With the largest land mass, population and economy in South-east Asia, Indonesia is set on becoming the region’s industrial powerhouse. A historical reliance on natural resources has left its industry lagging behind that of regional peers Thailand, Malaysia and Vietnam in terms of exports, even as the country continues to clock robust GDP growth. Excessive bureaucracy and protectionist policies have further hindered the development of manufacturing exports, in part leading to the double-digit decline in foreign direct investment (FDI) in the third quarter of 2018 and the country’s persisting trade deficit. However, reforms are taking hold and Indonesia enjoyed GDP growth of 5.2% in 2018, with gains in both light and heavy manufacturing. The estimate of manufacturing’s contribution to GDP is 20.5%, not far below levels in most industrialised economies.

Policymakers unveiled the Making Indonesia 4.0 strategy in April 2018, which seeks to establish global leadership in high-value industrial subsectors through adapting to the challenges and opportunities presented by the Fourth Industrial Revolution (4IR). If the country is able to make use of its large workforce and abundant supply of natural resources while addressing infrastructure and bureaucratic bottlenecks, it is well placed to become a major industrial player in the region.


The primary government entity responsible for formulating and implementing policy for the industrial sector, as well as providing supervision and administrative support, is the Ministry of Industry, which has been headed by Airlangga Hartarto since mid-2016. One of the key entities representing private sector interests is the Indonesian Chamber of Commerce and Industry (KADIN) – an umbrella organisation to which 34 regional chambers and over 500 district branches subscribe.

Since taking office in 2014 the government of President Joko Widodo has set the goal of making Indonesia a more attractive destination for foreign investment and fostering an environment supportive of exports. The country has traditionally relied on oil, gas, coal, copper and palm oil to fuel economic expansion. However, manufacturing growth has been constrained to some extent by protectionist rules. Trade unions and industry lobbies have a powerful presence in Indonesia, thus officials must weigh liberalisation efforts against demands for strict provisions on minimum local content, export substitution and restrictions on foreign labour.

Business Environment

Indonesia’s overall rank on the World Bank’s “Doing Business 2019” report slipped one spot to 73rd, placing it firmly outside the government’s target of a top-40 position by 2019. Although it is now easier to obtain business licences, there remain significant challenges to launching new projects. Securing raw materials from overseas can be difficult, and setting up a business or facility in some localities requires permission from bodies that may present risk of corruption.

Hiring foreign workers also remains a challenge, and reforming Indonesia’s restrictive employment policies has traditionally encountered stiff opposition from various labour groups in the country. “The current labour law No. 13 of 2003 is too rigid,” Harijanto, chairman of employment and social security at the Indonesian Employers’ Association (APINDO), told OBG. “Another problem is that a lot of employment goes into the informal sector and that investors do not create significant employment.”

Land acquisition can also pose hurdles. As in many Asian countries, foreigners are prevented from owning freehold land. Under reforms introduced in 2010 and 2015, foreigners can legally obtain leases in Indonesia, but investors report that the wording of these reforms is sometimes unclear.

With territory spread across some 17,000 islands, Indonesia has a number of active provincial and local governments. Companies may thus face rules and regulations that differ depending on their locality, and while corruption remains a lingering issue – particularly in more remote areas – the country has made moves to align and improve governance.


The manufacturing sector grew rapidly between the 1980s and the Asian financial crisis in 1997 on the back of government efforts to diversify the economy away from hydrocarbons. However, progress in the sector has since been more modest, arguably with government decentralisation having the greatest effect. After 1997 international donors pressed Indonesia to grant more power to provincial and local governments, which created a confusing array of bureaucracy for foreign investors. The national government is now attempting to rein in the power of local governments, but the process has been slow due to opposition from local interests.

To support industrial growth, the Master Plan of National Industry Development 2015-35 focuses on developing upstream and intermediate industries based on natural resources, and on improving the use of industrial technology and the quality of human resources. Headline targets include raising the contribution of the industrial sector to GDP from around 20% in 2018 to 30% by 2035, and reducing dependency on imported raw materials and capital goods to address the trade deficit. The master plan is supported by the new Making Indonesia 4.0 strategy, which aims to guide the country in adopting greater levels of automation and utilising the technologies of the 4IR. Making Indonesia 4.0 seeks global competitiveness in the five target industries of food and beverages, automotive, textiles, electronics and chemicals, while creating some 7m to 19m new jobs between 2018 and 2030.

Industrial policies tend to benefit companies that source demands locally and thus have fewer imported inputs, such as manufacturers of clothing and shoes. It is still the case that companies with robust international value chains often face cumbersome import licence requirements and hefty import duties, which has impeded the development of highvalue-added export industries such as automobiles, mobile phones and technology-intensive products. Furthermore, despite boasting large reserves of liquefied natural gas and oil, Indonesia has lagged behind regional players in ASEAN in terms of petrochemicals – one of the areas being highlighted in the Industry 4.0 strategy.

Textiles & Apparel

The top-five segments in terms of contribution to GDP are food and beverage; metal goods, electronics and electrical equipment; transport equipment; chemicals, pharmaceuticals and traditional medicines; and textiles and apparel, all of which have priority places in some form in the Making Indonesia 4.0 plan. Textiles and apparel is one of the key manufacturing segments targeted for expansion, and in 2017 the sector saw an increase of 5% in exports. As a beneficiary of the US Generalised System of Preferences (GSP), Indonesia enjoys low tariffs on textile and garment exports to the US, which remains the largest market for Indonesian shipments in this sector. However, these trade privileges could be under threat after the administration of US President Donald Trump announced a review of Indonesia’s GSP status in April 2018, ostensibly over concerns about Indonesia’s compliance with the programme. Fortunately, any decline in exports to the US could potentially be offset by growth in the Middle East, which has emerged as the second-largest regional market for Indonesian textiles and related products. Indonesia also benefits from standard GSP status with the EU. The bloc receives around 35% of Indonesia’s textile exports by value, equal to about $5bn in 2017.

Although a decline in the value of the local currency in 2018 was expected to have boosted textile and apparel exports, the textiles industry did not appear to reap any benefits, as higher import costs cancelled out any gains that may have come from increased shipments. The rupiah declined by more than 7% against the dollar in 2018, contributing to a protracted fall in the currency from about Rp8500 against the dollar in 2012 to around Rp14,200 as of late March 2019. On the macroeconomic front, Indonesia has managed to control its inflation rate, which has traditionally been high by regional standards. Compared to double-digit inflation in the early 2000s, 2018 saw inflation of just 3.8%, which is evidence of Bank Indonesia’s pragmatism.

Indonesia’s plan to become a global leader in garment exports is threatened to some extent by the emergence of Vietnam and Bangladesh as front runners in light manufacturing. Both countries offer well-integrated supply chains of raw materials, dyes and fibre; favourable trade terms with major export markets; and, in Bangladesh’s case, lower labour cost. “Vietnam boasts a 48-hour work week and flat-rate overtime while Indonesia has a 40-hour week progressive rate,” Harijanto told OBG. “In fact, numerous investors also back out of Indonesia because of domestic severance pay regulations.”

Indonesian garment makers are trying to bridge the gap by trimming costs and boosting productivity by using improved technology and equipment. “As skilful workers are scarce, and with the progress of the introduction of Industry 4.0 technologies, companies are focusing on adding capacity through automation upgrades instead of building new factories from scratch,” Fitri Hartono, administrative director of local garments company Pan Brothers, told OBG. Even with stiff regional competition, garments are Indonesia’s third-largest foreign currency earner after oil and gas and palm oil, according to the Indonesian Textile Association.


According to the latest available data from the Association of Indonesia Automotive Industries (GAIKINDO), Indonesia produced 1.34m cars in 2018. In this regard, local car manufacturers produced more than 1m passenger vehicles and nearly 300,000 commercial vehicles. In 2018 Toyota produced 531,573 vehicles; Daihatsu, 201,387; and Mitsubishi, 164,107. In terms of sales, a total of 1.15m vehicles were sold, according to GAIKINDO. Japanese manufacturers continue to dominate the local wholesale market, holding a 30.6% market share, in which Toyota held a significant edge in car sales in 2018 with 352,161 vehicles sold. Daihatsu followed, with a 17.6% market share, selling 202,738 vehicles. Honda ranked third with a market share of 14.1% and 162,163 vehicles sold.

Shaping Forces

Indonesia’s restrictions on imports, its relatively high cost of doing business due to energy prices and infrastructure gaps, and its historic lack of industry clusters mean that manufacturing is predominantly undertaken to meet local demand rather than for exporting purposes. For example, Daikin, a major international air conditioning manufacturer, told OBG that the production from their factories in Indonesia is purely used to supply the local market. Meanwhile, the bulk of their export production in ASEAN is located in Thailand, which benefits from land borders and good connectivity with other mainland Asian countries, in addition to well-developed supply chains.

Despite high import costs hindering foreign investment and increasing the cost of doing business, the government of Indonesia announced increased import tariffs on more than 1100 consumer goods in September 2018 in an effort to address currency depreciation and the trade deficit. There is an upside, however, as government initiatives should have a positive impact on exports. “The import tariffs and limited quotas for certain materials will provide companies that rely on imports with more incentives to buy locally,” Aldo Susanto, director of business development at Nayati, a local food service equipment manufacturer, told OBG. “As improvements continue to be made in logistics and human resources, countries like Indonesia and others in South-east Asia can become global hubs for semi-finished products,” he added. Another facet of industrial competitiveness is improved infrastructure, with efforts under way to upgrade the country’s port facilities (see Transport & Infrastructure chapter). Whereas goods once had to be trans-shipped via Singapore, Indonesia now has the ability to load large cargo vessels in Java, cutting transport times and reducing shipping costs.

Currently, Indonesia’s industrial production consists mainly of light manufacturing, with outputs such as footwear and garments. If the business environment improves, Indonesia has the potential to outperform many of its neighbours in heavy industrial manufacturing, like petrochemicals. At the moment, the country hosts a greater number of petroleum reserves than Thailand, yet remains a smaller petrochemicals player.

While the ongoing trade dispute between China and the US has primarily benefitted Vietnam and Bangladesh as foreign companies relocate to avoid tariffs and other penalties, Indonesia also has the potential to benefit as the US and China seek import substitutions and manufacturing firms look for alternative Asian production bases to avoid tariffs imposed on China. In its 2018 report titled “Creative disruption, Asia’s winners in the US-China trade war”, the Economist Intelligence Unit predicted “mild benefits” for Indonesia as firms seek to diversify their locations for manufacturing export-oriented ICT products and vehicles.


As part of its efforts to move beyond dependence on natural resources, Indonesia is aiming to develop new technologies to diversify into advanced manufacturing. Actions outlined in the Making Indonesia 4.0 strategy include training, government incentives and adoption of digital government infrastructure. By 2030 Indonesia aims to become globally competitive in new advanced technologies such as artificial intelligence, robotics and genetics research. One of the challenges to this goal is the lack of a sufficiently skilled labour pool. Indonesia’s education system lags internationally, with only 17% of the employed population having finished high school. Nevertheless, the government has boosted education spending considerably, with the hope of creating a new generation of trained professionals (see Health & Education chapter), and President Widodo has repeatedly stated his intention to make human resource development a key focus of his second term, if re-elected.

Indonesia has also introduced measures to support small and medium-sized enterprises (SMEs), including an initiative launched in April 2018 titled “Let SMEs Sell Online”, with a goal of 8m SMEs selling their products via the internet by 2020. Businesses with under 20 employees accounted for 76.3% of total employment in Indonesia in 2016, the highest rate among all OECD countries, according to the organisation. Indonesia is experiencing strong SME growth, and 2019 is expected to be a significant year for financial technology and the digital economy. Online payment platforms are becoming increasingly popular in Indonesia, a sharp change for this predominantly cash-based society. One initiative aimed at supporting SME growth and the digital economy is Nexticorn. Launched in May 2018 the programme aims to link local start-ups with financial backing in an effort to add to Indonesia’s growing portfolio of start-ups valued at over approximately $1bn.


Since 2014 the Widodo administration has unveiled a series of stimulus packages which include interest rate tax cuts for exporters, energy tariff cuts for labour-intensive industries and tax incentives for investment in special economic zones. The Ministry of Finance proposed a set of investment incentives at the beginning of 2018 that included a move to bring the corporate tax rate in line with regional norms. Indonesia’s corporate tax rate is currently 25%, above Malaysia (24%), Thailand (20%), Vietnam (20%) and Singapore (17%). The revision was still under consideration as of early March 2019.

Also under review is the introduction of a corporate tax holiday and other incentives to encourage the development of export industries. The government announced that a number of foreign investments are expected in 2019, including a $1bn manufacturing plant by Taiwan’s Pegatron, an assembler of smartphones that is currently looking to diversify production away from China to avoid ongoing trade tariff risks. “The investment climate in Indonesia has become quite attractive over the last few years,” Iwan Irwanto, president director of LIXIL, a local water and housing products manufacturer, told OBG. “Not only is updated information on the country available now, but foreign companies can clearly see where the potential lies and how internal business is conducted. Investment opportunities in Indonesia are just as appealing as those throughout China and India,” he added.


Despite moves to encourage foreign input, Thomas Lembong, chief of the Indonesia Investment Board, told local media in December 2018 that total FDI for the year was expected to be some $11bn-13bn, as much as 40% less than in 2017. FDI in the manufacturing industry, specifically, declined from $16.7bn in 2016 to $13.1bn in 2017 and stood at $3.8bn in the first quarter of 2018.

As a percentage of total FDI, manufacturing attracted the country’s largest share in 2016 (57.6%) and 2017 (40.6%), although its share in the first quarter of 2018 was 38%, lagging behind services at 46.8%. The top recipients of FDI by industrial subsector in the first quarter of 2018 were buildings and industrial estates ($1.9bn); metal, machinery and electronics ($1.4bn); electricity, gas and water ($9m); mining ($600m); and agri-business ($600m).

Part of the depressed results stem from Indonesia’s rigid foreign investment restrictions. The country maintains a negative investment list, which specifies the industries that are off-limits to foreigners. The Widodo administration has struggled to chip away at the negative investment list, encountering local opposition from both businesses and labour unions. Since 2014 the administration has announced 16 reform packages, the latest of which indicated that 100% foreign ownership would be allowed in a total of 54 areas. However, the government parred that down to 49 areas in December 2018 after pressure from APINDO. The body feared that foreign competition would chase out local players. Under the latest rules, foreigners are also allowed higher ownership rates in areas that were previously off limits, including hotels and restaurants; however, other sectors still remain out of reach to full foreign ownership, such as telecoms and some extractive industries.

Employment & Productivity

The manufacturing sector employed approximately 15% of the country’s workforce in August 2018, according to Statistics Indonesia. A joint report published in January 2019 by the Asian Development Bank and the Ministry of National Development Planning estimates that the manufacturing sector will employ either 20% of the labour force by 2024 under a best-case scenario where annual GDP growth averages above 6%, or 13% of the workforce if GDP growth remains at the 2018 figure of 5.2%. The largest industrial segment in terms of manpower remains garment manufacturing, which employs an estimated 3.8m people, according to a 2016 report by the International Labour Organisation.

Most manufacturing is concentrated in Java, and manufacturers face high energy costs and repeated demands for wage increases. The country has a vibrant labour movement, with labour groups in late 2018 demanding the provincial minimum wage be raised by between 20% and 25% for 2019, in excess of the government-proposed 8%. In the World Economic Forum’s “Global Competitiveness Report 2018”, which assesses all the factors that determine the level of economic productivity, Indonesia placed 45th overall out of 140 countries. This marked an improvement of two positions on the previous year, placing Indonesia in the middle of the ASEAN pack, behind Singapore, Malaysia and Thailand. Although its competitiveness was enhanced by its large domestic market, vibrant entrepreneurial culture and business dynamism, Indonesia suffered from limited research and development (R&D) activity, with R&D spending amounting to less than 0.1% of GDP, placing Indonesia 112th in this category.


Indonesia’s top export markets are China, the US and Japan, which accounted for 14%, 11% and 10% of total exports in 2017, respectively. Its main export commodities are chemical and fuel products (31%), food and agricultural products (22%), and manufactured consumer goods (25%). In 2018 the trade deficit reached $8.6bn as imports grew by 20.2% to $188.6bn while exports increased by 6.7% to $180bn. The trade deficit was influenced by a combination of volatility in the global trading environment and new rules at home.

Indonesia is party to numerous existing international trade agreements thanks to its membership in ASEAN. It is also in advanced discussions with other countries for bilateral trade agreements, including Australia, Japan, India and South Korea. Indonesia is likely to be one of the second wave of signatories to the Comprehensive and Progressive Agreement for Trans-Pacific Partnership, which has 11 founding members. Furthermore, the Indonesia-Australia Comprehensive Economic Partnership Agreement appeared to be ready to be signed by both parties in November 2018, until it was postponed prior to the ceremony. As of early March 2019 it was successfully signed, however, it has yet to be officially ratified by both national parliaments. Indonesia is seeking to broaden its portfolio of export markets and trading partners beyond the world’s leading industrialised nations. In particular, Indonesia has been expanding its trade missions to Islamic countries and promoting investments in halal industrial clusters to tap into the high-value niche market for sharia-compliant food and beverages and consumer goods.


Although manufacturing in Indonesia has long been constrained by infrastructure gaps, high production costs, burdensome bureaucracy and protectionism, the outlook is generally positive. As efforts to improve transport infrastructure combined with initiatives to address human resource gaps and attract investment in high-value industries, Indonesia should be able to capitalise on manufacturing related to its considerable hydrocarbons and mineral resources, as well as the high volume of cash crops such as palm oil, among others.

The key to the long-term success of Indonesia’s industrial transition, and to the sustainable development of the broader economy, will be efforts to attract downstream investment capable of adding value to Indonesia’s raw materials closer to the sources where they are extracted or cultivated.