“Growth has been constrained this year by tighter monetary conditions and the ban on unprocessed mineral ores that dented exports,” said ADB’s Deputy Country Director for Indonesia, Edimon Ginting, in launching the report. “But major planned reforms to further improve the investment climate, boost the efficiency of the bureaucracy and accelerate infrastructure development, could improve growth prospects going forward.”

Indonesia’s GDP growth slowed to 5.2 percent in the first half of 2014, the slowest pace since 2009, after the central bank (Bank Indonesia) raised interest rates last year to restrain domestic demand and rein in inflation and the current account deficit. The slowdown has been sharper than anticipated, due to weak exports as several major export markets grew less quickly than expected.

Merchandise exports fell 2.3 percent in US dollar terms in the first half, weighed down by subdued demand and soft prices for export commodities including coal and rubber. Merchandise imports fell 4.4 percent, led by raw materials and capital goods. The trade surplus nearly tripled in the first half from a year earlier to USD $2.9 billion. Deficits in services trade and in the income account produced a current account deficit of USD $13.3 billion, equal to 3.1 percent of GDP.

Private consumption, which accounts for almost 60 percent of GDP, grew a robust 5.6 percent in the first half of 2014 and made the biggest contribution to GDP growth from the demand side. Consumption received a boost from election-related spending. Decelerating inflation and good harvests supported consumer confidence and farmers’ incomes, but tighter credit hurt sales of consumer durables such as automobiles.

Foreign direct investment was relatively buoyant at USD $10.5 billion, and portfolio investment inflows rose sharply to USD $16.8 billion in the first half. Foreign investors increased their holdings of government bonds by USD $7.3 billion in the January to August period. These large inflows more than offset the current account deficit to keep the balance of payments in surplus. The Indonesian rupiah appreciated by 4.1 percent against the US dollar in the first eight months of 2014, after depreciating 19.5 percent in 2013.

The growth outlook for 2014 and 2015 assumes the new government, which takes office in October 2014, will implement the major policies outlined during the elections: improving the investment climate, reforming the bureaucracy, and accelerating infrastructure development. The 0.5 percent uptick expected in 2015 will be driven by a stronger outlook for the major industrial economies, which should spur exports and investment.

Growth in private consumption is projected to remain robust. Lower inflation is supporting consumption this year, and the government is expected to use cash transfers to compensate low-income groups for higher fuel prices in 2015.

Private investment is seen improving over the forecast period, benefiting from the successful national elections and expectations that the new government will implement reforms. Growth in investment loans remains high at 30 percent despite tighter monetary policy.

Inflation is seen averaging 4.2 percent in the second half of this year and will likely average 5.8 percent for the full year, slightly higher than expected due to additional increases in electricity tariffs and likely upward pressure on food prices from the anticipated dry weather late in 2014. Inflation is projected to increase temporarily to average 6.9 percent in 2015, assuming the government increases fuel prices by 30 to 50 percent.

Meanwhile, the ADB trimmed its economic growth forecast for Southeast Asia in 2014 on political turmoil in Thailand (earlier in the year) and weaker commodity export prices in Indonesia. The institution expects Southeast Asia to grow 4.6 percent this year, down slightly from its previous forecasts in in July (4.7 percent), and April (5.0 percent). Economic growth forecasts for Thailand, the Philippines, Vietnam and Singapore have been trimmed, while growth forecast for Malaysia has been raised.

Source: Asian Development Bank