March 22, 2017

Indonesia Economic QuarterlyMarch 2017

Staying the Course

Hans Anand BeckActing Lead Economist, Indonesia

2016 stronger economic fundamentals despite global uncertainty Growth was higher than previous year for first time

in five years

Prospects for a pick up are subject to risks and challenges Early signs of pickup including on consumer

spending, employment, revenue collection and infrastructure spending.

Staying the course crucial for realizing prospects Maintain vigilance, continue strong macro-

economic management, sustain reform momentum. Opportunity to raise competitiveness by

reducing restrictiveness of service sector Review subsidy programs (KUR)

Key Takeaways

3

Staying the course is crucial for realizing prospects

Prospects for a pick up, but subject to risks and challenges

2016 stronger fundamentals despite global uncertainty

4

-2

0

2

4

6

8

2012 2013 2014 2015 2016 2017

Statistical discrepancy* Net exportsGross fixed capital formation Government consumption expenditurePrivate consumption expenditure Gross domestic product

Despite global headwinds, annual real growth increased in 2016, for the first time in 5 years…

Contributions to GDP growth, percentage points

5

2015 2016

Real GDP (Annual percent change) 4.9 5

Consumer price index (Annual percent change) 6.4 3.5

Current account balance (Percent of GDP) -2.0 -1.8

Budget balance (Percent of GDP) -2.6 -2.5

Source: BI: BPS; MoF; World Bank staff calculations Note: 2016 actual outcome; f stands for forecast

….as part of a broader strengthening of economic fundamentals

6

Staying the course crucial for realizing prospects

Prospects for a pick up, but subject to risks and challenges

Robust growth in the face of global uncertainty

7Source: World Bank Global Economic Prospects January 2017

Percent, growth

External conditions are forecast to firm up.

0

1

2

3

4

5

World AdvancedEconomies

Emerging andDevelopingEconomies

Major TradingPartners excluding

China

2015 2016e 2017f

2.32.72.7

2.11.6 1.8

3.5 3.4

4.2

2.72.73.0

Early shoots of consumer confidence emerging…

8

Source: BPS; Nikkei/Markit Source: ASI; GAI; World Bank staff calculations

Consumer durables leading indicators

-40

-20

0

20

40

Jan-15 Jan-16 Jan-17

Motorcycle Sales

Cement Sales

Car Sales: Commercial

Car Sales: Passenger

3month ma growth yoy, percent

9

2

3

4

5

6

7

8

2002 2004 2006 2008 2010 2012 2014 2016

Unemployment rate - core

(20)

(15)

(10)

(5)

-

5

10

15

20

25

-

100

200

300

400

500

600

700

800

900

1,000

Real median monthly income (LHS)

Real median monthly income growth (RHS)

Core unemployment fell to its lowest rate since 2012 and real earnings growth appeared to strengthen significantly in 2016

…supported by an employment rebound and real wages.

10Source: Ministry of Finance; World Bank staff calculations

Tax collection is picking up again (Jan-Feb)…

Contributions to annual revenue growth, Percentage Points

Total revenue collection increased by 8.9 percent yoy, but levels are still lower than 2014 and 2015

Non oil and gas income taxOil and gas related revenues

VAT/LGST

Excises and other taxes

-25

-20

-15

-10

-5

0

5

10

15

20

25

Jan-Feb 2014 Jan-Feb 2015 Jan-Feb 2016 Jan-Feb 2017

Revenue growth

11

Source: Ministry of Finance Data; World Bank staff calculations Note: Target revenue path is calculated by using the average percentage monthly contributions to total revenues (2010-16)

and the Budget 2017 Total Revenues target

-

630

1,260

1,890

2016 actual collection

2017 Inferred collection path to targetIDR Trillion

…but there is a long way to go to meet 2017 targets.

2017 actual collection

- 20 40 60 80

100 120 140 160 180 200

January February

12

0.0

1.0

2.0

3.0

4.0

5.0

6.0

2014 2015 2016 2017

Jan-Feb capital expenditure outturns(IDR Trillion)

January-February capital expenditure sustains high level achieved in 2016; Early procurement policy continued: by mid February, a third of Ministry of Public

Works budget had been contracted

Government capital spending began 2017 well.

13

Contributions to goods exports values growth, percentage points

Source: CEIC and staff calculations

-25-20-15-10

-505

101520

Dec-14 Dec-15 Dec-16

Oil and gas Coal MiningPalm oil Rubber ManufacturingOther Total exports

Manufacturing and commodities increased

Exports are growing for the first time since 2013, carried by manufacturing, and commodities....

14

Energy prices forecast to surge 26 percent this year

Source: World Bank Pink Sheet; CEIC; World Bank (2017); World Bank Staff Calculation

…supported by a positive commodities terms of trade shock, which forecasts suggest will be temporary

Inde

x 20

11 =

100

Forecast

50

75

100D

ec 1

4

Jun

15

Dec

15

Jun

16

Dec

16

2017

2018

2019

2020

Downside risks easing but still dominate upside

15

External risks

Domestic risks

Upside Downside

January IEQ risk balance

16

Staying the course is crucial for realizing prospects

Prospects for a pick up, but subject to risks and challenges

Robust growth in the face of global uncertainty

Indonesia is in the top decile of countries in terms of restrictions

17

Staying the course by, for example, reforming services sector…

OECD Services Trade Restrictiveness Index for Indonesia

0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 1

EngineeringArchitecture

Logistics customs brokerageComputer

Logistics storage and warehouseRoad freight transport

Rail freight transportConstruction

Maritime transportBroadcasting

AccountingLogistics cargo-handling

InsuranceCommercial banking

TelecomLogistics freight forwarding

Air transportLegal

Indonesia

Average acrosscountries

By removing barriers to services trade, increased openness would likely: Improve quality Reduce price for

some sectors Help facilitate

introduction of new services

Expose domestic market to new knowledge

18

…to improve service sector productivity and competitiveness.

0

5

10

15

20

25

30

35

40

45

Indonesia Korea Malaysia Philippines Thailand

Indonesia has relatively low productivity in a number of areas

5 reasons to re-consider the new KUR program’s effectiveness*

19

Review costly, regressive and untargeted subsidies like the KUR program.

Principle Reason new KUR program is not optimalRelevance x Sustainable loans access more important for MSMEs than lower

interest rates

Costs x Expansive coverage of KUR means higher costs

Competitive environment

x High risk market for MSME loans impeded as subsidies crowd out commercial lending

Equity among participants

x Regressive, as total subsidy Government pays increases linearly with loans size

Sustainability x Current KUR interest rate deviates significantly from market rates and is not financially sustainable

* Original KUR program introduced 2007; new design introduced 2015

Terima Kasih

20