OVERVIEW

● Incumbent President Joko Widodo comfortably known as Jokowi won in the official vote re-count with a 55.5% tally ahead of his challenger, former army General Prabowo Subianto. The official announcement by the election commission (KPU) confirmed the initial results earlier last month that showed Jokowi and his running mate for vice president, Ma’aruf Amin, having secured 55.0% of the votes. The recount was undertaken because Prabowo refused to accept the official result, claiming he has sufficient evidence to prove there were massive electoral frauds. A court decision on Probowo’s claims is expected to be announced in June.

● Tougher economic reforms ahead? Following the official election results and awaiting the inauguration of the president and vice president scheduled in October, Jokowi is set to kickstart his unfinished economic agenda given this is his second and final term as president. He recently pledged to implement tougher economic reforms if re-elected and aim to reduce the current account deficit which is weighing heavily on the Rupiah. Previously, he imposed additional import duties of various consumer products in part to reduce the current account deficit. He also ordered additional imports of various food staples to boost stocks in a move to ensure adequate supply domestically while to maintain lower inflation. Meanwhile, Jokowi imposed control on fuel prices few months ahead of the presidential election, typically a populist move to woo voters. As a result, inflation has remained subdued since late 2018, while the latest figures showed inflation increased to 2.8% YoY in April (Mar: 2.5%) but still comfortably closer to the lower end of Bank Indonesia’s (BI) 2.5-4.5% target range. Maintaining the fuel subsidy is unsustainable in the long term and we expect Jokowi is compelled to gradually remove it especially when the nation is struggling with a twin deficit. As fuel subsidy cut a possibility, we expect inflation to pick up in the 2H19 and amplified by seasonally higher inflationary pressure ahead of Eid-ul-Fitr celebration, bringing inflation to hit the lower end of our forecast range of 3.1-3.6% (2018: 3.2%).

● Focus on boosting domestic demand. After the country's GDP grew 5.2% in 2018 (2017: 5.1%) beating consensus’ 5.1% and marking the highest growth since 2013, the Indonesian economy is expected to grow a decent 5.1% this year (Bloomberg’s consensus) amid ongoing US-China trade tension and global growth slowdown thanks to its domestic consumption which have remained resilient backed by its young and vibrant population. On average, the economy grew 5.0% during Jokowi’s first term as president, still below the 7.0% target that he set upon taking office back in 2014. Some critics argue that the Indonesian economy is running on autopilot and Jokowi failed to boost growth despite massive government spending much of it on improving public infrastructure. Government expenditure reached USD155.0b in 2018 and precisely 26.8% are channelled towards construction projects. However, the economy grew just 5.2%. Recently the government has set aside more than USD400.0b to build airports, power plants and other major infrastructure in the next five years as well as reallocating its new capital city outside of Jakarta.

● Jokowi vows to liberalise and abolish rules that limit investment. Despite a list of mega projects in the pipeline, Indonesia needs to improve its Foreign Direct Investment (FDI) and the export-oriented sector. Indonesia received USD21.8b net inflows of FDI in 2018. Late last year, Jokowi laid out a plan to open more sectors to woo foreign investors by revising the 2016 Negative Investment List (DNI). According to Indonesia’s Industry Minister, the government plans to make Indonesia a regional manufacturing powerhouse that focusses on automotive, chemicals and electronic industries to boost the contribution of the manufacturing sector to 25.0% of the economy by 2025 (2018: 20.0%). We see this as a positive move amid the fact that Indonesia’s protective and strict policies has all the while been hindering its growth potential. The impact of such move, however, is expected to boost the economy in the long term.

● Improving tax compliance and balancing growth. Indonesia’s tax revenue to GDP is among the lowest in ASEAN, although its fiscal deficit remains relatively low at 1.8%. In the 2019 state budget, the government is expected to collect USD125.8b in taxes or 72.5% of state revenue. Though the contribution to the government’s coffers remains significant, overall tax to GDP is projected to be below 12.0% and among the lowest in the region after Myanmar mainly due to poor tax compliance. Jokowi in the presidential debate a few months ago conveyed that he has consistently conducted reforms in taxation in a bid to increase the government’s revenue. He introduced a tax amnesty program back in 2016-17, which successfully increased tax collection and number of taxpayers while saw assets worth around USD330.0b declared. Also, there is a slight improvement in services and online taxes related to submission of annual tax returns (SPT) through e-filing facilities. In its election campaign, Jokowi pledge to cut corporate tax rates although no specific tax rate was proposed. Indonesia currently taxes corporates between 20.0-25.0% and is considered one of the highest in the region.

● Moving forward, we believe Indonesia would eventually enjoy robust economic growth if it pursues diligently the planned structural reform and liberalisation, particularly to raise FDI and reduce trade restrictions. Hence, we forecast Indonesia’s GDP growth to grow by 5.0% in 2019 a tad lower than last year’s 5.2% and below consensus but matching the average growth of Jokowi’s first term in office, weigh down by external uncertainties in particular on the impact of the US-China trade war, China slowdown and weak commodity prices. While BI has enough space to reverse its 7-day repo rate following six rates hikes last year to stem Rupiah’s sharp depreciation and narrowing of its current account deficit, we maintain our outlook that the policy rate would stay put this year barring unforeseen external shocks. This is mainly to support its structural reforms, global economic uncertainties and to stabilise the Rupiah.

Source: Kenanga Research - 23 May 2019