September 11, 2013 7:07 pm

Jitters in Jakarta

Any reform in Indonesia is unlikely to come before 2014

For many years foreign investors flocked to Indonesia, attracted by a tantalisingly large domestic market, cheap labour costs and supercharged growth. Since the summer, however, Jakarta has lost its shine. The rupiah has slumped, inflation has soared and the current account deficit has widened. Pessimists see parallels with the 1997 Asian crisis, which spread to Indonesia from neighbouring Thailand.

Such comparisons are overly gloomy. Indonesia’s banks and corporations are less exposed to foreign borrowing than in the 1990s, and are therefore better prepared to weather a slump in the rupiah. An increasingly large proportion of the current account deficit is now funded via foreign direct investment, which cannot be easily reversed in a crisis.

Yet, the pressure on the rupiah is unlikely to ease any time soon. The announcement by the US Federal Reserve that it may slow down on asset purchases prompted an exodus of investors from emerging markets. This may well accelerate when the Fed finally pulls the trigger. For years Indonesia has expanded by feeding China’s hunger for commodities. Beijing’s move away from an investment-led model will hamper Indonesia’s growth prospects, inevitably dampening investor sentiment.

The long boom created an air of complacency in Jakarta. But the authorities have belatedly woken up. The central bank hiked its benchmark rate – a move which was overdue given that inflation was never completely under control. The government has cut its fuel subsidies bill, a welcome step that should ease concerns over the future direction of fiscal policy.

The most pressing question, however, is how to create a business climate that continues to be attractive for investors. Upgrading infrastructure, fighting corruption and reforming a capricious judiciary are all essential steps. But equally important is to open up the many sectors of the economy – such as mining – which are currently dominated by a few rent-seeking oligopolists. The affluence of the few should not come at the cost of the prosperity of the many.

This week Chatib Basri, finance minister, vowed that the government will turn the crisis into an opportunity. But with a presidential vote scheduled for 2014, the political parties are likely to spend more time campaigning than finding ways to shake up the economy. The onus will almost certainly lie with the next government. For Indonesia next year’s vote could prove to be more important than this summer’s turmoil.

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