With the largest land mass, population and economy in South-east Asia, Indonesia has considerable potential to become the region’s industrial powerhouse. Nevertheless, with a development model traditionally reliant on the export of natural resources rather than processed goods, the Indonesian industrial sector remains below its potential. Indeed, in terms of output and exports of manufactured products, the country lags behind many of its neighbours. The expansion of the sector has been further hindered by restrictions on foreign investment, in conjunction with the relative underdevelopment of the county’s infrastructure network. However, this situation has changed in recent years, with the Indonesian government identifying the industrial sector as a key driver of economic growth and diversification. The current administration aims to turn the country into a leading regional manufacturing centre, in part by easing the investment process for foreign firms and offering incentives, including through increasing the number of special economic zones (SEZs).

Structure & Oversight

The Ministry of Industry (MoI) takes the primary responsibility for overseeing the development of Indonesia’s industrial sector. The mandate of the MoI includes boosting research and development, delivering technical guidance, supervising policy implementation, providing administrative support and managing state assets. It includes specialised divisions and agencies for agricultural industries; chemical and textiles; metal, machinery, transportation and electronics; small and medium-sized enterprises (SMEs); and regional development.

The primary entity tasked with 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. KADIN is the only nationwide body mandated by law to engage with the Indonesian government on behalf of private companies.

Performance & Size

In 2019 manufacturing contributed 19.7% of GDP, according to Statistics Indonesia (BPS). While this makes it an important driver of the economy, the sector’s contribution remains below its potential level given the size and resource endowments of the country. Furthermore, its contribution has declined steadily since 2014, when it stood at 21.1%. In 2019 the largest industrial segment in terms of GDP contribution was food and beverage processing, at 6.4%, followed by processed coal and refined oil and gas, which contributed 2.13%. This was followed by the chemicals and pharmaceuticals segment, along with metal goods and electronics, both of which contributed 1.68%, transport equipment (1.63%), textiles and apparel (1.26%), tobacco products (0.89%), processed metals (0.73%), paper products (0.69%), rubber and plastics products (0.56%), processed wood products (0.51%) and other (1.09%).

Meanwhile, industrial exports have grown steadily in recent years, rising by 1.75% in 2016, 13.21% in 2017 and 4.01% in 2018, according to the latest available figures from BPS. Figures from the Indonesia Investment Coordinating Board (BKPM) show that manufacturing industries attracted $10.4bn in foreign direct investment (FDI) in 2018, accounting for 35.3% of the total. Metal goods and electronics attracted the highest value of FDI, at $2.2bn, followed by chemicals and pharmaceuticals ($1.94bn), machinery ($1.34bn), food ($1.31bn) and vehicles ($970m). Nevertheless, in both absolute terms and as a share of total foreign investment, FDI inflows to manufacturing have declined in recent years. From a high of $16.7bn or 57.6% of the total in 2016, manufacturing FDI fell to $13.1bn (40.6%) in 2017, $10.4bn (35.3%) in 2018 and $4.4bn (31.2%) in the first six months of 2019. With global economic activity slowing dramatically as a result of the Covid-19 pandemic in early 2020, both demand for Indonesian exports and FDI flows appear set to remain below their potential for the foreseeable future, making efforts to improve the investment environment and increase human capital all the more necessary in order to take advantage of the eventual global recovery.

Challenges to Growth

Manufacturing growth and foreign investment have been constrained to some extent by protectionist rules in Indonesia. Trade unions and industry lobbies have a powerful presence in the country, meaning officials have had to weigh liberalisation efforts against demands for strict provisions on minimum local content, export substitution and restrictions on foreign labour.

Meanwhile, free trade agreements (FTAs) that allow for easy entry of foreign products may have limited the sector’s performance. For instance, some economists have argued that Indonesian products cannot compete with cheaper alternatives imported from China, which enjoy some preferential access under the ASEAN-China FTA. With this in mind, the administration of President Joko Widodo, better known as President Jokowi, will need to ensure the support of domestic industrial players for the Regional Comprehensive Economic Partnership (RCEP), the world’s biggest FTA that is expected to be signed in 2020 between ASEAN and at least five of its main trade partners, including China. Another obstacle to the growth of the manufacturing sector is a lack of diversity in the products currently being exported. The main exports are generally unprocessed natural resources and simple manufactured goods, according to a report published jointly by the Asian Development Bank and the National Development Planning Agency in February 2019. The report recommended that Indonesia focus on high-value exports such as machinery, chemicals and electronics. In addition, it emphasised the need for the government to aid in increasing productivity and creating strong links between large corporations and local SMEs.

One issue cited by investors as a particular hindrance to growth of the sector is the country’s labour law, which is governed by regulations passed in 2003. Critics argue that regulations provide too many protections for employees, to the detriment of the economy. One issue is mandatory payout packages, including a minimum severance payment equal to six months of salary for those who have worked with a company for more than three years, which extends to 12 months if the employee has served more than eight years. This regulation applies even if an employee was let go for unprofessional conduct. Faced with comparatively high labour costs in Indonesia under this law, many foreign companies have turned to other countries in the region that have less stringent rules in place, such as Vietnam, China and Thailand.

Sectoral Reform

Faced with pressure from foreign investors, the government announced plans to amend the labour law in November 2019. Proposed changes of the Omnibus Law on Job Creation include measures to ensure equal opportunities for all people in the labour market – as one current complaint is that the law offers advantages for those already employed – while companies will be offered incentives to improve skills and training. “Manufacturing is not currently attracting the level of investment the government was hoping for,” Maxwell Abbott, senior associate, at Vriens & Partners, Indonesia, told OBG. “The workforce is generally unskilled compared to countries like Thailand, Malaysia and Vietnam.” Though the bill faced large-scale protests organised by labour unions in January 2020, it is currently working its way through the legislative process.

The country’s lack of efficient infrastructure is another barrier to growing the industrial sector. However, in May 2019 the government announced ambitious plans to develop infrastructure projects worth at least $400bn over the next four years, including roads, power plants and airports. When realised, these projects will benefit the sector by reducing transportation costs for goods and boosting competitiveness. An additional hurdle to investment has traditionally been the country’s complicated bureaucratic procedures in terms of licensing and certification. In recognition of this challenge, the administration of President Jokowi announced a pledge in October 2019 to downsize the civil service, streamline administrative procedures using artificial intelligence (AI) solutions and simplify the regulatory framework.

New Strategy

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 Fourth Industrial Revolution. Making Indonesia 4.0 seeks global competitiveness in the five target industries of food and beverages, automotive, textiles, electronics and chemicals, while creating between 7m and 19m new jobs between 2018 and 2030.


The mining industry has long been a significant contributor to the Indonesian economy, accounting for 4.5% of GDP in 2019. The main products are coal, copper, gold, tin, bauxite and nickel. However, a lack of clarity regarding mining policies has seen limited investment in the sector in recent years, especially in greenfield projects. These issues have contributed to some foreign mining companies selling their Indonesian operations to local firms, leading to a decline in FDI in the segment (see Energy & Mineral Resources chapter).

In addition, government policies aimed at boosting local downstream mining industries with the aim of adding value and generating employment have made use of periodic export bans of key minerals, which have disincentivised foreign investment. For example, the government reimposed a ban on nickel ore exports in January 2020 in an effort to encourage the use of domestic nickel resources in the production of batteries for electric vehicles (see analysis).

Nevertheless, these moves have been offset in some respects by efforts to liberalise regulatory procedures in the industry. For example, Ministerial Regulation No. 11 of 2018 allows foreign investors to participate in mining areas of over 500 ha, whereas previously they could only bid for projects over 5000 ha. Furthermore, the government has introduced tax breaks for firms investing in local downstream processing and refining capacity.

In West Kalimantan bauxite production leapt by 204% between January 2018 and June 2019, a development that led to the government to consider changing its royalty rules for the mineral. Authorities currently charge mining companies 3.75% of revenue from bauxite, but local officials have expressed hope for an increase in this figure, as well as greater control over handling export permits. Data from Indonesia’s central bank showed that the country exported 8.4m tonnes of bauxite between January and July 2019, nearly double the 4.4m tonnes exported during the same period of 2018. Given the country’s vast untapped mineral resources, the mining industry offers significant potential for expansion. However, in order to achieve sustained investment and growth, the state will need to make further efforts to either reform or offset its protectionist policies, as well as address infrastructure gaps and boost human capital.


The textiles and apparel industry is one of country’s largest sources of foreign exchange, with exports reaching $13.8bn in 2019, up from $12.3bn two years earlier. The most important market is the US, which accounted for 36% of shipments, followed by Middle Eastern countries at 23%, and the EU at 13%. In late 2019 the Ministry of Trade took action following an influx of imported materials between 2016 and 2018 that negatively impacted domestic textiles manufacturers. During this period fabric imports rose by 74% and the imports of some types of synthetic yarn doubled. The primary source markets were China, South Korea, Thailand and Vietnam. Now, regulations require all textiles importers to seek approval from the government before importing textile goods.

At the same time, trade disputes between the US and China could create opportunities for the Indonesian textile industry, with some companies reportedly considering moving factories from China to Indonesia. In early 2019 the Indonesian Textile Association announced that Chinese manufacturing firms are planning to spend around Rp500bn ($35.3m) in the country, with potential for the figure to increase to Rp1trn ($70.5m). However, this optimism was premature, with the World Bank reporting that of the 33 Chinese companies that announced plans to set up or expand overseas production between June and August 2019, none chose Indonesia. Instead, Vietnam, Cambodia, India and Malaysia were selected. Indonesia’s labour regulations, infrastructure gap and administrative regime were cited as reasons for ultimately not selecting the country. Nevertheless, as a priority industry under the Making Indonesia 4.0 roadmap, the textiles segment stands to benefit from technological advancement that can raise quality standards and boost productivity.


Indonesia’s steel industry is generally regarded as falling short of its potential, but this could be set to change as a result of the current administration’s drive to expand and improve infrastructure. Still, the two major challenges faced by the domestic steel industry are cheap foreign imports – notably from China – which threaten local companies, and an ongoing lack of transparency around tenders.

In July 2019 business groups appealed to the government to increase duties on Chinese steel imports to make it easier for domestic steel producers to compete for market share. Although Indonesia has imposed anti-dumping measures on certain types of steel from China, industry representatives have claimed foreign manufacturers are changing product specifications to avoid the punitive measures. Indeed, it is estimated that half of the domestic demand for steel, which equates to roughly 20.3m tonnes per annum, is supplied from abroad.

Nevertheless, there are some positive signs on the horizon for Indonesia’s steel industry, including growing demand from India. Indonesian steel exports to the country increased substantially to 143,000 tonnes in August 2019, up from 20,000 tonnes a year earlier – the majority of which were stainless steel products. The government’s infrastructure drive and Making Indonesia 4.0 plan are also set to benefit the industry in terms of increased input demand for these projects. Indonesia’s steel consumption is expected to reach 22.7m tonnes in 2024, which marks an increase of more than 50% over 2018, according to figures from the Indonesian Iron and Steel Industry Association.

Welcoming Investment

In spite of its vast resource endowments and burgeoning economy, Indonesia continues to punch below its weight when it comes to attracting FDI – not only in the industrial sector, but across the board. For years, a major barrier to entry for foreign companies has been the country’s negative investment list (DNI), which restricts foreign ownership in several industries, including mining. The list was last updated in 2016, when certain restrictions were relaxed, notably allowing 100% foreign ownership in selected segments such as e-commerce. However, in 2019 the government announced plans to replace the DNI with a positive investment list, while also cutting taxes for foreign investors and improving intellectual property rights. These reports outline that the ban will still apply in selected areas, including gambling and wildlife trade, but will promote priority industries for foreign investment. The list will target those industries that aim to replace imports or encourage exports, including the coal gasification, automotive and electronics segments. However, as of May 2020 the reform package was still being debated by the House of Representatives.

Local Procurement

In tandem with these efforts to improve the investment climate for foreign companies, the government is making moves to encourage domestic companies to source inputs from the local market where possible. To support this effort new regulations were implemented in December 2019 which allow state-owned enterprises (SOEs) to apply a price preference for local products with a local content component value equal to or higher than 25%, in addition to redefining the legal status of SOE subsidiary companies. Furthermore, in late 2019 the MoI announced plans to launch a public awareness campaign to encourage Indonesian firms to purchase domestically manufactured products and materials.

Attractive Zones

The government aims to further develop local supply chains through SEZs and industrial estates. As of March 2020 there were 11 SEZs in Indonesia, with four more under construction. The zones and estates provide investors with centralised and efficient services to encourage the development of value-added production facilities. SEZs are open to foreign investment and give investors access to preferential regulatory and taxation schemes. The zones cover industries such as palm oil, rubber, downstream services and hydrocarbons.

However, not all of the zones are dedicated to industry or creating supply chains based on raw resources. For example, the Batam Indonesia Free Zone, which is located just across the strait from Singapore, hopes to attract creative industries. With the aim of capitalising on the ongoing trade dispute between the US and China, Indonesia announced plans in October 2019 to develop new SEZs in addition to simplifying the tax incentives of these centres. The authorities hope that these moves will attract over $50bn to these SEZs by 2030. The measures will grant companies tax breaks based on the size of their investment, such as a 20-year tax break for investments over Rp20trn ($1.4bn). In addition to the four SEZs under way, there are plans to develop export-orientated zones for the electronics, automotive and basic chemicals industries in central Java.


While the expansion of manufacturing in Indonesia in recent years continues to face constraints in terms of infrastructure gaps, relatively high labour costs and restrictions on foreign investment, as well as the more recent disruption to supply chains worldwide as a result of the Covid-19 pandemic, the longer-term outlook remains generally positive.

Policies are being implemented in order to address each of these challenges, most notably through labour market reform, infrastructure investment and the expansion of the country’s SEZs. Given its strategic geographical position, and vast mineral and agricultural wealth, the manufacturing industry offers significant opportunities. Achieving this potential will require the government to implement its reform agenda effectively, as well as balance intensified efforts to boost added value in production, all while weathering the economic impact of Covid-19.