Macroeconomic growth gained momentum in 2017 on the back of improved global commodities prices, increased foreign direct investment (FDI) and robust domestic consumption. Although the country has not yet returned to the near-6% average annual GDP growth recorded in the five years leading up to 2012, its macroeconomic fundamentals remain robust, with an improved current account balance and a sweeping tax amnesty programme supporting a recent sovereign credit rating upgrade. New sovereign and corporate bond issuances will help fund Indonesia’s substantial infrastructure agenda over the medium term, providing a critical finance channel for infrastructure development stakeholders.

However, the government’s stance on business promotion and foreign investment remains unclear. While the administration of President Joko Widodo released 16 deregulation packages to attract investment and improve the ease of doing business over 2015-17, it has also implemented several protectionist policies, promoting domestic value-added processing at the short-term expense of commodity exporters and international mining companies.

The country runs the risk of missing out on investment in the wake of these policies. Meanwhile, external headwinds, including trade conflicts with the US, weaker-than-anticipated Chinese demand, and global geopolitical and economic uncertainty, also pose challenges. However, steady employment, wage growth and a growing middle class should keep domestic consumption on an upward trajectory, while debt-financed transport and energy construction projects will continue to move forward. This should significantly reduce the infrastructure deficit, improve the business climate and support strong, stable macroeconomic growth in 2018.

AT A GLANCE: The largest country in South-east Asia by area, population and economy, Indonesia has undergone two decades of rapid growth since the 1997-98 Asian financial crisis, and is projected to surpass several G7 economies in terms of GDP per capita in the coming decades.

The country has recorded consistent, robust macroeconomic expansion for 17 years, with the World Bank reporting that annual GDP growth has remained above 4% since 2001, averaging 5.9% annually over 2007-12, compared to the global average of 2.4% over the same period. While this has dipped slightly in recent years, it remains considerably higher than global averages, at an estimated 5.02% in 2016. GDP per capita more than quadrupled between 2001 and 2012, rising from $900 to $3701, and the poverty rate fell from 24% in 1999 to 10.9% in 2017. According to the Asian Development Bank (ADB), this is the fourth-lowest poverty rate in South-east Asia, after Malaysia (0.6%), Vietnam (7%) and Thailand (10.5%).

Indonesia’s economic strategy is guided by several development plans, most notably the five-year National Medium-Term Development Plan 2015-19 (RPJMN 2015-19), which was devised by the Widodo administration; the Master Plan for Acceleration and Expansion of Indonesia’s Economic Development (MP3EI), which runs until 2025; as well as the Nawa Cita national development agenda.

THE LONG GAME: Launched in 2011, MP3EI aims to transform Indonesia into a developed country by 2025, reaching per capita income of between $14,250 and $15,500, and attaining average real GDP growth between 6.4% and 7.5%. Divided into five-year iterations, and with the most recent phase running from 2015 to 2019, the RPJMN focuses on infrastructure development and enhanced social services, including education and health care.

Comprising nine pillars targeting diversified industrial development and social inclusion, Nawa Cita includes initiatives for economic liberalisation, infrastructure investment and job creation, with a particular emphasis on equitable economic growth.

Elected president in July 2014, Widodo has targeted 7% annual GDP growth under the RPJMN 2015-19, which has helped the country substantially improve its ranking on the World Bank’s “Doing Business 2018” report to 72nd of 190 countries, up from 91st the previous year.

Although Indonesia is unlikely to reach 7% annual GDP growth in the near future, many of the country’s long-term development targets are feasible. Indonesia is set to remain one of the world’s best-performing emerging markets over the next few decades, according to PwC’s “The World in 2050” report, published in February 2017. PwC forecasts global growth to 2050 will be driven by the emerging seven (E7) economies of Indonesia, Brazil, China, India, Mexico, Russia and Turkey, which are forecast to expand at an annual average of 3.5% over the next 34 years, compared to 1.6% for the advanced G7 nations: the US, Canada, France, Germany, Italy, Japan and the UK.

According to the report, Indonesia will become the world’s fourth-largest economy in purchasing power parity terms in 2050, up from eighth in 2016. GDP per capita in the country is forecast to rise from $3028 in 2016 to $5424 in 2030, reaching $10,502 in 2050, although PwC reports that the US economy, which is forecast to be the world’s third largest in 2050, will still be 325% larger than Indonesia’s.

RECENT GROWTH: A global commodities price collapse has weighed on economic growth in recent years, with Indonesia’s GDP growth moderating from 6.03% in 2012 to 5.56% in 2013, 5.02% in 2014, 4.88% in 2015 and 5.02% in 2016 according to World Bank data. Currency depreciation has also affected GDP per capita, which has tapered in recent years from a high of $3688 in 2012 to $3621 in 2013, $3492 in 2014 and $3336 in 2015, despite a reduction in the poverty ratio. GDP per capita did rebound in 2016, however, reaching $3570. The rupiah has depreciated notably against the dollar since 2011, when the exchange averaged below 10,000 to the dollar, before falling to nearly 15,000 in mid-2015, and hovering around 13,300-13,500 in 2017.

In its March 2017 report, “Indonesia Economic Quarterly: Staying the Course”, the World Bank reported that Indonesia’s outlook for 2017 and 2018 remains positive in the face of ongoing geopolitical and economic uncertainty, after an improvement in global commodity prices and rising private consumption saw growth accelerate in 2016.

Indonesia reportedly ended 2016 with 5.02% GDP growth, as the rupiah’s relative stability, low inflation, declining unemployment and increased real wages lifted both consumer confidence and private consumption. Government estimates put annual GDP growth at 5.02% in 2016.

The World Bank noted that this marked the first time in five years that annual GDP growth has outpaced the previous year’s outcome, reporting it “could be a sign that Indonesia’s growth cycle has finally bottomed out”. This accelerated despite a contraction in government expenditure, which slipped by 4% in the fourth quarter of 2016, the largest quarter-on-quarter decline since 2010. Real GDP growth was 4.9% year-on-year (y-o-y) in the fourth quarter of 2016, following on 5% in the third quarter, although the World Bank reported that investment and export growth both turned positive in the same period, following eight consecutive quarters of contraction.

2017 BUDGET: Government efforts to enhance fiscal credibility have had a positive impact on the economic outlook. Indonesia’s 2017 budget has undergone several revisions since it was unveiled in August 2016. Approved by the House of Representatives in October 2016, it projects that the budget deficit will stand at 2.41% of GDP in 2017, against 2.46% in 2016 and 2.58% in 2015, with Rp1750.3trn ($131.9bn) of revenues planned against Rp2080.5trn ($156.8bn) in expenditure. GDP growth is expected to hit 5.1% in 2017, while inflation should average 4%.

The 2016 budget originally forecast a budget deficit of 2.15% in 2016, based on an expected Rp1822trn ($137.3bn) of revenues and Rp2096trn ($158bn) of expenditure. GDP growth was also originally forecast at 5.3%, while inflation was expected to hit 4.7% over the same period. The 2017 budget garnered praise from analysts for including more realistic revenue targets – tax collection rates have consistently fallen below expectations since 2013 – in addition to keeping the deficit below the legal limit of 3% of GDP. Indonesia’s debt-to-GDP ratio was 28% at the end of 2016, down from 32.3% in 2007, and far lower than Japan, for example, which has a ratio of over 200%.

Sri Mulyani Indrawati, the newly appointed finance minister and former managing director of the World Bank, has been praised for adopting a more pragmatic approach to the recent budget. One of her first moves was to cut Rp133.8trn ($10.1bn) of spending from the 2016 budget to offset weaker-than-anticipated revenue collection. Total government revenues reached Rp1551.8trn ($117bn) in 2016, against Rp1859.5trn ($140.2bn) of spending.

INFRASTRUCTURE SPENDING PRIORITY: The 2017 budget will see increased spending on infrastructure, health and social assistance, as well as maintaining pledges to allocate 20% of total spending to education. In particular, infrastructure development is a priority for the government as it attempts to deliver a far-reaching agenda, including a series of port and airport upgrades, along with the construction of thousands of kilometres of new highways and rail lines, affordable housing units, power plants and several major urban transport systems (see Construction, Transport and Infrastructure chapters).

Infrastructure spending has risen significantly in recent years, and in the second edition of its “Indonesian Infrastructure” report, published in September 2016, PwC reported that total government expenditure on infrastructure rose by 51% between 2014 and 2015, from Rp139trn ($10.5bn) to Rp209trn ($15.8bn). This is slightly lower than an earlier targeted spending increase of 63%, with the firm reporting that infrastructure realisation rates also fell from 78% to 72% over the same period. Infrastructure spending grew substantially again to Rp317.1trn ($23.9bn) in the revised version of the 2016 state budget. “The government’s investment in infrastructure over the past three years has led to a clear improvement in the business climate, and this is being felt by the private sector,” Toto Bartholomeus, president director of Lippo Cikarang, an Indonesia-based real estate development firm, told OBG.

BRANCHING OUT: Infrastructure spending was originally forecast to hit Rp346.6trn ($26.1bn) in 2017, and was later revised upward to reach Rp387.4trn ($29.2bn), a 176% increase over 2014 levels. Although PwC has revised its estimates of infrastructure spending down from an anticipated peak of 7.7% of GDP in 2017, the firm forecasts that it will still exceed the historical average of 5.7% of GDP.

Extending infrastructure development beyond Jakarta is also a priority, with the World Bank reporting that as of 2017, sub-national governments have been required to allocate a minimum of 25% of general transfers to infrastructure development.

Capital injections into the country’s network of state-owned enterprises (SOEs) are also expected to boost decentralised infrastructure development in 2017. The government allocated Rp29trn ($2.2bn) and Rp36trn ($2.7bn) to SOE capital injections in 2015 and 2016, respectively, in addition to boosting transfers to sub-national governments and village funds by 8% in 2017. This was equivalent to the total amount allocated for line ministries, further highlighting the government’s commitment to fiscal decentralisation. However, SOE capital injections fell to Rp7.2trn ($542.7m) in the 2017 budget.

PRIVATE INVESTMENT OPPORTUNITIES: Social infrastructure development in rural areas will also support the Nawa Cita development agenda and RPJMN 2015-19, with PwC forecasting spending on hospitals, schools and health centres to increase by annual averages of more than 10% between 2015 and 2025, which by that time will account for 10% of total spending, up from 7% in 2014. The firm notes, however, that infrastructure spending as a percentage of GDP is expected to decline after 2019, accounting for 5.3% by 2025 as the Indonesian economy matures.

PwC reported that total FDI in key infrastructure-related sectors fell by 48% in 2016, although it rose by 148% y-o-y during the first half of 2017, while direct domestic investment in infrastructure expanded by 8% in 2016. Improved FDI flows will be critical for new builds, particularly in light of falling SOE allocations: planned infrastructure development will require an estimated $450bn between 2011 and 2025, of which $141bn will be sourced from private investment, according to MP3E1.

REVENUE AUGMENTATION: Indonesia is looking to finance its deficit by issuing Rp597trn ($45bn) of debt paper to global investors, including foreign currency-denominated bonds. The country’s sovereign debt prospects have improved considerably since global ratings agency Standard & Poor’s (S&P) boosted Indonesia’s sovereign rating to investment grade in May 2017 (see Trade & Investment chapter).

Although Bank Indonesia (BI), the central bank, reported Rp30trn ($2.3bn) of capital outflows from the country immediately following the election victory of US President Donald Trump in November 2016, BI’s Economic and Monetary Policy Department said in early December 2016 that year-to-date capital inflows to the country were Rp105trn ($7.9bn).

Nonetheless, the department reported that investors could become more hesitant to continue progress on major projects. This could be due to political uncertainty in the US, which would be likely to support an increased appetite for safe-haven assets.

At the same time, recent budgetary tightening saw cuts to SOE capital injections, pushing many to turn to international bond markets to finance infrastructure implementation, with infrastructure bond financing forecast to accelerate in 2017 and 2018 (see Infrastructure chapter).

TAX AMNESTY: The government is also increasingly seeking to improve its revenue realisation, as it moves to balance the budget. Authorities launched a bold tax amnesty programme in July 2016, offering onshore and offshore taxpayers a nine-month grace period to declare hidden assets under a reduced tax rate. The programme saw nearly Rp5000trn ($376.9bn) of assets declared, although just a fraction of this, Rp147trn ($11.1bn), had been repatriated as of March 2017. The Ministry of Finance is moving to improve transparency and communication between banks and the Directorate General of Taxation as the country seeks to implement an expansive tax reform programme targeting tax evaders who did not participate in the amnesty programme.

DOMESTIC CONSUMPTION: Indonesia’s primary economic driver of growth is domestic consumption, which accounted for roughly 55% of national spending in 2017, supported by the country’s 255.5m-strong population and the gradual emergence of a sizeable middle class. In 2013 the Boston Consulting Group reported that roughly 30% of the country’s population, or 74m people, were classified as “middle-class and affluent consumers”, with this demographic expected to rise by between 8m and 9m each year to account for 53% of the population – or 141m people – by 2020.

The firm reported that if these predictions prove accurate, then the number of middle-class and affluent consumers living on the island of Java will be greater than the entire population of Thailand, while Sumatra’s middle class will be larger than the populations of Malaysia and Singapore combined.

Middle-class consumption in Indonesia is forecast to reach $1.3trn in constant 2011 prices by 2020, according to a February 2017 report by the Brookings Institute, and to rise by 84.6% to hit $2.4trn in 2030.

CONSUMER GROWTH: Accelerated middle-class expansion has supported robust retail growth in recent years. In December 2016 Bank Mandiri forecast Indonesia’s consumer outlook to improve slightly in 2017, with consumer spending expected to rise by 5.1% in 2017, against 5% in 2016. The bank reported that consumer confidence increased gradually throughout 2016, while inflation is projected to remain stable at an estimated 4.2% in 2017, slightly higher than the 3.3% recorded in 2016.

Domestic consumption will be supported by an 8.25% hike in the provincial minimum wage in 2017. Although this is lower than the 11.1% increase recorded in 2016, it should still support a rise in sales. Java, which is home to an estimated 60% of the population, will likely remain the primary driver of domestic consumption in 2017, followed by Sumatra and Kalimantan, according to Bank Mandiri.

Rising employment will also support domestic consumption, with job growth continuing at a steady pace, even as the workforce concurrently expands and wages rise. The unemployment rate fell from 7.1% – or 8.3m out of a workforce of 116.5m – in 2010 to 6.6% in 2011, 6.1% in 2012, 6.3% in 2013 and 5.9% in 2014, before edging up to 6.2% in 2015. In 2016 this reached a seven-year low of 5.6%, and as of August 2017 this decreased even further to 5.5%.

BI has also adopted an accommodative, pro-growth monetary regime since 2016, cutting interest rates six times throughout the year to hit a benchmark rate of 4.75%. The government has targeted 12% loan growth in 2017, against 7.9% in 2016 and 10.4% in 2015. In March 2017 bank officials decided that currency depreciation, supported by expectations of higher US interest rates and rising inflation, meant the benchmark rate should remain unchanged, with senior deputy governor Mirza Adityaswara telling international media that no further rate cuts are expected in the near term.

CONSUMPTION INDICATORS: Consumption indicators have signalled stable economic sentiment in recent times. BI’s consumer confidence index (CCI) averaged 116 in the fourth quarter of 2016, its highest level in seven quarters, and dipped only slightly in January and February of 2017. The CCI rose again to reach 125.9 by June, and was 122.4 in July.

Retail sales rose by an average of 11.4% per month between January 2011 and April 2017, hitting a high of 28.2% in December 2013 and a low of -5.9% in September 2011, according to BI’s retail sales index. Fast-moving consumer goods, comprising around 60% of domestic consumer retail trade, have also recorded strong growth of 8.5% yearly between 2010 and 2015. Retail sales growth averaged 9.5% per month in the fourth quarter of 2016, dipping slightly to 9.4% in January 2017. BI reported that sales grew 4.2% y-o-y in March 2017 and 5.4% y-o-y in April 2017.

The Indonesian Food and Beverages Association forecast annual gross food and beverage sales to rise by 8.5% to Rp1400trn ($105.5bn) in 2017, from Rp1280trn ($96.5bn) in 2016. Meanwhile, the Association of Indonesian Retailers projected retail trade to expand by 12% in 2017 to Rp224trn ($16.9bn), driven largely by food, beverage and clothing sales. Vehicle sales across all categories in 2016 also reversed a recent trend of decline, with the Association of Indonesia Automotive Industries reporting that domestic car sales reached 1.06m in 2016, a 4.5% increase over 2015. The World Bank forecast continued sales improvements throughout 2017, noting that passenger car sales growth surpassed 20% in January 2017.

Loan growth has also picked up, hitting 9.7% in April 2017 and 9.8% in May 2017, with BI deputy governor Erwin Rijanto predicting that the country will meet its 12% loan growth target in 2017, supported by S&P’s sovereign credit rating upgrade.

COMMODITIES: Although domestic consumption remains the primary economic engine in Indonesia, commodities exports also comprise a significant portion of GDP. A commodities boom in the years to 2012 drove overall investment in the country, according to the IMF, with investment in the commodities sector accounting for half of realised investment during the most recent boom. This differs from the early 2000s, when the manufacturing and services sectors were the primary drivers of investment realisation.

The IMF notes strong investment in the commodities sector has also significantly affected Kalimantan and Sumatra, the country’s main commodity hubs, making commodities exports an important support mechanism for decentralised economic growth. Raw commodities exports’ share of total export receipts has dropped off significantly since 2012, however, falling from 60% to 40% by March 2017, although the World Bank reported that prices for the country’s key exports – oil and gas, crude palm oil (CPO), rubber, coal and metals – improved in early 2017.

PRICE REBOUND: BI reported that import and export data from Indonesia’s six major commodities shows that the country has experienced a positive terms-of-trade environment since July 2016, while rising global prices are set to further support growth in 2017.

China’s move to limit coal mining operations to 276 days per year saw coal prices surge for most of 2016, while rubber prices maintained price gains, driven by supply concerns in Thailand and Malaysia. Importantly for Indonesia, coal prices rose by 86% in 2016, while palm oil prices increased by 20%.

The outlook for the country’s two largest commodity export bases – oil and gas, and CPO – is uncertain for 2017 and 2018. Potential trade sanctions from the US over biodiesel dumping has partially clouded the prospects of the domestic CPO processing industry in 2017. Meanwhile, persistently subdued crude oil prices could put increased pressure on public finances, with oil production set to decline even as the value of exports improves. However, base metal and CPO prices have also risen sharply since 2016, while Indonesia’s status as a net energy importer could offer more benefits than drawbacks.

OIL PRODUCTION: The World Bank forecast oil prices would average $55 per barrel in 2017, slightly higher than 2016, although prices sank to a seven-month low of $45.91 per barrel in June 2017, and hovered at just under $50 per barrel as of early July 2017. In the same month Deloitte projected that West Texas Intermediate prices would range between $45 and $60 per barrel over the next three years.

The 2017 state budget forecast Indonesia’s oil production would average 815,000 barrels per day (bpd), compared to 830,000 bpd in the 2016 budget, with oil revenues expected to further decline in coming years. According to the Asia Pacific Research Centre (APRC), in 2014 the country had 12 years of oil production reserves and 39 years of gas reserves.

Indonesia has been a net energy importer since 2003, and reductions to its fuel import bill have supported considerable improvements to the country’s current account balance. Improved oil and gas prices would be less beneficial in the coming years, particularly given anticipated future energy demand: the APRC predicts domestic energy demand to rise from 162m tonnes of oil equivalent (toe) in 2013 to 212m toe in 2020, 283m in 2030 and 354m by 2040.

This demand will lead to a prioritisation of the development of renewable energy projects moving forward, particularly given the country’s target of meeting 23% of total energy needs via renewable resources by 2025 (see Energy chapter).

CPO & BIODIESEL: The World Bank reports that CPO, Indonesia’s largest single commodity export, benefitted from strengthening prices in the fourth quarter of 2016, as Malaysia – the second-largest palm oil producer after Indonesia – had the lowest levels of palm oil inventories since December 2010. With CPO prices rising in 2016 and early 2017, the government increased export tariffs to encourage domestic biodiesel production. Typically refined from CPO, recycled cooking oil, soybean oil or animal fats, biodiesel offers a renewable alternative to traditional fuel, and can be used in existing diesel engines.

The biodiesel industry has struggled to compete against increasingly cheap crude oil since 2014, although domestic demand has been rising, with domestic palm oil biodiesel consumption growing to 2.7m tonnes in 2016, up from 2.5m tonnes in 2015. Industry figures predict annual biodiesel output to increase from 3m tonnes in 2016 to 3.5m tonnes in 2017 (see Energy chapter). Meanwhile, export revenues have also been increasing: according to the Ministry of Trade (MoT), these surged from $14.7m in 2015 to $29.8m in 2016. The country is exporting a projected 500,000 tonnes of biodiesel in 2017.

TRADE TROUBLE: The biodiesel industry is facing potentially significant external headwinds, however, after the US government announced in May 2017 that it was launching an investigation into whether Indonesia and Argentina had been dumping biodiesel exports in the US market. The announcement came less than two months after Indonesia filed a complaint to the World Trade Organisation against the EU for imposing anti-dumping duties on biofuel exports in 2013, after which sales to Europe dropped by 50%.

Following this, in May 2017 the US National Biodiesel Board (NBB) testified before the US Department of Commerce regarding the country’s growing trade surplus with the US, which reached an all-time high of $13.2bn in 2016, a 20% increase over 2014. The NBB argued that Indonesian biodiesel exports caused the deficit, reporting that the US-Indonesia biodiesel trade imbalance grew by 95% between 2014 and 2016. Indonesia’s MoT reported that annual biodiesel exports to the US rose by 117% between 2014 and 2016, reaching an annual level of 350,176 tonnes, equivalent to 93.8% of total biodiesel exports.

CHALLENGES: According to the NBB, the Indonesian government has employed unfair trading practices, including high export taxes on CPO exports, as well as subsidies, tax incentives and preferential financing for domestic biodiesel producers. Although the investigation is ongoing, possible trade sanctions such as tariffs on Indonesian CPO exports to the US could pose a significant challenge to the biodiesel industry, along with the broader development of domestic value-added commodity processing.

The government has also been at odds with US mining giant Freeport-McMoRan over changes to regulations affecting the company’s copper mining operations in Papua. The new directives have been described as expropriation, with disputes between the government and Freeport leading to over $1bn in lost revenues and 8000 job losses in early 2017.

US TRADE THREAT: Perhaps more worryingly for Indonesia, the US biodiesel probe was launched just one month after President Donald Trump signed an executive order to launch a 90-day investigation into 16 countries with which the US runs a significant bilateral trade deficit. Other countries on the list include Germany, China, India, South Korea, Thailand and Taiwan (see Trade & Investment chapter).

China is Indonesia’s largest trading partner, with total trade worth $47.6bn in 2016, including $16.8bn of Indonesian exports. However, Indonesia’s trade deficit with China almost doubled between 2012 and 2016, rising from $7.73bn to $14bn.

The US was Indonesia’s fourth-largest trade partner in 2016, with $23.4bn of total trade, although this balance is favourable to Indonesia. According to the MoT, the country’s US imports fell by 10.5% between 2012 and 2016 to $7.3bn, while its US exports rose by an annual average of 2% over the same period to reach $16.1bn in 2016. The surplus with the US was $8.8bn in 2016, against $3.3bn in 2012, a 25.3% annual increase. This rose a further 18.8% y-o-y in the first quarter of 2017 to hit $2.6bn, leaving the country exposed to US protectionist trade policies.

TRADE BALANCE: Although exporters have benefitted from rising commodities prices, total export values declined in 2016. According to the MoT, receipts fell by 3.5% to $145.2bn. This marked the fourth consecutive year of export revenue contraction. However, from January to September 2017, exports grew by 17.4% y-o-y to reach $123.4bn.

Declining export revenues can be largely attributed to falling commodities prices; however, as a result, Indonesia’s import bill has also contracted over the previous five years, falling from $191.7bn in 2012 to $186.6bn in 2013, $178.2bn in 2014, $142.7bn in 2015 and $135.7bn in 2016. The energy import bill in particular has dropped sharply, from $45.3bn in 2013 to $18.7bn in 2016.

In 2015 falling energy imports pushed the country to record its first trade surplus since 2011, at $7.7bn, compared to a $2.2bn deficit in 2014. According to MoT data, the trade surplus grew again in 2016 to reach $8.8bn, and Indonesia recorded a $5.3bn surplus between January and April 2017, a 101.6% increase over the $2.6bn surplus recorded over the same period in 2016. Improved global commodities prices also boosted export receipts in 2017, with total exports rising by $18.6bn between January and April 2017 to hit $53.9bn, up from $45.5bn recorded between January and April 2016.

MANUFACTURING: Higher commodities prices helped boost export growth in 2016 and 2017. However, manufacturing should also see export receipts rise considerably in coming years, after the government launched a series of stimulus and deregulation packages to encourage investment in value-added industrial and manufacturing projects.

In April 2017 Statistics Indonesia reported that the manufacturing sector accounted for 21.5% of GDP, or 0.92 percentage points of the country’s 5.01% GDP growth in the first quarter of 2017. This was followed by trade at 13.4% (0.66 percentage points), construction at 9.9% (0.58), and information and communication at 5.02% (0.44). Food and beverage manufacturing is the largest non-oil manufacturing segment in the country, accounting for 32.8% of total segment activity in the first quarter of 2017. This was followed by metal, computer, electronics, optical and electricity equipment at 10.7%, transportation equipment at 10.5%, and chemicals and pharmaceutical products at 9.9%.

RECENT GAINS: The World Bank reported that manufacturing exports rose by 13.2% y-o-y in 2016, indicating a potentially enduring turnaround in export values, while factory capacity utilisation rose to a six-month high of 76.3% in the fourth quarter of 2016, with the release of the joint Nikkei/Markit Purchasing Managers’ Index (PMI) also recording a four-month high of 50.4 in January 2017. Although the index moderated to 49.3 in February 2017, the PMI rose to 51.5 in March, before reaching a seven-month high of 51.2 in April 2017. Any PMI above 50 indicates manufacturing growth.

However, Airlangga Hartarto, the minister of industry, told local media in April 2017 that despite its critical role in reducing dependency on commodities exports and domestic consumption, the manufacturing sector’s GDP contribution had fallen in the past three years, from 1.01 percentage points in 2014 and 0.94 in 2015, to 0.92 in 2016. Prior to the 1997-98 Asian financial crisis, manufacturing accounted for up to 30% of annual GDP growth, according to Hartarto, compared to just over 18% in 2016.

INVESTMENT STIMULUS PACKAGES: Increasing value-added processing and improving both manufacturing and industrialisation are important government priorities, as it seeks to reduce dependence on commodities prices and transition from a consumption-based economy to an investment-driven one with a robust, diversified export base.

With that in mind, the Widodo administration began rolling out a series of stimulus – or deregulation – packages in September 2015 to support GDP growth by boosting FDI inflows and reducing barriers to market entry. The government unveiled a total of 16 stimulus packages between September 2015 and September 2017.

Dozens of new measures to promote FDI were rolled out, including expedited investment licensing for projects in industrial estates, energy tariff cuts for labour-intensive industries, a small and medium-sized enterprise lending programme, tax incentives for investment in special economic zones, income tax reductions for some aviation manufacturers and the removal of foreign ownership caps for 35 different business categories. The 14th package included a mandate to create an e-commerce industry roadmap, as well as tax incentives for e-commerce entrepreneurs (see Trade & Investment chapter).

INVESTMENT CLIMATE: Although welcomed by investors and the business community, Widodo’s deregulation packages have been criticised for being overly vague and poorly implemented, with the Institute for Development of Economics and Finance saying in February 2017 that the packages had been largely ineffectual at that stage.

In the same month a survey conducted in 32 regional capital cities by Regional Autonomy Watch found that difficulty in obtaining the necessary permits was the largest single constraint on business and investment growth. Despite only recently moving into the top 100 in the World Bank’s annual “Doing Business” report (see Trade & Investment chapter) – which measures the investment attractiveness of 190 global economies – Indonesia has announced a target of rising to 40th place on the index.

The country has made considerable progress towards this: it rose 15 spots to become 91st in the 2017 survey, and then another 19 spots to become 72nd in the 2018 report. The results were largely attributable to improvements in starting a business (167th for 2016 to 144th for 2018), getting electricity (61st to 38th) and getting credit (70th to 55th).

OUTLOOK: Although Indonesia faces a challenging external environment, including the threat of US protectionist trade policies and concerns over contracting exports to China, its strong macroeconomic fundamentals should keep GDP growth steady, with this forecast to continue accelerating in 2017.

In April 2017 the World Bank revised its GDP growth projection for Indonesia from 5.3% to 5.2%, although bank authorities noted that the adjustment was technical, not a result of macroeconomic deterioration. Meanwhile, BI maintained its 2017 projection of 5.2-5.4%, following first quarter growth of 5.01% y-o-y. The World Bank forecast GDP growth to reach 5.3% in 2018 and 5.4% in 2019, far above estimated global growth of 2.7% and 2.9%, respectively. With commodities prices continuing to rise in 2017 – and with domestic demand supported by credit growth, steady FDI inflows and improved exports – Indonesia remains well-positioned to continue progressing towards becoming one of the world’s top economies.