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SINGAPORE, APRIL 2, 2024 – Indonesia’s economy continued to perform robustly, led by resilient domestic consumption and strengthening investment. The authorities are encouraged to strengthen policy synergy to maintain macro-financial stability and sustain the recovery momentum amid ongoing global headwinds.

These conclusions are highlighted in the 2023 Annual Consultation Report on Indonesia published by the ASEAN+3 Macroeconomic Research Office (AMRO) today. The report was based on AMRO’s Annual Consultation Visit to Indonesia from November 20 to December 1, 2023, and data and information available up to February 15, 2024.

Recent developments and outlook

The Indonesian economy expanded by 5.0 percent in 2023 and is projected to strengthen to 5.2 percent in 2024. Robust domestic demand is backed by solid consumer confidence, a boost from election-related spending, and ongoing development of national strategic projects, including the new capital city. In addition, a gradual recovery in external demand is expected to support growth.

The central bank’s consistent policy mix response and its close policy coordination with the government contained the headline inflation to within the 3.0±1 percent target in 2023. In addition to energy subsidies, the government increased rice imports and strengthened inter-regional supply and distribution of necessity goods, especially food, to offset the impact of the El Niño weather. The continued implementation of both supply and demand-side measures is expected to keep inflation within a lower target of 2.5±1 percent in 2024.

Trade surpluses, a tourism rebound, and sustained foreign investment inflows have supported the external position. In addition, non-resident portfolio inflows resumed in most parts of 2023, except for a brief period of August-October. Gross international reserves increased to USD146.4 billion as at December 2023. This is sufficient to cover about 6.7 months of imports and 209 percent of short-term external debt.

Policy response to the pandemic

Bank Indonesia has been continuously strengthening its policy mix by increasing the policy rate, managing exchange rate volatility, and enhancing financial deepening, to anchor inflationary expectations and support the rupiah stability. As the banking sector remains sound, an accommodative macroprudential policy stance has been maintained through a further reduction in the reserve requirement ratio among banks that lend to priority sectors and to micro, small and medium-sized enterprises. Efforts to enhance the efficiency of payment systems and promote local currency transactions have been stepped up.

Better-than-budgeted revenue collection has allowed the government to increase spending while keeping the fiscal deficit below the fiscal rule ceiling of 3 percent of GDP in 2023. The early adoption of a comprehensive tax reform package in the Harmonized Tax Law in 2021 contributed to a faster-than-expected fiscal consolidation in the past two years. The government is likely to pursue a neutral fiscal stance in 2024.

Risks and vulnerabilities

With domestic demand underpinning solid economic growth, Indonesia’s near-term outlook could be affected by ongoing external headwinds. A sharp slowdown in major trading partners, especially China, could weigh on the recovery of Indonesia’s exports. The risk of global food and energy price spikes remains significant on the back of El Niño weather and geopolitical tensions.

While the risk backdrop has improved with the Federal Reserve’s signalling the end of its interest rate hikes, emerging markets, including Indonesia, may continue to experience capital flow volatility if the tight U.S. monetary policy is prolonged. Similar to regional peers, Indonesian financial markets might be adversely impacted by spillovers from the U.S. presidential election campaign.

Indonesia faces structural challenges in its efforts to enhance economic resiliency and ensure a smooth transition to a green economy.

Policy recommendations

AMRO staff supports the central bank’s current policy mix considering ongoing global uncertainties. As the risk of renewed spikes in global food and fuel prices, as well as capital flow volatility in EMs, persists, the maintenance of the current tight monetary policy stance might be warranted for the time being. In a downside scenario where the global economy slows sharply, the authorities are encouraged to closely monitor risks to macro-financial stability, while being ready to provide any targeted support to shore up economic recovery.

The fiscal space could be further built up with revenue-enhancing measures to meet higher spending needs while upholding fiscal discipline. At the same time, efforts to rationalize budget spending and prioritize expenditures that are growth-enhancing should be expedited. Regarding debt management, policy efforts to deepen the government bond market and broaden the investor base are crucial to enhancing access to financing and lowering borrowing costs.

Economic and trade diversification policies should be supported by continued efforts to improve the investment climate and enhance the ease of doing business. A streamlined project implementation process will channel more private funds into infrastructure development. The authorities should continue to address the financial stress of state owned enterprises in the infrastructure and construction sector, in order to support and sustain their contribution to infrastructure development and mitigate potential impacts on banks’ asset quality.

Recent efforts to support a smooth transition to a green economy and narrow the financing gap to net zero emissions include the launch of a carbon trading platform and a taxonomy on sustainable finance. A roadmap to adopt the carbon tax with a cap-and-tax emission trading scheme should be coordinated with energy subsidy reforms.

About AMRO

The ASEAN+3 Macroeconomic Research Office (AMRO) is an international organization established to contribute toward securing macroeconomic and financial resilience and stability of the ASEAN+3 region, comprising 10 members of the Association of Southeast Asian Nations (ASEAN) and China; Hong Kong, China; Japan; and Korea. AMRO’s mandate is to conduct macroeconomic surveillance, support regional financial arrangements, and provide technical assistance to the members. In addition, AMRO also serves as a regional knowledge hub and provides support to ASEAN+3 financial cooperation.

About AMRO’s Annual Consultation Report

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