Winding Path

Indonesia

Economic News

22 Jul 2010
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The recent earthquake that rattled Yogyakarta is unlikely to have a significant impact on the improving economic climate in Indonesia, IMF experts declared this week.



The May 27 tremblor, which measured 6.2 on the Richter scale, was the second natural disaster to strike the country recently, after the Tsunami in December 2004.



The number of victims quickly rose to relatively high levels, partly due to poor and often fragile housing construction methods, but also because the affected area was one of the most densely populated rural areas in the world.



Material damage includes 150,000 houses that will need to be fully rebuilt and many infrastructure facilities, social properties, and productive assets that need to be rehabilitated. Also important is the fact that many cultural sites in the area have been severely damaged, such as the ancient Hindu temple of Prambanan and the Buddhist Plaosan temple. Together with the world-famous Borobudur temple, northwest of Yogyakarta, these are the main tourist attractions in the area.



Many tourists were already avoiding the region because of a still imminent, possible eruption of Indonesia's most active volcano, Merapi.



This, combined with memories of the two deadly terrorist attacks on the popular island of Bali, along [OBG1]with the earthquake in another busy tourist area, means that Indonesia's image as a popular holiday destination has been seriously tarnished.



Yet during last week's annual meeting between the government and its major creditors, united in the Consultative Group on Indonesia (CGI), the impact of the earthquake was assessed as more limited.



"The direct economic impact of the earthquake on the national economy is not expected to be significant, given that Yogyakarta accounts for just over 1% of Indonesia's GDP," the senior resident representative of the IMF in Indonesia, Stephen Schwartz, explained in a statement before the meeting began on June 14.



In a technical assessment of the impact of the quake, presented during the meeting, total damage was estimated at around $3.1bn.



Several international agencies, including the World Bank, the Asian Development Bank and the IMF, have pledged up to $1.5bn in grants, mainly to be used for rehabilitation and reconstruction in the earthquake area.



These pledges came in addition to loan pledges adding up to $3.9bn, of which $3.7bn is intended to help finance the 2006 state budget, while the remaining $200m will be used for technical assistance supporting the reform agenda of the government.



Last week, the Asian Development Bank (ADB) announced that, in addition to their loan pledge of $800-900m as part of the CGI package, they have already pledged $1.0-1.1bn for 2007, indicating increased confidence in Indonesia's economy.



"This proposed scale of assistance is a vote of confidence in Indonesia's macroeconomic performance and the government's commitment to policy reforms," Edgar Cua, ADB's Country Director in Indonesia, said. "Our support will focus on infrastructure and social sectors, with the aim of increasing public and private investment in development."



Historically high global oil prices forced the government in 2005 to drastically reduce fuel subsidies in order to ease budgetary pressures. This sparked sharp inflationary forces, which moved the Central Bank to substantially increase its key interest rate, currently at 12.5%, down from 12.75% earlier this year.



This prudent fiscal and monetary course, combined with the political stability that came with the first ever directly elected president, Susilo Bambang Yudhoyono, has curbed inflation. Financial markets rallied to pre-crisis levels in the first five months of this year.



According to Stewart D. Hall, President Director of Permata Bank, Indonesia is now in dire need of Foreign Direct Investment in order to achieve sustainable higher economic growth.



"In the short-term there are some concerns," he told OBG on June 15. "There has been quite a significant slow down in the economy, more than people realise. In the last five years, the main instigator of the economy has been the consumer, who is now being squeezed of purchasing power. The challenge is restoring purchasing power and job creation. Until we get some real new investment, new manufacturing investment, infrastructure investment, generating economic activities, creating jobs, I think the economy is in for a bit of a rough time."



Even though the Indonesian market remains vulnerable, as can be seen in the recent volatility in the financial markets with both the Rupiah and the stock market down, overall confidence prevails that this is due to external factors and that the economic fundamentals are on the right track.



President Director of the Jakarta Stock Exchange (JSX) Erry Firmansyah explained to OBG recently that "The problem here is the global shift from emerging markets because of worries about US inflation. Investors are waiting, are watching. They pull out from emerging markets and they wait for stabilisation before coming back again. This affects all markets, not only emerging markets."



Yet President Director Lin Che Wei of Danareksa Securities sees reason for optimism. "There is a lot of informal activity not recorded in the statistics," he says. "We can derive this from the relative increase in electricity flows as a proxy of real economic activity. However, there remain issues that the government still needs to resolve, such as labour, tax structure and competitiveness. But I am quite optimistic because I expect the president will use his political capital to resolve these issues."



With positive sentiment also prevailing among multilateral donor organisations such as the World Bank, it seems that President Susilo Bambang Yudhoyono has a windfall on the shaky road to recovery.

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