Singapore, October 9, 2018 – Indonesia’s economic fundamentals remain robust with growth projected to continue picking up in 2018, according to the 2018 Annual Consultation Report on Indonesia published by the ASEAN+3 Macroeconomic Research Office (AMRO) today. The report was prepared based on AMRO’s Annual Consultation Visit to Indonesia in May-June 2018 and data available up to August 15, 2018.

Real GDP growth is projected to pick up to 5.2 percent in 2018 with continued support from infrastructure investment and strengthened consumption. Inflation is expected to remain within the target band of 3.5±1 percent, as the impact of rising global oil prices would be mitigated by the authorities’ measures to control inflation.

The external position came under pressure in H1 2018 amid capital outflows that reflected investors’ risk aversion towards emerging markets. To reduce excessive volatility in the rupiah exchange rate, Bank Indonesia (BI) had intervened in the markets, resulting in a decline of official foreign reserves, which remained adequate at USD118.3 billion at end-July 2018. BI also raised its policy rates four times during May and August 2018 by a total of 125 basis points. Financial markets have responded positively to these “pre-emptive, ahead of the curve, and front-loading” policy actions, as foreign investors have returned to Indonesian markets from July 2018. To offset the negative impact of those rate hikes on domestic credit and growth, BI has eased macroprudential policies to support the housing market.

The current account deficit have widened in recent quarters on higher oil prices and stronger imports of raw materials and capital goods related to increased economic activity. To contain rising oil imports, the government has strengthened and broadened the implementation of the 20-percent biodiesel mix (B20) policy. Other measures to keep the current account deficit within the threshold of 3 percent of GDP, including the review of imports related to the infrastructure projects of State-Owned-Enterprises (SOEs), are also under consideration.

Budget realization in the first six months of 2018 suggests that revenue has strengthened and fiscal deficit has narrowed. Fiscal policies have focused on maintaining stability, aiming to enhance growth prospects and build up cushions against shocks. The commendable Macro-Fiscal Framework for 2019 and Medium-Term Fiscal Objectives for 2020-2022 that seeks to strengthen the fiscal position with revenue-enhancing measures and continued prioritization of expenditure towards infrastructure investment, has been submitted to the Parliament for approval.

Downside risks have risen, stemming mainly from the external environment. Notably, capital flow volatility have increased as global financial conditions have tightened amid heightened uncertainty over global trade policies, triggering risk aversion among investors toward emerging markets, including Indonesia. On the fiscal front, while the state-owned oil company Pertamina has thus far borne the burden of stabilizing subsidized fuel prices, the cost would eventually be shouldered by the budget, especially if oil prices continued to rise. A relatively low tax revenue to GDP ratio, meanwhile, remains the key challenge to Indonesia’s fiscal position in the medium to long-term.

Pro-active recalibration of the policy mix in response to changing external environment is essential to maintain stability while supporting growth. AMRO welcomes the authorities’ priority toward stability and their readiness to consider further pre-emptive measures, should risks to stability continue to mount. On fiscal reform, the focus on revenue-enhancement measures, such as broadening the tax base, reducing exemptions, and improving tax compliance, should continue. AMRO encourages the authorities to continue consolidating current spending to make room for capital spending and other growth-enhancing expenditure, especially at local government levels. Energy subsidy reforms should be continued so that more fiscal resources can be channeled to needed infrastructure projects, while targeted assistance could be provided to vulnerable groups during the transition period. Ongoing efforts to develop and deepen the domestic financial markets and broaden the domestic investor base, as well as to strengthen financial literacy and inclusion, are commendable. A series of economic policy packages to improve the investment climate and enhance competitiveness have contributed to Indonesia’s recent improvements in the Ease of Doing Business ranking and sovereign rating upgrades, first by S&P in May 2017 and followed by Fitch Rating in December 2017 and Moody’s in April 2018. Further efforts to diversify the economy and export structure, including by shifting global value chains participation towards increasing exports and employment, are recommended.

About AMRO and AMRO Annual Consultation Report:

The ASEAN+3 Macroeconomic Research Office (AMRO) is an international organization established to contribute to securing the economic and financial stability of the ASEAN+3 region, which include 10 ASEAN countries and China (including Hong Kong), Japan, and Korea. AMRO fulfils its mandate by conducting macroeconomic surveillance, supporting the implementation of the regional financial arrangements, the Chiang Mai Initiative Multilateralisation (CMIM), and providing technical assistance to the members.

The Annual Consultation Report was prepared in accordance with AMRO’s macroeconomic surveillance function. AMRO is committed to monitoring, analyzing and reporting to its members on their macroeconomic status and financial soundness. It also helps identify relevant risks and vulnerabilities, and assists members, if requested, in the timely formulation of policy recommendations to mitigate such risks.