Indonesia Economic Quarterly, July 2014Hard choices

Ndiamé Diop

Lead Economist

The new administration will face major near-term challenges

Hard choices 2

Poverty and

inequality reduction

Economic growth

Fiscal pressures

External pressures

Ending extreme poverty and achieving shared prosperity? OR

Persistent pockets of extreme poverty and many Indonesians left behind?

International backdrop

Hard choices 3

Jan-12 Jul-12 Jan-13 Jul-13 Jan-1450

60

70

80

90

100

110

120

Coal

Palm oil

Brent oil

Rubber

Copper

Source: World Bank

…but most global commodity prices, except oil, continue to decline(index, January 2012 = 100, 3mma)

High-income economy growth is strengthening…(manufacturing PMI, +50=expansion)

44

46

48

50

52

54

56

58

60

Euro area

US

Japan

Source: Markit

Economic growth - Will Indonesia return to 6% growth?

Hard choices 4

(annual growth, percent)

Source: BPS; World Bank staff calculations

-1

0

1

2

3

4

5

6

7

8East Asia Pacific (excl. China & Indonesia)Indonesia

Forecast

2009 2010 2011 2012 2013 2014 (1)

2014 (2)

0

100

200

300

400

500Fiscal deficit Debt payments

Note: 2014 (1) is initial Budget (APBN), (2) is revised Budget (RAPBN-P)Source: Ministry of Finance; World Bank staff calculations

Fiscal risks are building up steeply

Hard choices

5

… and contributed to a substantial rise in government financing needs

2011 2012 2013-2

3

8

13

18

23VAT

Income tax (non-oil and gas)

Oil and gas revenues (tax and non-tax)

Intl. trade taxes

All other revenues

Significantly weaker revenue growth has added to expenditure-side pressures…(contributions to overall nominal revenue growth, percentage points)

Source: Ministry of Finance; World Bank staff calculations

(IDR trillion)

External balance still in focus despite macro stabilizing measures

Hard choices 6

Source: CEIC; World Bank staff calculations

…which have been hit by ongoing commodity sector challenges(contributions to export value growth yoy, percentage points)

After successful macro stabilization, focus now on weak exports…(export and import USD values, yoy growth, 3mma)

Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14-20

-10

0

10

20

30

40

50

Exports

Imports

Source: CEIC; World Bank staff calculations

-20

-15

-10

-5

0

5

10 Non commoditiesCommodities

Moderate pace of growth expected to continue

Hard choices 7

July IEQPrevious

(March IEQ)

2012 2013 2014p 2015p 2014p 2015p

Real GDP (% change) 6.2 5.8 5.2 5.6 5.3 5.6

Consumer price index (% change) 4.3 6.9 5.8 4.9 6.2 5.2

Current account balance (% of GDP) -2.8 -3.3 -2.9 -2.4 -2.9 -2.1

Budget balance (% of GDP) -1.9 -2.2 -2.8 n.a. -2.6 n.a.

Source: BI; BPS; Ministry of Finance; World Bank staff projections

Addressing near-term macro challenges

Reinvigorating growth

Fiscal pressures

External pressures

…AFFECTS THE CAPACITY TO DELIVER ON KEY

STRUCTURAL REFORMS:

- SUPPLY-SIDE REFORMS

Infrastructure

Skills

Functioning of markets

- REFORMS TO ENSURE SHARED PROSPERITY

Local access to services

Social protection

Management of disaster risks & resilience

FISCAL REFORMS

Redirecting spending

Mobilizing revenue

…and achieve key development

outcomes

Faster poverty reduction

Reduced inequality

Assessing the hard policy choices ahead

Hard choices 8

Inequality is a growing problem in Indonesia

9

Inequality on the rise in recent years… …and increasing faster in Indonesia than in its neighbors

Ch

ina

Ind

on

esi

a

La

os

Ind

ia

Vie

tna

m

Ca

mb

od

ia

Ph

ilip

pin

es

Ma

lays

ia

Th

aila

nd

-0.4

-0.2

0.0

0.2

0.4

0.6

0.8

Source: Kanbur, Rhee and Zhuang, 2014, “Inequality in Asia and the Pacific”; World Bank staff calculations

(percent, LHS; percentage points, RHS)

Note: Poverty rates are March BPS estimates; 2014 GDP growth: World Bank projectionSource: BPS; World Bank staff calculations

(1990-2011 annual average change in Gini coefficient, percentage points)

Hard choices

20002002

20042006

20082010

20122014

0

5

10

15

20

25

0

10

20

30

40

50

GDP (LHS)

Official poverty rate (LHS)

Inequality (Gini coefficient, RHS)

10

Inequality can slow down economic growth

Preliminary research comparing districts in Indonesia indicates that high levels of inequality hurt growth.

Inequality slows down poverty reduction

If all households received growth equally, poverty would have fallen from 17.4 percent in 2003 to 0 percent by 2010.

Inequality can trigger conflict and social tension

Districts with Gini coefficients of 40 experienced 60 percent more conflict than districts with Gini coefficients of 20.

The majority of Indonesians believe that the country is more unequal than they’d like it to be

Why does inequality matter for Indonesia?

Hard choices

11

Children are born with unequal opportunities

What is causing the rise in inequality?

Source: Susenas; DHS; World Bank staff calculations

Unskilled birth attendant

Not fully immunized

16-18 year olds not enrolled

No clean drinking water

No proper sanitation

Decile 10, urban Decile 1, rural

Returns from jobs favor the rich and well-educated

SMP

SMA

Tertiary

SMP

SMA

Tertiary

0

20

40

60

80

100

1202003

Worker Wage Premium

Household Con-sumption PremiumSource: Sakernas; Susenas; World Bank staff

calculations

(lack of access, percent) (wage and consumption premiums compared to workers with primary education, percent)

Hard choices

12

What is causing the rise in inequality?

The poor are more vulnerable to shocks to their income

All households face risks, for example health, cost of living shocks, and natural disasters, that can affect their income

The rich have access to more efficient coping mechanisms to respond to shocks (savings, insurance, good jobs, etc.); the poor often do not

The poor are less able to take risks to increase their income

The rich benefit from greater returns to capital(annual change in real terms, percent)

Source: Indonesia Stock Exchange; BPS; Sakernas; World Bank staff calculations

Hard choices

-80

-60

-40

-20

0

20

40

60

80

100 Real formal wages

Real informal wages

Real JCI price return

13

83% of Indonesians believe it is “urgent” for the new government to tackle inequality

Distribution: improve spending and taxation policies (for example, eliminate regressive fuel subsidies, enhance tax compliance)

Opportunities: increase poor households’ access to high quality education and health

Mobility: support labor mobility for high-quality job creation

Safety nets: adequate and well-targeted, to reduce the vulnerability of the poor to shocks

What can be done to address rising inequality?

Hard choices

Thank youJuly 2014 IEQ Contents: Regular update on economic

developments and the outlook New purchasing power parity-adjusted

estimates of Indonesia’s economy Inequality is growing in Indonesia and it

matters for policy El Niño, forest fires and haze: the

imperatives for concrete action

On the web:

http://www.worldbank.org/en/news/feature/2014/07/21/indonesia-economic-quarterly-july-2014