After Years of Inefficiency, Indonesia Emerges as an Economic Model

By AUBREY BELFORD, NY TIMES 05 AUGUST 2010

JAKARTA — After years of being known for inefficiency, corruption and instability, Indonesia is emerging from the global financial crisis with a surprising new reputation — economic golden child.

The country’s economy, the largest in Southeast Asia, grew at an annual rate of 6.2 percent in the second quarter of this year, data released Thursday showed. That is an acceleration from 2009, when gross domestic product expanded 4.5 percent.

The stock market hit a record high last week and has been among the best-performing equities markets in Asia this year, rising more than 20 percent since Jan. 1. The country’s currency, the rupiah, has appreciated nearly 5 percent this year against the dollar, among the strongest showings in Asia besides that of the yen.

Foreign direct investment, which was held in check for years after the 1997 economic crisis in Asia, is also returning. The country had 33.3 trillion rupiah, or $3.7 billion, in foreign direct investment in the second quarter of this year, a 51 percent rise from a year earlier, the Investment Coordinating Board in Indonesia said last week. The country is on track to attract more foreign investment this year than it did in 2008, when it lured in $14.87 billion.


Such statistics have some here cautiously saying that the country, a Muslim-majority democracy and one of the world’s most populous countries, could soon merit the kind of attention that investors now lavish on China and India.

“Indonesia is one of the most interesting, most attractive destinations in the world,” said Lanang Trihardian, an analyst at Syailendra Capital, a fund management firm based in Jakarta. “Foreign investors have been flowing to Indonesia from maybe around mid-2009. We are seeing a lot of liquidity coming into Indonesia, and it is mostly going to capital markets, to bonds, to stocks.”

Undoubtedly, significant obstacles to sustained growth remain. Despite progress on corruption, investors complain of confusing regulations and labor laws that make it difficult to dismiss employees. Little infrastructure has been built since the Asian economic crisis in 1997, and rolling blackouts have plagued the country for years.
While the education system has been successful in fulfilling basic requirements like literacy, the universities and colleges in the country are widely considered archaic.
But more than a decade after the chaotic overthrow of the Suharto dictatorship in 1998 — and subsequent fears of disintegration at the hands of separatist groups, as well as the threat of Islamic militancy — the country seems to have stabilized. It is rich in natural resources like palm oil, copper and timber, commodities that are in great demand in China.

The administration of President Susilo Bambang Yudhoyono has won plaudits for reducing debt and has achieved some success fighting graft. Mr. Yudhoyono was resoundingly re-elected to a second five-year term in 2009, and changes aimed at introducing more democracy have seen power devolved to local governments, where elections have been largely peaceful, orderly affairs.

In one sense, Indonesia appears more attractive these days because much of the rest of the global marketplace looks so gloomy. Its low debt, high growth and a sense of optimism compare favorably with a mood of despondency in developed markets like the United States, Japan and Europe.

The huge consumer market in the country, accounting for more than two-thirds of G.D.P., has largely been credited for maintaining growth. Although the global economic crisis crimped confidence, Indonesia’s relatively young population of 240 million and government stimulus policies, as well as a popular program of direct cash transfers to the poor, have kept consumption humming.

In Jakarta, worsening traffic and a proliferation of megamalls are seen as signs of the growing strength of the middle class. At the center of the capital, the huge Grand Indonesia mall opened in 2007 and expanded during the global downturn, adding theme areas with mockups of New York, Japan, the Arabian Peninsula and Paris, complete with a miniature, spinning Moulin Rouge windmill.

“We’re selling international brands here so Indonesians don’t have to shop abroad for them,” said Teges Prita Soraya, a spokeswoman for the mall, adding that trade, largely in imported luxury brands, had surged ahead despite the global crisis.

The mall is home to the country’s first branch of Harvey Nichols, the upscale British department store, and has boutiques for luxury brands like Chanel, Armani and Dolce & Gabbana — which already have branches in other malls across the city.

Yet there is criticism that economic growth has had less effect than it should have for the majority. About 15 percent of the population lives below the country’s official poverty line of around $1 a day, but advocates for the poor say the percentage would be larger if Indonesia set the bar a little higher, say, at $1.25. Relatively sluggish growth in labor-intensive industries has meant slow progress in curbing unemployment, which is over 7 percent.

The government believes that one solution to moving to a higher level of sustained growth is foreign investment, particularly in industries like manufacturing. The government’s investment coordinating board, known as BKPM, is hoping to attract $30 billion to $40 billion in annual foreign investment by 2015 — three to four times as much as it achieved last year, said Gita Wirjawan, head of the agency.

In an economy currently worth $650 billion a year and expected to grow to $1 trillion in five years, that is not terribly much. But it is “optically” very important for establishing Indonesia as a serious investment destination, he said.
“It’s not a slam-dunk, but it’s achievable,” he said.

Indonesia gets the largest share of its foreign investment from within the Association of Southeast Asian Nations, with non-Asean states like Japan and South Korea, as well as European countries, making up much of the rest.

Indonesia is working to change rules to make it easier to acquire land for infrastructure and is seeing interest in infrastructure investment, Mr. Wirjawan said.
The government recently eased investment rules in areas including health care, construction and electricity generation. At the same time, it is working to put the flow of “hot,” or speculative, money to better use, passing rules on government bonds requiring foreign investors to keep their money in the country for longer.

Such efforts seem to be paying off. The government announced this week that China’s sovereign fund, China Investment Corp., was hoping to invest $25 billion in infrastructure projects in Indonesia. Posco, the South Korean steel giant, signed a $6 billion deal on Wednesday to build a plant in Indonesia with the local producer Krakatau Steel.

While investment in manufacturing still lags behind other sectors, Mr. Wirjawan said that Indonesia, with its relatively low labor costs, was reaping the benefits of rising costs in regional competitors.

“We’re seeing an increasing relocation of factories by the Taiwanese, the Koreans and Japanese from Vietnam and China, given their rising labor costs and given the increased stability that people are seeing in Indonesia from an economic and political standpoint,” he said.

The Indonesian Footwear Association has said that major brands including Asics, Mizuno and New Balance have shifted part of their production to Indonesia this year because of rising costs elsewhere. Indonesia’s footwear industry employs 640,000 people and exported $1.8 billion worth of goods in 2009, said the association’s chairman, Eddy Widjanarko. Producers are hoping to increase that figure to $2 billion this year.

Katja Schreiber, a spokeswoman for Adidas — which has also been aggressively expanding production in Indonesia — said the country, its third-biggest supplier, offered “abundant labor availability, good quality, competitive prices and political stability.” Although production here is growing rapidly, she said, it is not happening at the expense of its top suppliers, China and Vietnam.

The local stock market has reflected the perceived strengths of the economy. Shares related to commodities, Indonesia’s main export sector, have been strong earners. Banking stocks have risen along with the generally upbeat mood on consumption and the relatively good health of the sector, which, for the most part, weathered the credit crisis reasonably well. Major consumer shares like Unilever Indonesia and the car distributor Astra International have been consistent leaders on the local index.

All this exuberance has raised some fears that inflation could become a big problem. The country’s central bank, Bank Indonesia, decided to hold its benchmark interest rate at 6.5 percent this week, despite a jump in annual inflation to 6.22 percent in July.
Regardless, many feel that Indonesia’s time has come again.

“In Asia there is a feeling that after you invest in China and after you invest in India, where are you going to invest? said Fauzi Ichsan, senior economist for Standard Chartered in Indonesia. “It’ll have to be Indonesia. It’s a natural destination.”