just remain cautious for 2008.
The disparity of perspectives is also stark on the risk of a global capital crunch and on the extent to which our economy has decoupled from a possible U.S. recession. The majority of the participants sketched a scenario in which losses from subprime-linked assets in the U.S. were manageable and there would be a gradual recovery in U.S. consumer spending in 2008.
On the other side of the Pacific, China continues to grow strongly, and helps to support exports from Indonesia and other Asian countries. Under this scenario, commodity prices will remain robust and Indonesia will enjoy strong export earnings which will promote stronger investors’ confidence and put us on track for solid growth.
This group of entrepreneurs also saw the possibility that a growing number of international portfolio investors would be “quitting America” as a way to diversify risk, thus emerging markets such as our stock exchange could get the windfall by posing as an alternative “shopping opportunity” for these investors.
Another group of entrepreneurs painted a nightmare scenario in which the U.S. subprime mess would deepen and the tightening lending conditions of banks would drive the U.S. economy into a sharp downturn, followed by a sharp drop in global demand for Asia exports. As a result, commodity prices would tumble and our growth performance would be under significant stress.
This group also claimed that global financial market turmoil would spark international institutional investors to reprice and sell their risky portfolio assets in emerging markets, exerting downward pressure on our stock exchange.
While the pessimists may have actually presented persuasive arguments, it appeared during the dialogue in early December more entrepreneurs and business executives attached higher probability on positive scenarios and expected growth of more than 6.3 percent to sustain in 2008.
Nevertheless, with so many barriers to revitalizing our economic competitiveness and the reality that we remain substantially dependent on commodity exports, in the next few years Indonesia will most likely remain vulnerable to a global contagion and reversal of investors’ sentiment.
The writer is the chairman of CBA Asia, consulting company.
