Alhamdulillah, in two consecutive days my articles have been published in Indonesian newspapers. Today (Thu, 28th May 2015), my opinion is published by the Jakarta Post. You can read this article in Jakarta Post’s website as well (clik here). Enjoy!

2015_05_28_Indonesia needs more fiscal stimulus1

Note: Thanks to Sona Maesana – President of Indonesian Students Association in Coventry (PPI Coventry) 2013/2014, for sending this picture.

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Indonesia’s economic growth stumbled in the first quarter to 4.7 percent from 5 percent (year-on-year) in the same period last year. This was the worst performance since the global financial crisis in 2009. Aside from investment, most indicators, i.e. private consumption, government expenditure and net exports, performed poorly.

Although it was still very robust, private consumption growth slowed down. This strong consumption was supported by low and stable inflation. The first two months even saw deflation. Ironically, the real incomes of laborers and farmers still declined in the last few months.

In view of the upcoming Ramadhan fasting month and Idul Fitri, consumers also worry that prices, particularly of foods, transportation, communication and financial services, will increase significantly in the second quarter. Therefore, consumer confidence surveys — e.g. from Bank Indonesia (BI), the Central Statistics Agency (BPS) and Danareksa — showed a declining trend. For example, BI’s consumer confidence index in April 2015 weakened by 9.5 points to be 107.4, despite still being in its optimistic level (above 100 points).

Furthermore, the trade balance remains very weak because of weak demand and low commodity prices. Indonesia’s major trading partners, in particular China and the US, grew very slowly.

Thankfully, investment in Indonesia still grew at 4.4 percent, a bit higher than in the previous quarter (4.3 percent) because of an increase in non-construction investment. However, construction investment declined significantly because investors still in “wait and see” mode concerning the realization of the government’s projects.

Thus, Indonesia does not have many options to boost the economy. In view of the upcoming US tight money policy, Indonesia cannot use monetary policy tools to boost the economy by cutting interest rates as this will push the rupiah exchange rate down.

Last February, when BI decided to cut interest rates by 25 basis points (bps), the rupiah reached Rp 13,000 per US dollar, the worst level since 1998. You can imagine what would happen if BI cuts its interest rates again. A much more massive capital outflow, deeper rupiah depreciation and higher foreign debts could be the consequences. Hence, a lower BI rate is unlikely within the next few months.

Therefore, it is more effective to conduct expansionary fiscal policies (EFP) than monetary policy to pump the current economy. A government can conduct EFP by giving tax incentives and/or allocating more government expenditures. The first option seems unlikely because President Joko “Jokowi” Widodo’s administration wants to increase government revenue through larger tax receipts, while revenues from oil are projected to continue to fall. Hence, the only option left is boosting government expenditures.

However, there are several key challenges in increasing government expenditures in Indonesia.

First, the government is prohibited by law from booking a budget deficit of more than 3 percent of gross domestic product (GDP). In the revised 2015 budget, the government plans to have a budget deficit only 1.9 percent of GDP, or much lower than last year’s 2.2 percent. But the government actually still has enough fiscal space to provide stimulus to the economy through a higher budget deficit. For every additional 1 percentage point of budget deficit, the government can get US$10 billion in additional funds.

Second, because of high interest rates, the government will bear more expensive debts. Yet, as long as the debts are used for productive spending, in my opinion we will still gain more. In addition, Indonesia’s debt ratio of 25 percent, i.e. the ratio of total debt over total GDP, is relatively low compared to that of our neighbors Malaysia and Thailand (50 percent), or of advanced countries, such as the UK and the US (around 100 percent) and Japan (nearly 250 percent).

Third, the government has bad credibility in regards to budget expenditures. Most budget expenditures have gone to routine spending (e.g. government employee salaries, oil subsidies, debt interest payments, etc.).

If the government decides to spend more or run a higher budget deficit, it has to ensure that the additional budget is used for productive purposes, in particular to solve infrastructure problems by providing new roads, ports, air ports, energy suppliers, etc.

Lastly, an expansionary fiscal policy requires a strong political will from the government itself. A slow pace of government investment spending in the first quarter has caused investors to doubt whether the government is really serious about its promises to speed up infrastructure development through massive investments.

The government should substantially accelerate the pace of its investment spending in the second quarter to convince the market that it is really serious about its massive infrastructure programs.
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The writer is an economist at the Institute for Development of Economics and Finance (INDEF), Jakarta. – See more at: http://www.thejakartapost.com/news/2015/05/28/indonesia-needs-more-fiscal-stimulus.html#sthash.VQw9CpsB.dpuf

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