Indonesia economic quarterly : building momentum

53864 INDONESIA ECONOMIC QUARTERLY Building momentum March 2010 Preface The Indonesian Economic Quarterly reports on and synthesizes the past three months' key developments in Indonesia's economy. It places them in a longer-term and global context, and assesses the implications of these developments and other changes in policy for the outlook for Indonesia's economic and social welfare. Its coverage ranges from the macroeconomy to financial markets to indicators of human welfare and development. It is intended for a wide audience, including policy makers, business leaders, financial market participants, and the community of analysts and professionals engaged in Indonesia's evolving economy. This Indonesian Economic Quarterly was prepared and compiled by the macroeconomic analysis team at the World Bank's Jakarta office, under the guidance of Lead Economist Shubham Chaudhuri and Senior Country Economist Enrique Blanco Armas: Andrew Blackman (trade flows, balance of payments and the ACFTA), Andrew Carter (government revenues), Andrew Ceber (national accounts and domestic demand), Fitria Fitrani (trade flows and the ACFTA), Faya Hayati (prices), Ahya Ihsan (government expenditure and fiscal multipliers), Telisa Falianty (monetary conditions), Neni Lestari (banking sector), Peter McCawley (the PRJMN), Hassan Noura (education spending), Ririn Purnamasari and Matt Wai-Poi (recent developments in household welfare), Preya Sharma (fiscal multipliers), and Diva Singh (financial markets, banking sector and the costs of sterilization), and Djauhari Sitorus (banking sector). Enrique Blanco Armas, Tim Bulman and Andrew Ceber shared the editing. Ashley Taylor, Nathan Dal Bon and Jonas Fallov provided detailed comments on early drafts, and Diva Singh is grateful to comments from IMF Senior Resident Representative Milan Zavadjil on Part B-2. For more World Bank analysis of Indonesia's economy: For information about the World Bank and its activities in Indonesia, please visit www.worldbank.org/id To be included on an email distribution list for this Quarterly series and related publications, please contact madriani@worldbank.org. For questions and comments relating to this publication, please contact tbulman@worldbank.org. i Table of contents Executive summary: Building momentum i A . ECONOMIC UPDATE 1 1. Indonesia's economic momentum built through 2009 1 a. Growth continues to be broadly based across both expenditure categories and production sectors .............................................................................................................................................. 1 b. Trade volumes accelerate in line with the domestic and international recovery....................... 3 2. Indonesian financial markets have held up well against the increased volatility in global markets 4 a. Despite global turbulence, Indonesian equities have been relatively resilient and the rupiah and fixed income market continue to perform strongly ............................................................... 4 b. The balance of payments surplus increased slightly in Q4, supported by the surplus and capital inflows .................................................................................................................................. 8 c. Growth in the money supply has remained relatively contained, and BI has not changed its policy interest rate........................................................................................................................... 8 d. The banking sector shows good health overall although the performance of certain subcategories is mixed ................................................................................................................... 9 3. Food price rises dominated movements in inflation around the turn of 2010 11 4. The government's budget deficit in 2009 was somewhat smaller than expected 12 a. Stronger end-of-year revenues, partially offset by slightly stronger expenditure reduced the budget deficit to 1.6 per cent of GDP in 2009.............................................................................. 12 5. The economic outlook remains for an ongoing gradual recovery 16 a. Buoyant domestic demand is expected to offset a declining contribution from net exports, while the current account surplus is likely to narrow ................................................................ 16 b. Inflation is likely to remain moderate through the first half of 2010, rising later in the year .. 19 c. Domestic developments have generated downside risks to Indonesia's outlook, while the external environment may be more supportive than expected in late 2009 ............................. 19 d. In 2010 revenue is expected to recovery in line with a recovering domestic economy .......... 21 B . SOME RECENT DEVELOPMENTS IN INDONESIA'S ECONOMY 24 1. Estimating the impact of Indonesia's fiscal stimulus 24 a. How can the economic impact of fiscal stimulus packages be measured? ............................ 24 b. Using fiscal multipliers to estimate Indonesia's 2009 fiscal stimulus impact.......................... 26 2. The ongoing implementation of the ASEAN-China free trade agreement 27 a. At the start of 2010 Indonesia made further, relatively small cuts in its tariffs on imports from China...................................................................................................................................... 27 b. As bilateral tariff rates have fallen, trade between Indonesia and China has increased... ..... 29 c. Studies suggest that Indonesia's economy, overall, gains from the ACFTA ........................... 30 3. Capital inflows and central bank sterilization 32 a. BI has chosen to tackle capital inflows through a combination of allowing the rupiah to appreciate, and intervening in the foreign exchange market while sterilizing that intervention32 b. Despite the longstanding debate surrounding the potentially high costs of sterilization, the costs to Indonesia over the past six months have been limited ............................................... 34 4. The impact of Indonesia's `20 per cent rule' on the level and quality of education spending 35 C . INDONESIA 2014 AND BEYOND: A SELECTIVE LOOK 40 1. Indonesian households are recovering from the shock that occurred in the wake of the global financial crisis 40 2. Some key features of the Government of Indonesia's Medium Term Development Plan (RPJMN) 2010-2014 43 a. The recently unveiled RPJMN 2010-14 will be guiding sectoral and regional development plans as well as budgets for the next 5 years ............................................................................. 43 b. The RPJM puts renewed emphasis on the need to accelerate growth over the coming half- decade