98105 July 2015 Slower gains INDONESIA ECONOMIC QUARTERLY Slower gains July 2015 Preface The Indonesia Economic Quarterly (IEQ) has two main aims. First, it reports on the key developments over the past three months in Indonesia’s economy, and places these in a longer- term and global context. Based on these developments, and on policy changes over the period, the IEQ regularly updates the outlook for Indonesia’s economy and social welfare. Second, the IEQ provides a more in-depth examination of selected economic and policy issues, and analysis of Indonesia’s medium-term development challenges. It is intended for a wide audience, including policymakers, business leaders, financial market participants, and the community of analysts and professionals engaged in Indonesia’s evolving economy. The IEQ is a product of the World Bank’s Jakarta office and receives editorial and strategic guidance from an editorial board chaired by Rodrigo Chaves, Country Director for Indonesia. The report is compiled by the Macroeconomics and Fiscal Management Global Practice team, under the guidance of Shubham Chaudhuri, Practice Manager, and Ndiame Diop, Lead Economist. Led by Alex Sienaert, Country Economist, and with responsibility for Part A, editing and production, the core project team comprises Arsianti, Magda Adriani, Masyita Crystallin, Fitria Fitrani, Ahya Ihsan, Elitza Mileva (Part A lead) and Violeta Vulovic, with additional editing and input from Edgar Janz, Yue Man Lee, Peter Milne, Bede Moore, Arvind Nair and Ririn Purnamasari. Administrative support is provided by Titi Ananto. Dissemination is organized by Surya Ningnagara, Kurie Suditmo, Indra Irnawan, Jerry Kurniawan, Desy Mutialim and Nugroho Sunjoyo, under the guidance of Dini Djalal. This edition of the IEQ also includes contributions from Mattia Makovec (Part A, labor markets), Monica Wihardja and Arief Anshory Yusuf (Part A, CPO export tariff), Michele Savini Zangrandi, Gonzalo Varela, Milan Nedeljkovic and Alex Sienaert (Part B.1, current account), Ahya Ihsan, Masami Kojima and Alex Sienaert (Part B.2, energy subsidies), Muchsin Chasani Abdul Qadir and Anh Nguyet Pham (Part C.1, geothermal energy), and Samer Al-Samarrai (Part C.2, BOS). The report also benefited from discussions with and in-depth comments from Hans Beck, Nikola Spatafora, Ekaterine Vashakmadze, and David Gottlieb (Australia Department of Foreign Affairs and Trade), David Nellor (Australia Indonesia Partnership for Economic Governance), John Burch and Natalie Horvat (Australia Indonesia Government Partnerships Fund). This report is a product of the staff of the International Bank for Reconstruction and Development/The World Bank, supported by funding from the Australian government under the Support for Enhanced Macroeconomic and Fiscal Policy Analysis (SEMEFPA) program. The findings, interpretations, and conclusions expressed in this report do not necessarily reflect the views of the Executive Directors of The World Bank or the governments they represent, or the Australian government. The World Bank does not guarantee the accuracy of the data included in this work. The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgment on the part of the World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries. The cover photograph is taken by Muchsin Chasani Abdul Qadir. The remaining photographs are taken by Jerry Kurniawan, Josh Estey and Muchsin Abdul Qadir and all are copyright of the World Bank. All rights reserved. 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 receive the IEQ and related publications by email, please email madriani@worldbank.org. For questions and comments, please email asienaert@worldbank.org. Table of contents EXECUTIVE SUMMARY: SLOWER GAINS ........................................................................ I  A. ECONOMIC AND FISCAL UPDATE ............................................................................... 1  1.  A growth slowdown is underway in many developing countries, particularly in commodity exporters ..... 1  2.  Indonesia’s economic activity decelerated further, with private consumption weakening too ................... 2  3.  Inflation remains sticky despite weaker domestic demand growth ............................................................. 5  4.  The current account balance narrowed further on account of low oil prices and weak imports................. 6  5.  Credit growth continued to weaken despite improving liquidity conditions ............................................. 10  6.  The implementation of the 2015 revised Budget is proving challenging ................................................... 12  7.  Ongoing labor market challenges may intensify due to lower growth ....................................................... 17  8.  More public investment can help to reinvigorate Indonesia’s weakening economy ................................. 19  B. SOME RECENT DEVELOPMENTS IN INDONESIA’S ECONOMY ........................ 21  1.  Indonesia’s current account – deficits are here to stay ............................................................................... 21  a.  A major trade shock has dominated current account dynamics in recent years ................................................ 22  b.  …but Indonesia’s current account balance has also declined due to longer-term structural factors… ............ 23  c.  …and appropriate policy responses are also longer-term in nature ................................................................... 25  2.  Fuel subsidies - a major reform, but not yet a durable one ........................................................................ 26  a.  The announced fuel subsidy reforms are a major positive step… ...................................................................... 26  b.  …but implementation of the new pricing system has so far been uneven and will need to be improved to achieve durable gains…....................................................................................................................................... 27  c.  …as part of ongoing, wider efforts to strengthen energy pricing polices ........................................................... 30  C. INDONESIA 2016 AND BEYOND: A SELECTIVE LOOK ........................................... 31  1.  Geothermal energy in Indonesia: realizing the potential ........................................................................... 31  a.  Investment has been impeded by high upfront costs and pricing difficulties… ............................................... 33  b.  …and resolving this will require more aligned public stakeholder goals and less regulatory complexity… .... 34  c.  …a strengthening of the tendering process… .................................................................................................... 34  d.  …a strengthening of the tariff system… ............................................................................................................. 35  e.  …and making power purchase agreements work ............................................................................................... 35  2.  Ten years of Indonesia’s school grants program (BOS) – successes and challenges ................................ 37  a.  The nuts and bolts of the BOS program ............................................................................................................. 37  b.  BOS has had a limited impact on reducing households’ education costs .......................................................... 38  c.  BOS has contributed to rapidly rising junior secondary enrolment rates........................................................... 40  d.  BOS is at the center of efforts to improve school-based management ............................................................... 40  e.  There is scope to significantly strengthen the impact of BOS spending ............................................................ 41  APPENDIX: A SNAPSHOT OF INDONESIAN ECONOMIC INDICATORS ................ 43  LIST OF FIGURES Figure 1: Growth trends in high income and developing countries are diverging .......................... 2  Figure 2: In commodity-exporting countries, fiscal buffers and growth are declining .................. 2  Figure 3: The real GDP deceleration continued in Q1 2015, with investment still subdued…....... 3  Figure 4: … and weaker private consumption growth, especially in nominal terms ...................... 3  Figure 5: Most sectors recorded weaker growth in the first quarter ............................................... 4  Figure 6: Monthly economic activity indicators suggest a further slowdown in Q2 2015 ............... 4  Figure 7: CPI inflation increased over April-June on account of high food prices ......................... 5  Figure 8: The current account deficit narrowed, while direct and other investment flows were relatively weak ........................................................................................................................ 7  Figure 9: The goods trade surplus rose on the back of a considerably smaller oil deficit .............. 7  Figure 10: Manufacturing exports have weakened in Indonesia and across the region ................. 8  Figure 11: Goods imports have continued to decline ...................................................................... 8  Figure 12: Indonesia is the world’s leading palm oil producer ....................................................... 9  Figure 13: Net foreign purchases of Indonesian assets were subdued in April and May but picked up in June ..................................................................................................................10  Figure 14: The Rupiah continued to depreciate but at a moderate pace .......................................10  Figure 15: Credit growth continued to fall despite improving bank funding conditions ...............12  Figure 16: Tighter financing conditions have been driven by weak credit growth in recent quarters..................................................................................................................................12  Figure 17: The first five months of 2015 saw broad-based weak revenue collection … .................13  Figure 18: … with all import-related tax revenues being particularly low .....................................13  Figure 19: VAT refunds grew slowly in January-April 2015 but rose as a share of gross VAT receipts ..................................................................................................................................13  Figure 20: Budget disbursement of capital and material expenditure remained low ....................14  Figure 21: Employment has risen by 26 percent since 2001, mostly in urban areas… ...................18  Figure 22: …but the employment rate has stagnated since 2012 ...................................................18  Figure 23: Growth has slowed down significantly in provinces more exposed to the commodity sector… .................................................................................................................................18  Figure 24: ...while the average annual increase in employment rates has declined across most regions ...................................................................................................................................18  Figure 25: The current account deficit has held at close to 3 percent of GDP despite currency adjustment.............................................................................................................................21  Figure 26: The current account balance has been recovering slowly from a large trade shock… 23  Figure 27: …with net commodity exports staying weak but the manufactures trade deficit slowly narrowing ............................................................................................................................. 23  Figure 28: Based on structural factors alone, it is normal for Indonesia to record current account deficits .................................................................................................................................. 24  Figure 29: Most of the increase in net foreign liabilities has been in FDI or other Rupiah- denominated assets .............................................................................................................. 24  Figure 30: Until 2015, fuel subsidy costs were high and almost always under-budgeted… ......... 27  Figure 31: …and, until 2015, contributed significantly to the increase in the fiscal deficit since 2010 ....................................................................................................................................... 27  Figure 32: The retail RON88 gasoline price has not changed since April 2015 ............................ 28  Figure 33: Geothermal working areas are located across Indonesia but still tap only a fraction of potential ............................................................................................................................... 32  Figure 34: Geothermal energy has not contributed significantly to increasing power generation 33  Figure 35: The value of BOS assistance for each student has increased considerably ................. 38  Figure 36: The introduction of the BOS program led to an initial drop in education spending by households ........................................................................................................................... 39  Figure 37: Enrolment in secondary schooling has been growing ................................................. 40  LIST OF APPENDIX FIGURES Appendix Figure 1: Quarterly and annual GDP growth ................................................................ 43  Appendix Figure 2: Contributions to GDP expenditures .............................................................. 43  Appendix Figure 3: Contributions to GDP production ................................................................. 43  Appendix Figure 4: Motorcycle and motor vehicle sales .............................................................. 43  Appendix Figure 5: Consumer indicators ..................................................................................... 43  Appendix Figure 6: Industrial production indicators.................................................................... 43  Appendix Figure 7: Balance of payments...................................................................................... 44  Appendix Figure 8: Current account components ........................................................................ 44  Appendix Figure 9: Exports of goods............................................................................................ 44  Appendix Figure 10: Imports of goods .......................................................................................... 44  Appendix Figure 11: Reserves and capital inflows ........................................................................ 44  Appendix Figure 12: Inflation and monetary policy ...................................................................... 44  Appendix Figure 13: Monthly breakdown of CPI.......................................................................... 45  Appendix Figure 14: Inflation comparison across countries ......................................................... 45  Appendix Figure 15: Domestic and international rice prices ........................................................ 45  Appendix Figure 16: Poverty and unemployment rate .................................................................. 45  Appendix Figure 17: Regional equity indices ................................................................................ 45  Appendix Figure 18: Selected currencies against USD ................................................................. 45  Appendix Figure 19: 5-year local currency govt. bond yields ........................................................ 46  Appendix Figure 20: Sovereign USD bond EMBIG spread .......................................................... 46  Appendix Figure 21: Commercial and rural credit and deposit growth ........................................ 46  Appendix Figure 22: Banking sector indicators ............................................................................ 46  Appendix Figure 23: Government debt ......................................................................................... 46  Appendix Figure 24: External debt ............................................................................................... 46  LIST OF TABLES Table 1: Under the baseline scenario, GDP growth is projected at 4.7 percent in 2015 ................ IV  Table 2: In the base case, GDP growth is expected to be 4.7 percent in 2015, picking up to 5.5 percent in 2016 ........................................................................................................................ 5  Table 3: In the base case, a current account deficit of 2.7 percent of GDP in 2015 is projected..... 8  Table 4: The World Bank projects a fiscal deficit of 2.5 percent of GDP in 2015...........................16  LIST OF APPENDIX TABLES Appendix Table 1: Budget outcomes and projections .................................................................. 47  Appendix Table 2: Balance of payments ....................................................................................... 47  Appendix Table 3: Indonesia’s historical macroeconomic indicators at a glance ........................ 48  Appendix Table 4: Indonesia’s development indicators at a glance ............................................. 49  LIST OF BOXES Box 1: Indonesia’s new CPO export levy may affect global CPO prices, but not necessarily positively ................................................................................................................................ 9  Box 2: Moving to market-based fuels pricing and raising government revenue while protecting the poor: recent examples from around the world ............................................................... 29  Slower gains Indonesia Economic Quarterly Executive summary: Slower gains Progress towards Midway through 2015, Indonesia remains confronted with an uncertain external Indonesia’s environment, and domestic economic policy challenges have intensified. GDP development goals decelerated to below 5 percent in the first quarter and private consumption has slowed due to expenditure, Indonesia’s engine of growth in recent years, is also slowing. Weaker uncertain external growth has resulted in slower job creation, with recent employment rising only just conditions, weaker enough to absorb the increase in working age population. While the commodity growth, and policy downturn since 2012 and policy responses have affected output growth the most in challenges… resource-rich provinces, employment creation has come under pressure across Indonesia. Yet the scope for policy stimulus is limited and monetary policy in particular is constrained due to sticky inflation and persistent external vulnerabilities. …and responding To achieve a sustainable return to higher economic growth, much depends on the effectively will success of the government’s ambitious infrastructure development plans, and on require careful further improvement of the business environment to reignite private investment. prioritization and Support to the economy from the fiscal sector, however, is being impeded by weak follow-through of revenues and very low capital spending year-to-date. In response, on the key reforms, expenditure side, allocations to priority infrastructure projects should be especially to safeguarded so that these can move ahead. This requires a fiscal deficit that is higher strengthen the fiscal than the 1.9 percent of GDP planned in the 2015 revised Budget, while still within sector and unlock the 3 percent of GDP legal limit. On the revenue side, the government has already more investment introduced important measures, such as electronic tax return submission and improvements in the income tax audit strategy. There is also scope to further optimize the tax regime, improve corporate income taxation, and revise value-added tax (VAT) exemptions to increase equity. On the other hand, improving the business environment hinges on greater consistency of regulations that define the functioning of markets, including firm entry, competition, trade and investment.1 1 See Indonesia Development Policy Review: “Avoiding the Trap”, The World Bank, 2014. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA I Slower gains Indonesia Economic Quarterly In many developing Despite gradually improving global economic conditions, the balance of countries, international risks to Indonesia’s outlook remains on the downside. Although the particularly in recovery in high income economies is picking up speed, many emerging market commodity economies are experiencing a slowdown, growing at rates considerably below their exporters, growth is recent ten-year trends. Furthermore, persistently low global commodity prices mean slowing down and that, in the near term, net commodity-exporting countries are likely to face both fiscal positions are weaker economic activity and deteriorating fiscal balances relative to the period weakening before 2012, when global commodity prices were rising. In addition to growth and fiscal risks, commodity-dependent economies, especially those with limited official reserve buffers and relatively large external financing exposures, may need to manage risks arising from further currency depreciation. GDP growth in Real output grew by 4.7 percent year-on-year (yoy) in the first quarter of 2015, the Indonesia declined slowest pace since 2009. Nevertheless, growth in Indonesia has remained resilient in to 4.7 percent yoy in comparison with growth in other countries which depend on Chinese demand for Q1 2015, driven commodities (e.g. Brazil and South Africa). Lower fixed investment growth mainly by fixed continues to drive Indonesia’s slowdown, contributing only 1.4 percentage points investment but also yoy to GDP growth in the first quarter, which is about half of the average quarterly by private growth contribution in 2010-2012. However, private consumption expenditure consumption… growth, which had previously remained resilient, is also moderating, to 4.7 percent yoy in the first quarter. Since its share in total GDP expenditures is about 55 percent, weakening private consumption is likely to weigh heavily on overall growth. In addition, the sizable decline in nominal consumption growth to 7.6 percent yoy in the first quarter, from 9.4 percent in the previous quarter and from 12.3 percent a year ago, has had a negative impact on the government’s VAT receipts. …contributing, The continuing growth slowdown, as well as lower global oil prices, helped narrow together with the the current account deficit to 1.8 percent of GDP in the first quarter. Goods drop in global oil imports contracted by 14.4 percent yoy in the first quarter, as domestic demand prices, to a moderated. Trade data for April and May show a further decline in imports, which somewhat narrower is unusual for the months before Ramadan and suggestive of a further deceleration current account in domestic demand. Goods exports fell by 13.9 percent yoy, mainly due to lower deficit commodity-related exports but also weak manufacturing exports. The latter was driven partly by subdued demand from China and Southeast Asian neighbors, both for intermediate inputs used in production chains and for final goods. Finally, the oil trade deficit declined by over 40 percent, to USD 3.2 billion, as the Indonesian Crude Price dropped from an average of USD 73 in Q4 2014 to USD 51 in Q1 2015. The decrease in the oil deficit was closer to 50 percent when compared to its level a year ago. Nevertheless, the current account deficit in Q1 2015 was only 0.1 percent of GDP narrower relative to its seasonally-comparable year-ago level, indicating that external adjustment has so far remained sluggish. The current account The government’s ambitious plans to ramp up infrastructure spending will, if deficit is partly successful, push up overall investment and increase Indonesia’s current account structural and deficit in the short-term. While such an investment-driven increase could enable the appears sustainable, economy to achieve a higher sustainable growth path, it could also place the risk of but merits policy external imbalances in renewed focus, particularly if global financial market steps to increase conditions become more challenging, as last occurred during the 2013 “taper competitiveness and tantrum”. Since then, the current account deficit has narrowed only modestly, reduce external despite significant import compression. While this owes mainly to continuing financing risks downward pressures on exports, a range of longer-term, structural factors also mean that current account deficits are likely to continue; Indonesia is still in the relatively J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA II Slower gains Indonesia Economic Quarterly early stages of economic convergence to higher-income trading partners, implying a faster growth rate, a higher domestic return on capital, and an excess of investment spending over domestic saving. Running moderately-sized current account deficits appears sustainable for Indonesia, especially if supported by policy measures to boost international competitiveness and to raise the efficiency of given levels of investment in generating growth, jobs and incomes. Securing a resilient mix of external financing sources, including foreign direct investment (FDI), and mobilizing more domestic saving, by improving access to finance and strengthening the domestic financial sector, can also reduce Indonesia’s vulnerabilities to volatile global financial market conditions. Despite the As domestic demand conditions have softened, credit growth slowed down further moderation in in the first four months of 2015, to 10.2 percent yoy in April (and only 3.2 percent domestic demand, yoy in real terms). The credit growth slowdown appears to have been driven stable fuel prices, increasingly by reduced credit demand, as deposit growth has steadily increased in and weaker credit the last four quarters, reaching 14.5 percent in April. Despite the moderation in growth, inflation credit growth, weaker economic activity, and unchanged gasoline and diesel prices remains sticky since March, inflation has accelerated in recent months, exceeding 7 percent yoy in May and June. The key reason for the significant rise in consumer prices has been a broad-based rise in food prices. The challenging The above-mentioned macroeconomic conditions, coupled with continued nominal economic exchange rate depreciation pressures, have tested monetary policy in recent months. environment has In response, Bank Indonesia (BI) has kept its main policy rate unchanged since prompted BI to keep February 2015, while introducing several accommodative macro-prudential interest rates measures, such as lowering bank loan-to-deposit ratios by including securities in the unchanged and definition of deposits, and increasing the loan-to-value ratios for mortgages and car loosen macro- and motorcycle loans. In addition, BI has intervened to smooth currency volatility prudential policy and issued new regulations to deepen the foreign exchange market and ease depreciation pressures. One of these regulations, effective on July 1, requires the use of Rupiah for all domestic cash and non-cash transactions. In the base case, Looking ahead, the World Bank expects GDP growth of 4.7 percent for 2015 GDP growth is (Table 1), as private consumption growth is expected to weaken further in the near expected to slow term. High-frequency indicators, such as car and motorcycle sales, the BI consumer down to 4.7 percent sentiment index, and monthly trade data, provide strong signals that private in 2015 on weaker consumption growth softened in the second quarter. Fixed investment growth is consumption still expected to increase in the second half of the year but by less than projected in growth… the March 2015 IEQ, owing to lower than expected public capital spending and associated crowding-in of private investment. Downward revisions to domestic demand have prompted an adjustment to the projected current account deficit, which is now expected to reach 2.7 percent of GDP in 2015. … with risks to the The main risks to the outlook, stemming from persistently lower commodity prices outlook firmly to the and tighter credit conditions, have not changed substantially since the March 2015 downside IEQ and are tilted to the downside. Weaker terms of trade continue to put pressure on corporate profits and household incomes, which is a key risk to the outlook for domestic demand. Similarly, there is a risk that domestic credit conditions do not start to ease by the end of 2015 as expected in the baseline scenario. In addition, the uncertainty with respect to international financing conditions, as the Federal Reserve normalizes US monetary policy, remains elevated. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA III Slower gains Indonesia Economic Quarterly Table 1: Under the baseline scenario, GDP growth is projected at 4.7 percent in 2015 2014 2015p 2016p Real GDP (Annual percent change) 5.0 4.7 5.5 Consumer price index (Annual percent change) 6.4 6.8 5.3 Current account balance (Percent of GDP) -2.9 -2.7 -2.9 Budget balance* (Percent of GDP) -2.2 -2.5 n.a Note: *Preliminary outturn (2014) and World Bank staff projections (2015). Source: BI; BPS; Ministry of Finance; World Bank staff calculations Achieving durable Fuel subsidy reform is one recent policy change that supports Indonesia’s external gains from the balances and policy buffers in the face of potential external financing risks, as well difficult fuel subsidy as conferring a host of other economic benefits. Budgeted fuel subsidy costs have reforms undertaken been slashed to 0.6 percent of GDP in 2015 (a quarter of their 2011-2014 level), by the government following a bold reform which became effective in January. However, the will require more implementation of the new pricing system for previously-subsidized low octane consistent, gasoline, and diesel, has been uneven so far, and the government has sent mixed transparent signals regarding additional changes. This has caused some confusion, and application of the contributed to ongoing concerns over whether wasteful and regressive subsidy new pricing system spending could increase again, particularly if Rupiah-denominated fuel prices rise further. Adhering on a transparent and consistent basis to the automatic price adjustments, as stipulated by the new regulations, during what could be a temporary window period of relatively low global oil prices, could go a long way towards building the public’s comfort with, and de-politicizing, fuel price changes. Indonesia has Regardless of the future direction of global oil and other energy prices, Indonesia’s tremendous energy needs are rising fast, and the country is fortunate to have one of the world’s geothermal energy largest endowments of renewable, clean geothermal energy. Although it is already resources but the world’s third largest generator of electricity from geothermal sources, this still harnessing them accounts for only about 3 percent of installed capacity and exploits only a fraction requires a more of potential. Ambitious plans to develop the sector have not so far resulted in the conducive regulatory necessary investments, which have been hampered by high initial costs, risks, and environment for complexity, including due to regulatory factors. More investment could be unlocked investment in the by revising geothermal tariff structures, improving project tendering processes, sector reaching closure on power purchase agreements and addressing institutional roadblocks and financing issues. Indonesia’s large- This edition of the IEQ also takes stock of Indonesia’s school grants program scale school grants (Bantuan Operasional Sekolah, BOS). Since its inception ten years ago, the BOS program is delivering program has become central to the government’s strategy for delivering good resources to 220,000 quality basic education, providing operational funds to 220,000 primary and junior schools and, after secondary schools, and madrassahs. The BOS program now has a proven track establishing a record in delivering resources to schools on a regular and timely basis. Other decade-long track countries, having also successfully established school grant programs and their record, can be financing mechanisms, have further developed them to address other education developed further to challenges, including to allocate a greater share of school funding in an effort to drive improvements promote more efficient spending, which is an urgent priority for Indonesia as well. in basic education Consolidating a larger share of budgetary resources, and in particular teacher remuneration, into the program has the potential to improve the quality of education spending. For example, linking teacher resources for schools to student numbers could create incentives for local governments to reduce the large number of small schools currently in operation in many parts of the country. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA IV Slower gains Indonesia Economic Quarterly A. Economic and fiscal update 1. A growth slowdown is underway in many developing countries, particularly in commodity exporters Different growth After a weaker than expected start to 2015, global growth is projected to pick up paths are projected gradually, supported by low commodity prices and ample liquidity. The diverging for advanced and growth trends between high income and developing countries, observed earlier in low- and middle- the year, have become more pronounced. Many low-and middle-income economies income countries… are likely to see their economic activity slow down in 2015. Since the downturn in the commodity price cycle began in 2012, GDP growth and fiscal balances in commodity-exporting countries have worsened significantly. ...as developing According to the World Bank’s June 2015 Global Economic Prospects, the recovery in economies face advanced economies is expected to pick up speed towards 2016. In fact, this group below-average of countries is projected to grow at rates close to the recent ten-year average growth in 2015… (excluding the crisis years of 2008 and 2009) (Figure 1). At the same time, many developing economies are experiencing a slowdown this year. The expected 2015 and 2016 growth rates in many emerging markets are considerably lower than their long-term average. However, the slowdown in economic activity in Asia, excluding China, is less pronounced than in other regions. … and commodity Apart from a subdued growth outlook, commodity-exporting countries are expected exporters contend to see their fiscal balances worsen compared with the period before 2012 when with weakened fiscal global commodity prices were rising (Figure 2). Indonesia’s fiscal position is positions deteriorating but by less than other major commodity exporters. Only the primary deficits of Australia and Malaysia are expected to improve this year relative to 20112, 2 The fiscal deficits of Australia and Malaysia were relatively wide in 2011 on account of the stimulus packages introduced in response to the global financial crisis, among other country-specific factors. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 1 Slower gains Indonesia Economic Quarterly the peak of the commodity cycle. In addition to growth and fiscal risks, Indonesia and other commodity-dependent economies, especially those with limited official reserve buffers, are exposed to currency risk and continuing external vulnerabilities. Figure 1: Growth trends in high income and Figure 2: In commodity-exporting countries, fiscal developing countries are diverging buffers and growth are declining (real annual GDP growth in select countries, percent) (change in the primary balance and GDP growth between 2011 and 2015 in select countries, percentage points) 12 2015f 2016f 2005-2014 (excl. GFC*) GDP growth Primary balance (% of GDP) 10 Russia 8 Qatar 6 Peru 4 Norway 2 Malaysia 0 Indonesia -2 Chile Brazil Australia Algeria -12 -10 -8 -6 -4 -2 0 2 Note: 2015 and 2016 figures are forecasts; * 2005-2014 annual Source: IMF World Economic Outlook; World Bank staff average excludes the global financial crisis of 2008-2009. calculations Source: World Bank Global Economic Prospects June 2015; World Development Indicators; World Bank staff calculations 2. Indonesia’s economic activity decelerated further, with private consumption weakening too Real GDP grew by In the first quarter of 2015, Indonesia’s real GDP grew at 4.7 percent year-on-year 4.7 percent yoy in Q1 (yoy), surprising analysts and extending the recent pattern of weaker output growth 2015, the slowest compared with an annual average pace of 6-6.5 percent in 2010-11 (Figure 3). pace since 2009 Although the main driver of the slowdown remains lower fixed investment growth, private consumption, Indonesia’s growth engine in recent quarters, is weakening too. In the first quarter of 2015, private consumption, whose share in total GDP is about 55 percent, grew at a more moderate 4.7 percent yoy, contributing to the overall growth slowdown. Accounting for the Q1 2015 national accounts data release and latest high-frequency indicators of economic activity and financing conditions, the baseline forecast for annual GDP growth in 2015 has been revised down to 4.7 percent, with risks tilted to the downside. The growth Private consumption growth moderated to 4.7 percent yoy in Q1 2015, from 4.9 slowdown was partly percent in the final quarter of 2014 (Figure 4). This was partly due to high base driven by private effects from Q1 2014 when election-related spending boosted consumption consumption… temporarily. However, private consumption growth weakened significantly in nominal terms to 7.6 percent yoy, from 9.4 percent in the previous quarter and from 12.3 percent a year ago. The implicit private consumption deflator, calculated as the ratio of nominal to real private consumption expenditure, grew at 2.8 percent yoy in the first quarter, compared with a corresponding quarterly increase in the consumer price index (CPI) of 6.5 percent yoy. This discrepancy suggests that consumers substituted from goods whose prices are rising to goods whose prices are stable or falling. Since the CPI basket is fixed in a particular year (currently 2012), the CPI J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 2 Slower gains Indonesia Economic Quarterly may be failing to capture such substitution effect in recent quarters. The slowdown in nominal private consumption has had a negative impact on the government’s VAT receipts (see Section 6).3 Figure 3: The real GDP deceleration continued in Q1 Figure 4: … and weaker private consumption growth, 2015, with investment still subdued… especially in nominal terms (contributions to GDP growth yoy, percentage points) (growth yoy, percent) Stat. discrepancy* Real Net exports Nominal Investment Implicit deflator 10 Government consumption 14 Private consumption 8 GDP 12 6 10 4 8 2 6 0 4 -2 2 -4 0 Mar-12 Sep-12 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Mar-12 Sep-12 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Note: *Stat. discrepancy includes changes in inventories. Note: The implicit deflator is the ratio of nominal to real private Source: BPS; World Bank staff calculations consumption expenditure. Source: BPS; World Bank staff calculations … but mainly due to The main cause of the GDP growth moderation in the first quarter remained slower slow fixed fixed investment growth which, at 4.4 percent yoy, has more than halved since 2012. investment growth Weaker terms of trade and the related policy responses have continued to drive the and very weak net investment slowdown during this period. However, structural impediments related exports, as was the to the business environment (e.g. challenges to free market entry, competition, and case in previous trade) may have also precluded a faster investment recovery. The growth quarters contribution of net exports, 0.4 percentage points yoy in Q1 2015, has been broadly neutral across the last two years. In the first quarter, export volumes declined by 0.5 percent yoy, while imports decreased considerably more – by 2.2 percent. However, further weakening of exports, mainly of commodities, has fed through into slower growth via the deterioration in the terms of trade and lower incomes. Evidence of these effects is the slower employment growth across Indonesia, including importantly in Java and Bali, since the commodity cycle downturn began in 2012 (see Section 7). On the production From the production perspective, the growth moderation was broad-based, with side, the January only agriculture growth increasing to 3.8 percent yoy, from 2.8 percent yoy in Q4 2015 fuel subsidy 2014. Mining and quarrying recorded the weakest growth since Q3 2004, falling by reform is reflected in 2.3 percent yoy. Manufacturing sector growth declined for a second quarter, to 3.9 lower value added of percent yoy, but still accounted for 0.8 percentage points of total GDP growth economic activities (Figure 5). After a strong Q4 2014 (7.7 percent yoy), construction growth declined to 6.0 percent yoy, contributing 0.6 percentage points yoy to GDP growth. Indirect taxes net of subsidies, which are added to GDP calculated through the production approach to obtain GDP at market prices (i.e. expenditure approach), increased by 22.7 percent yoy in the first quarter, contributing 0.5 percentage points of total 3 Similarly, negative nominal import growth in Q1 2015 has weighed on import VAT revenues (see Section 6). J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 3 Slower gains Indonesia Economic Quarterly GDP growth. According to Statistics Indonesia (Badan Pusat Statistik, BPS), the main reason for this high growth rate is the reduction in fuel subsidies implemented by the government in January this year. Figure 5: Most sectors recorded weaker growth in the Figure 6: Monthly economic activity indicators first quarter suggest a further slowdown in Q2 2015 (contributions to GDP growth yoy, percentage points) (seasonally adjusted data, January 2014 = 100) Tax-subsidy Services Financial services Transport & comm. BI consumer confidence index Trade, hotel & rest. Construction 115 Cement sales Electricty, gas & water Manufacturing Mining & quarrying Agriculture 110 Car sales Total GDP Motorcycle sales 7 105 6 100 5 95 4 3 90 2 85 1 80 0 -1 75 Mar-12 Mar-13 Mar-14 Mar-15 Jan-14 Apr-14 Jul-14 Oct-14 Jan-15 Apr-15 Source: BPS; World Bank staff calculations Source: CEIC; World Bank staff calculations High-frequency Monthly indicators point to continued softening in output growth, including in indicators signal private consumption growth, during the second quarter. Car and motorcycle sales further weakening in declined by an average of 20.7 and 32.2 percent in April and May compared with economic activity in their year-ago levels. Despite an uptick in May, ahead of the fasting month of the second quarter Ramadan, the Bank Indonesia (BI) consumer confidence index remained below 100, indicating pessimistic consumer attitudes, in the first two months of Q2 2015 (Figure 6). Industry-related indicators, such as cement sales (down 14.1 percent yoy in May) and HSBC’s purchasing managers index (PMI) at 47.8 in June, signal weaker activity too, as do the monthly trade data (see Section 4). In the base case, Looking ahead, the World Bank expects GDP growth of 4.7 percent for 2015, with GDP growth is risks to the outlook firmly to the downside. In the base case, the projection expected to slow anticipates weakening private consumption growth in the near term and a recovery down to 4.7 percent to recently observed levels in 2016. A slight uptick in Q4 2015 household in 2015 on weaker consumption due to partial local elections has been incorporated in the forecast. consumption Fixed investment growth is still expected to increase in the second half of the year growth… but by less than projected in the March 2015 IEQ, owing to lower than expected public capital spending and associated crowding-in of private investment (see Section 6). … with recent data The baseline GDP growth forecast of 4.7 percent for 2015 is revised down from 5.2 driving the negative percent in the March 2015 IEQ (Table 2). This downward adjustment is mainly due forecast revision and to weak first-quarter national accounts data and April and May high-frequency risks to the outlook indicators. The main risks to the outlook, related to persistently lower commodity tilted to the prices and tighter credit conditions, are tilted to the downside. Weaker terms of downside trade continue to put pressure on corporate profits and household incomes, which may have a stronger than expected negative impact on domestic demand. Similarly, there is a risk that domestic credit conditions do not ease at the expected rate or J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 4 Slower gains Indonesia Economic Quarterly international financing tightens by more than currently foreseen as the Federal Reserve normalizes US monetary policy. Table 2: In the base case, GDP growth is expected to be 4.7 percent in 2015, picking up to 5.5 percent in 2016 (percentage change, unless otherwise indicated) Annual YoY in Fourth Quarter Revision to Annual 2014 2015 2016 2014 2015 2016 2015 2016 1. Main economic indicators Total consumption expenditure 4.8 4.5 4.9 4.5 4.5 5.0 0.0 0.0 Private consumption expenditure 5.3 4.7 5.2 4.9 4.8 5.3 0.0 0.0 Government consumption 2.0 3.7 3.3 2.8 3.6 3.2 -0.1 0.1 Gross fixed capital formation 4.1 4.9 6.1 4.3 5.5 6.1 -0.3 0.0 Exports of goods and services 1.0 2.2 5.7 -4.5 4.4 6.0 -0.4 0.0 Imports of goods and services 2.2 1.0 6.1 3.2 2.6 6.3 -3.0 0.0 Gross domestic product 5.0 4.7 5.5 5.0 4.9 5.5 -0.5 0.0 2. External indicators Balance of payments (USD bn) 19.0 10.9 17.1 - - - 1.9 8.2 Current account balance (USD bn) -25.4 -24.9 -29.0 - - - 4.2 5.5 As share of GDP (percent) -2.9 -2.7 -2.9 - - - 0.3 0.3 Trade balance (USD bn) -3.0 -0.5 -3.8 - - - 4.3 4.4 Capital & financial acc. bal. (USD bn) 44.4 35.8 46.1 - - - -2.2 2.9 3. Fiscal indicators Central gov. revenue (% of GDP) 14.6 12.7 - - - - -0.1 - Central gov. expenditure (% of GDP) 16.7 15.3 - - - - -0.1 - Fiscal balance (% of GDP) -2.2 -2.5 - - - - 0.0 - Primary balance (% of GDP) -0.9 -1.2 - - - - 0.0 - 4. Other economic indicators Consumer price index 6.4 6.8 5.3 6.5 5.9 5.1 0.3 0.2 GDP deflator 5.4 4.3 5.3 3.7 5.4 5.3 0.2 0.0 Nominal GDP 10.7 9.2 11.0 8.9 10.0 11.1 -0.2 -0.1 5. Economic assumptions Exchange rate (IDR/USD) 11800 13200 13200 - - - 600 600 Indonesian crude price (USD/bl) 98 59 64 - - - 4.0 7.0 Note: Export and import figures refer to volumes from the national accounts. All figures, including fiscal ratios, are based on revised and rebased GDP. Exchange rate and crude oil price are assumptions based on recent averages. Revisions are relative to projections in the March 2015 IEQ. Source: MoF; BPS; BI; CEIC; World Bank staff projections 3. Inflation remains sticky despite weaker domestic demand growth Headline inflation After declining during the Figure 7: CPI inflation increased over April-June on rose over April-June first two months of the account of high food prices despite unchanged year as a result of the (change yoy, percent) fuel prices and the January 2015 fuel price 12 moderation in GDP reforms and lower food growth prices, CPI inflation rose 10 to above 7 percent yoy in May and June (Figure 7). 8 Food The main reason for the 6 increase in headline Headline inflation was a broad- 4 based rise in food prices. Core In recent months, inflation 2 has accelerated despite unchanged gasoline and 0 diesel prices since March Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 and the opening up of a Source: BPS; World Bank staff calculations J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 5 Slower gains Indonesia Economic Quarterly small negative output gap (according to World Bank estimates). At the same time, core inflation, which excludes the more volatile food and energy prices, has remained stable at around 5.0 percent yoy. Inflation momentum The World Bank expects an annual average CPI inflation rate of 6.8 percent in 2015, is expected to stay which reflects a small upward revision from the March 2015 IEQ based on recent moderate, capping monthly data. Inflation is projected to decline to an average rate of 5.3 percent in headline inflation at 2016. The risks to the inflation outlook remain balanced. Lower than projected an average of 6.8 GDP growth, and consequently a larger negative output gap, could pull inflation percent for 2015 lower. Conversely, further Rupiah depreciation and future fuel price increases may raise inflationary pressures. In addition, the lack of transparency regarding the adjustment of fuel prices (see Section B.2), in particular as oil prices rose by 15 percent between March and May, may adversely affect inflation expectations. Finally, according to Indonesia’s National Meteorology, Climatology and Geophysics Agency (Badan Meteorologi, Klimatologi dan Geofisika, BMKG), this year’s El Niño is expected to moderately affect parts of Indonesia until November, raising temperatures by 1-2 degrees Celsius, though with relatively low risks for economic activity, including in the agriculture sector. BPS estimates rice paddy production in 2015 at 75.5 million tons, up 6.6 percent from 70.9 million tons in 2014.4 4. The current account balance narrowed further on account of low oil prices and weak imports The current account The current account deficit narrowed further in Q1 2015, mainly as a result of the deficit narrowed to decrease in imports driven by continuing growth moderation (Figure 8). Exports 1.8 percent of GDP declined too, albeit by less than imports, contributing to the smaller current account in Q1 2015… deficit. However, when compared to its year-ago level, the current account deficit was broadly unchanged, indicating that external adjustment has remained sluggish. On the financing side, overall inflows were weaker due to lower FDI and foreign deposits. Portfolio inflows, on the other hand, have remained strong, helped by the frontloading of government bond issuance in the first quarter of the year. Looking ahead, the key external risks to Indonesia’s balance of payments are lower commodity prices or a rise in the demand for imported capital goods stemming from the expected increase in infrastructure investment, and a tightening in global financial conditions. … mainly owing to a The current account deficit narrowed to 1.8 percent of GDP or USD 3.9 billion in lower oil deficit Q1 2015 (from 2.6 percent in Q4 2014) due to a combination of an increase in the goods trade surplus of USD 0.6 billion, and decreases in the services trade and income deficits by USD 0.7 billion and USD 0.5 billion, respectively. The trade surplus expanded to USD 3.1 billion, from USD 2.4 billion in the last quarter of 2014, mainly on account of a significantly lower oil deficit (Figure 9). The oil trade deficit dropped by over 40 percent to USD 3.2 billion, as the Indonesian Crude Price (ICP)5 declined from an average of USD 73 in the last three months of 2014 to USD 51 in the first quarter of this year. Despite the strong decline in the oil deficit, and looking beyond any seasonal effects, the current account deficit in Q1 2015 was only 0.1 percent of GDP narrower than in the first quarter of last year. 4 Data on rice production in Indonesia, however can be unreliable; for more on recent rice price dynamics, see the March 2015 IEQ. 5 The ICP is determined by Indonesia’s national oil company, Pertamina, based on moving average spot price of a basket of five internationally traded crudes: Minas (Indonesia), Tapis (Malaysia), Gippsland (Australia), Dubai (UAE), and Oman. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 6 Slower gains Indonesia Economic Quarterly Hence, the external adjustment over the past year has remained subdued, mainly on account of the continued weakness in exports. Figure 8: The current account deficit narrowed, while Figure 9: The goods trade surplus rose on the back of direct and other investment flows were relatively weak a considerably smaller oil deficit (balance of payments main account balances, USD billion) (quarterly trade balance, USD billion) 20 Current account Direct investment Portfolio investment Other investment Oil Gas Non-oil and gas Trade Overall balance Basic balance 15 10 8 10 6 4 5 2 0 0 -2 -5 -4 -10 -6 -8 -15 Mar-12 Mar-13 Mar-14 Mar-15 Mar-12 Mar-13 Mar-14 Mar-15 Note: Basic balance = direct investment + current account balance. Source: BI; World Bank staff calculations Source: BI; World Bank staff calculations Goods exports In Q1 2015 Indonesia’s goods exports fell by a sizeable 13.9 percent yoy. recorded another Commodity-related exports contributed 12.3 percent yoy to the total decrease, as quarter of significant external demand and global prices remained weak. Manufacturing exports declined decline… by 3.3 percent yoy, partly on account of lower demand from China and Southeast Asian neighbors. These countries import chemicals, electronics, and machinery parts and components, which together comprise around 30 percent of Indonesia’s manufacturing exports and are used both as intermediate inputs in production chains and as final goods. The recent negative trend in manufacturing export growth is not unique to Indonesia – the country’s ASEAN partners have experienced a similar slowdown (Figure 10). Finally, monthly trade data for April and May show no improvement in manufacturing and commodity exports, the latter despite small increases in copper and liquefied natural gas prices. …as did the imports Goods imports contracted significantly, by 14.4 percent yoy in the first quarter, and of raw, capital and monthly data for April and May indicate a further decrease (Figure 11). In Q1 2015, consumer goods raw, capital and consumer goods imports fell by 16.2, 10.2 and 14.3 percent yoy, respectively. In addition to lower oil prices, the continuing weakness in imports was due to the slowdown in domestic demand. Another factor contributing to the decline in imports may be subdued external demand for Indonesia’s manufacturing exports which use imported inputs. Low imports in April and May, which is unusual for the months before Ramadan, coupled with weak monthly sales data, is consistent with domestic demand continuing to slow in the second quarter (see Section 2). J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 7 Slower gains Indonesia Economic Quarterly Figure 10: Manufacturing exports have weakened in Figure 11: Goods imports have continued to decline Indonesia and across the region (contributions to growth yoy of three-month moving average, percentage (three-month moving average of year-on-year growth, percent) points) Malaysia Thailand 15 Consumer goods 30 Indonesia Philippines Raw materials 10 Capital goods Imports 20 5 0 10 -5 -10 0 -15 -10 -20 Apr-13 Oct-13 Apr-14 Oct-14 Apr-15 May-13 Nov-13 May-14 Nov-14 May-15 Source: CEIC; World Bank staff calculations Source: BPS; World Bank staff calculations The financial On the financial account side of the balance of payments, first-quarter net capital account balance inflows, at USD 5.9 billion, declined both when compared to Q4 2014 (USD 8.9 weakened despite billion) and to Q1 2014 (USD 7.1 billion). The decline in the financial account strong government balance was due to both net direct investment and “Other” investment, which portfolio inflows includes foreign currency and deposits (Figure 8). Due to lower inflows, net direct investment totaled USD 2.3 billion, the lowest level since Q4 2013. “Other” investment recorded a deficit of USD 5.3 billion in Q1. Net portfolio flows reached USD 8.9 billion, of which USD 6.9 billion were net foreign purchases of government debt. Foreign exchange reserves declined slightly from USD 111.9 billion in December 2014 to USD 110.8 billion in May 2015. The projected Looking forward, the expected Table 3: In the base case, a current account deficit current account 2015 current account balance of 2.7 percent of GDP in 2015 is projected balance is revised has been revised up by 0.3 (USD billion unless otherwise indicated) 2014 2015 2016 up, adjusting for the percentage points to -2.7 Balance of payments 15.3 16.1 17.1 Q1 realization and percent of GDP (Table 3), As percent of GDP 1.7 1.8 1.7 subdued growth mainly due to the first quarter Current account -25.4 -24.5 -29.0 realization, and weaker As percent of GDP -2.9 -2.7 -2.9 domestic demand growth. Goods trade balance 7.0 9.0 7.7 Imports, which have been the Services trade balance -10.0 -9.5 -11.5 Income -27.6 -29.0 -30.0 source of current account Transfers 5.2 5.0 5.0 improvement over the past Capital and financial 44.4 40.6 43.8 two years, are likely to remain accounts weak this year. Monthly trade As percent of GDP 5.0 3.9 4.6 Direct investment 15.5 10.9 12.4 data through May have shown Portfolio investment 26.1 24.5 26.3 a continuous decrease in Financial derivatives -0.2 -0.1 -0.2 imports and exports, with a Other investment 3.0 5.3 7.3 larger decline in the former. In Memo: Basic balance -9.9 -13.6.0 -16.4 2016, with an expected As percent of GDP -1.1 -1.5 -1.6 improvement in government Note: Basic balance = current account balance + direct investment spending and investment Source: BI; World Bank staff calculations output growth, the current account deficit is likely to widen again, to 2.9 percent of GDP. See Section B.1 for more analysis on Indonesia’s current account dynamics. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 8 Slower gains Indonesia Economic Quarterly Box 1: Indonesia’s new CPO export levy may affect global CPO prices, but not necessarily positively According to regulations passed on May 25, 20151, the government plans to impose a new export levy on crude palm oil (CPO) in order to fund an increase in biodiesel subsidies. In April, the new administration mandated an increase in biofuel blending in diesel from 10 percent to 15 percent. The rest of the funds collected through the new CPO export levy will go to a Palm Oil Plantation Fund (Dana Perkebunan Kelapa Sawit) that will be used for replanting, research and development, marketing, facilities and infrastructure, as well as human resource development in the palm oil sector. With a 48-percent share in global CPO exports, Indonesia is the world’s largest palm oil exporter, having overtaken Malaysia in 2012 (Figure 12). This means that a re-allocation of CPO production from exports to domestic biofuel production, due to the new export levy, could have a global impact on palm oil supply, prices, and demand. To quantify the impact of the new levy on the demand for and supply of Indonesia’s CPO exports, a simultaneous supply-demand regression analysis is run.2 The demand equation controls for global demand using a monthly proxy of economic activity growth in China3, and for the price of the key substitute product, soybean oil. The supply equation controls for current and lagged temperature and rainfall, as well as for the effects of El Niño and La Niña weather events. The results show that a one-percent increase in the CPO price results in a 0.7 percent decrease in Indonesia’s palm oil exports.4 Furthermore, a one-percent decline in the price of soybean oil results in a 0.5 percent decrease in exports as demand shifts to the cheaper substitute. A one-percentage point decline in China’s economic activity (in year-on-year terms) results in a 3.3 percent decrease in the export demand for Indonesia’s CPO. Supply side estimates Figure 12: Indonesia is the world’s leading palm oil show that a one-percent decrease in export supply results producer in a 5.5 percent rise in the Rupiah price of CPO. (share of global CPO export market, percent) These estimates suggest that Indonesia can affect the Indonesia Malaysia Others world price of CPO in the short term as a price-maker 90 with a high share of the global CPO market. However, the initial price increase after the export levy is imposed 80 may lead to a subsequent decline in the demand for palm 70 oil (e.g. from China), including as imports shift to 60 soybean oil. As a result, prices in the medium run may 50 actually decline because of lower demand relative to supply. 40 30 Other factors may also work against the export levy increasing global CPO prices. If palm oil producers 20 reduce export volumes as a result of the export levy, and, 10 for example, at the same time China’s demand for palm 0 oil declines because of weaker GDP growth (which is 1988 1991 1994 1997 2000 2003 2006 2009 2012 not an unreasonable near-term assumption as China’s economy is currently slowing down), then the initial Source: COMTRADE; World Bank staff calculations price increase expected by the government may be neutralized. In sum, the overall impact of imposing the export levy on palm oil would depends on several factors affecting producer profits in different directions, and these should be evaluated carefully and comprehensively in weighing its overall impacts. Note: 1 Presidential Regulation No.61, 2015, and Government Regulation No.24, 2015. 2 Three-stage least squares (TSLS) is used to estimate the system of structural equations. 3 To obtain a monthly GDP proxy, China’s real GDP was interpolated using monthly industrial production. 4 Owing to lack of monthly data, exports of vegetable oil and fats are used as a proxy for CPO exports. Between 1988 and 2013, CPO exports contributed, on average to around 80 percent of total vegetable oil and fats exports. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 9 Slower gains Indonesia Economic Quarterly 5. Credit growth continued to weaken despite improving liquidity conditions Tight financing Credit growth slowed down further in the first four months of 2015 and, as conditions, among discussed in Section 2, domestic demand conditions have softened. In addition, other factors, have since the end of March 2015, equity and bond prices have declined, and the Rupiah prompted Bank has continued to depreciate against the US Dollar. In response to this challenging Indonesia to loosen macro-financial environment, combining tighter financing conditions, moderating macro-prudential GDP growth, sticky inflation, and currency depreciation pressures, Bank Indonesia policy kept its monetary policy stance steady during the second quarter, while adopting accomodative macro-prudential measures. Equity and bond After a strong first three months of the year, the Jakarta Composite Index (JCI) of markets declined as equity prices decreased sharply, by 11.0 percent, between the end of March and June foreigners invested 30. Foreign investors purchased a total of USD 426.7 million of Indonesian equities less in Indonesian in Q1 2015, but became net sellers of equities worth USD 112.9 million in Q2 assets (Figure 13). Between March 31 and June 30, domestic government bond yields increased by between 55 and 103 basis points across the maturity range. Although net foreign purchases of Indonesian government bonds (SUN) were resilient in the first quarter (see Section 4), they decreased significantly in April and May, before picking up again sharply in June. At the same time, on May 21, 2015, ratings agency Standard and Poor’s revised up its outlook for Indonesia from stable to positive on the basis of the new administration’s policy reforms and institutional improvements. Figure 13: Net foreign purchases of Indonesian assets Figure 14: The Rupiah continued to depreciate but at were subdued in April and May but picked up in June a moderate pace (monthly net purchases, USD billion) (quarterly depreciation and standard deviation of daily depreciation, percent) 4 Equities SUN SBI 20 Volatility Depreciation 3 15 2 10 1 5 0 0 -1 -2 -5 -3 -10 Jun-14 Sep-14 Dec-14 Mar-15 Jun-15 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Note: SBI data until April 2015. Source: BI; World Bank staff calculations Source: BI, DG Debt Management, JP Morgan; World Bank staff calculations The Rupiah The Rupiah weakened by 2.0 percent against the US Dollar between March 31 and maintained an June 30, after depreciating by 5.6 percent in the first quarter. Currency volatility, as orderly depreciation measured by the standard deviation of Rupiah returns, has remained generally stable trend against the US since June 2014, after four quarters of heightened volatility following the “taper Dollar tantrum” emerging market asset sell-off in 2013 (Figure 14). The relatively low volatility of the Rupiah likely reflects in part BI’s interventions to smooth currency volatility. In an effort to deepen the foreign exchange market and ease depreciation J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 10 Slower gains Indonesia Economic Quarterly pressures, BI issued a new regulation on March 31, effective on July 1, requiring the use of Rupiah for all domestic cash and non-cash transactions.6 As of June 1, BI also revised regulations on foreign exchange transactions7 and on the net open positions of commercial banks8, including allowing cross-currency swaps. The revisions also shorten the time needed to settle derivative transactions for foreigners from one week to three days and allow banks to meet the maximum net open position requirement of 20 percent of capital at the end of the day (as opposed to every 30 minutes, as required previously).9 The latter change is expected to enable banks with lower capital to participate in the foreign exchange market. BI has not changed With respect to local currency liquidity conditions, BI has kept the key policy rate at the key interest rate 7.5 percent and the deposit facility rate at 5.5 percent since February 2015, and the for four months but lending facility rate at 8.0 percent since November 2014. At the same time, BI has has loosened macro- introduced several accommodative macro-prudential measures. At its April policy prudential policy meeting, the central bank lowered bank loan-to-deposit ratios (LDR) by including securities in the definition of deposits and relaxed the LDR upper threshold for banks that meet minimum required lending levels for small and medium-sized enterprises.10 In May, BI increased the loan-to-value ratio for mortgages from 70 percent to a maximum of 80 percent and lowered the minimum downpayment for car and motorcycle loans.11 Overall, BI has employed a mix of maintaining the monetary policy stance unchanged while loosening macro-prudential policy in response to a challenging economic environment. On the one hand, GDP growth has moderated considerably (see Section 2) and credit growth slowed down (see below). On the other hand, inflation has remained sticky and external balances relatively weak (see Sections 3 and 4), and the Rupiah has continued to depreciate. The credit growth Although deposit growth has steadily increased in the last four quarters, reaching slowdown appears to 14.5 percent in April, credit growth has not yet shown signs of a pick-up (Figure have been driven 15). Credit growth, at 10.2 percent yoy in April (and only 3.2 percent yoy in real increasingly by terms), has been on a continuous downward trend since mid-2012. Consequently, reduced credit the aggregate loan-to-deposit ratio for commercial banks fell to 87.6 percent in demand March, from 89.4 percent in December 2014. Non-performing loans, however, increased somewhat to 2.5 percent of total loans in April, from 2.2 percent in December. Overall, recent banking sector developments point to weaker demand driving the continued credit growth slowdown rather than credit supply conditions. The World Bank’s measure of financial conditions12 indicates that financing has remained tight since the third quarter of 2013 (Figure 16). However, while the fall 6 PBI 17/3/2015. The following transactions are exempt from the new regulation: (i) certain government budget -related transactions (e.g. foreign debt, government spending abroad, revenue from bonds denominated in foreign currencies, etc.); (ii) receipt or payments of grants to/from foreign entities; (iii) international goods and services trade transactions; (iv) savings in foreign currencies; and (v) international financing payments where at least one party is located abroad. According to the new regulation, some standard foreign currency-denominated transactions, such as seaport and airport services (e.g. container loading and unloading, airplane parking at airport), will now have to be quoted and paid in Rupiah, which may drive transaction costs up. In addition, there may be ways of circumventing the regulation by, for example, using offshore bank accounts. 7 PBI 16/16/2014 and PBI 16/17/2014. 8 PBI 5/13/2003. 9 http://www.bi.go.id/id/ruang-media/info-terbaru/Pages/BI-Sempurnakan-tiga-Peraturan- 2015.aspx. 10 http://www.bi.go.id/en/ruang-media/siaran-pers/Pages/sp_172915.aspx. 11 http://www.bi.go.id/en/ruang-media/siaran-pers/Pages/sp_173815.aspx. 12 For details see Box 1 in the December 2014 IEQ. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 11 Slower gains Indonesia Economic Quarterly (in year-on-year terms) in equity prices, as measured by the JCI, was the main driver of the deterioration in financial conditions until March 2014, the decline in domestic credit growth has subsequently become a more prominent factor. Figure 15: Credit growth continued to fall despite Figure 16: Tighter financing conditions have been improving bank funding conditions driven by weak credit growth in recent quarters (credit and deposit growth yoy, LHS; time deposit and lending interest (contributions to financial conditions index, GDP growth yoy, percent) rate, percent, RHS) Credit growth Deposit growth BI rate Lending rate Credit growth JCI Time deposit rate (3 mo) Lending rate REER EMBIG 30 16 2 FCI GDP, RHS 9 14 25 12 7 1 20 10 5 15 8 0 3 6 10 -1 4 1 5 2 -2 -1 0 0 Apr-13 Oct-13 Apr-14 Oct-14 Apr-15 Source: BI; World Bank staff calculations Note: EMBIG – JP Morgan sovereign bond index spread; REER – real effective exchange rate; FCI – financial conditions index. Source: BI; BIS; JP Morgan; World Bank staff calculations 6. The implementation of the 2015 revised Budget is proving challenging The execution of the The key features of the 2015 revised Budget, passed in February 2015, include: i) an revised 2015 Budget ambitious target for total revenues to increase by 14.6 percent (of which tax is proving difficult revenues are expected to increase by 30 percent); (ii) a 60 percent reduction of energy subsidies (from IDR 342 to 138 trillion); (iii) a doubling of capital spending (from IDR 135 to 276 trillion); and (iv) a decrease in the fiscal deficit from 2.2 to 1.9 percent of GDP. However, budget implementation in the first five months shows significant challenges, with weak revenue outturns severely limiting the fiscal space for the government’s ambitious infrastructure development plan. In view of Indonesia’s sound debt position, an increase in the fiscal deficit to the legal limit (3 percent of GDP for the general government) would allow for an increase in investment spending, supporting economic growth. Revenue realization Weak revenue realization in the first five months of 2015 is a strong signal that the in the first five revised 2015 Budget target may not be met. By the end of May, total revenues months of 2015 was reached IDR 533.4 trillion, a nominal decline of 6.4 percent yoy (Figure 17). The lower than in the revenue outturns represent only 30.3 percent of the annual target, compared with an same period in 2014 average of 35.3 percent in the last five years. Nominal tax revenue declined by 1.3 percent yoy in January-May 2015, in sharp contrast to the targeted increase of 30 percent for the full year in the 2015 revised Budget. Revenues from all major tax categories contracted, with the exception of non-oil and gas income taxes, which contributed a positive 3.5 percentage points to the nominal year-on-year growth of total revenues. Non-tax revenue also declined by 24 percent yoy in nominal terms. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 12 Slower gains Indonesia Economic Quarterly Figure 17: The first five months of 2015 saw broad- Figure 18: … with all import-related tax revenues based weak revenue collection … being particularly low (contributions of select revenue categories to nominal revenue growth (nominal growth from January-May vs. year-ago, percent) yoy, percent) Income taxes O&G Income taxes N-O&G VAT/LGST Excises 2011 2012 2013 2014 2015 Import duties Export tax 40 NRR O&G NRR N-O&G 30 NTR other Total revenues 15 20 10 10 0 5 -10 0 -20 -5 -10 -15 Jan-May 2013 Jan-May 2014 Jan-May 2015 Note: O&G stands for “oil and gas”, N-O&G – “non-oil and gas”; Note: PIT stands for personal income tax; FWT – final withholding LGST – “luxury goods sales tax”; NTR – “non-tax revenues”; tax; CIT is corporate income tax under Article 25 of the Income Tax NRR – “natural resource revenues”; “NTR other” includes all non- Law; Income tax on imports. tax revenues other than those from natural resources. Source: Ministry of Finance; World Bank staff calculations Source: Ministry of Finance; World Bank staff calculations Tax revenues In January-May 2015, Figure 19: VAT refunds grew slowly in January-April recorded a broad- VAT, which accounted for 2015 but rose as a share of gross VAT receipts based nominal one-third of tax revenues (nominal growth yoy, percent; VAT refunds / gross VAT, percent) decline in 2014 and was budgeted to increase by 42 percent VAT refunds (LHS) Gross VAT (LHS) in 2015, declined by 4.7 VAT refunds in percent of gross VAT (RHS) percent yoy, contributing - 50 18 1 percent yoy to overall 16 nominal revenue growth. 40 14 Both domestic and import 12 VAT decreased (Figure 30 10 18), which is in line with 8 the weaker growth of 20 6 domestic consumption and 4 the nominal decline in 10 2 imports during the first 0 0 quarter of 2015 (see Jan-Apr Jan-Apr Jan-Apr Jan-Apr Jan-Apr Section 2). As a result, 2011 2012 2013 2014 2015 VAT refunds as a share of Source: Ministry of Finance; World Bank staff calculations gross VAT receipts increased significantly in January- April 201513 relative to the corresponding period in 2014 (Figure 19). Like import VAT, all other import-related taxes, particularly income taxes on imports14 and import duties, have been impacted by the decline in nominal imports. Furthermore, export tax collection declined significantly as international CPO prices have remained below the threshold of USD 750 per metric 13 Data on VAT refunds for May are not yet available. 14 Certain imported goods are taxed under Article 22 of the Income Tax Law because they are considered assets purchased with the intention to gain profit. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 13 Slower gains Indonesia Economic Quarterly ton since October 2014, resulting in a CPO export tax rate of zero percent. Finally, the weaker growth of personal income tax (PIT) and final withholding tax15 collection relative to 2014 is consistent with slower nominal GDP growth. To raise tax The revised 2015 Budget revenue target of IDR 1,762 trillion is very ambitious, collections, the especially given more challenging macroeconomic conditions. In an effort to reach government has the revenue target, the government has announced a number of measures that aim announced a number to increase tax collection in 2015.16 These include introducing VAT on the electricity of policy measures, consumption of households with higher capacity (2,200-6,600VA) power supply and but only some have on tolls. However, to date, only some of the announced policies have been enacted, been implemented such as the reduction in the threshold defining certain goods as “super-luxury”.17 The Ministry of Finance has also introduced measures to improve tax administration and compliance: e-tax invoicing, a revamped tax auditing process that focuses on certain businesses (e.g. corporations using transfer pricing, oil and gas companies, and coal-mining companies) and wealthier taxpayers, and a six-month overseas travel ban on tax debtors issued in December 2014.18 A waiver of interest and fines on onshore tax arrears and late tax payment submission has also been implemented.19 On the expenditure Total expenditure reached Figure 20: Budget disbursement of capital and side, with around IDR 605 trillion in May, material expenditure remained low one-third of the driven by disbursements of (January-May realization as a share of total revised Budget, percent; revised Budget personnel expenditure, nominal growth yoy, percent) spent, capital and interest payments and 2014 Jan-May share of total rev. Budget 2015 Jan-May share of total rev. Budget material expenditure transfers to regions, all 2015 Jan-May nominal growth (yoy) 50 disbursement rates tracking closely to budgeted were particularly low rates. Subsidy spending has 30 in the first five fallen sharply (see Section 10 months… B.2 for an update on these -10 reforms). However, capital -30 spending is down by 18 -50 percent relative to 2014, -70 undermining the government’s intention of a big push in infrastructure investment (Figure 20). While capital spending is Source: Ministry of Finance; World Bank staff calculations traditionally skewed towards the fourth quarter of the fiscal year, disbursement by the end of May has been particularly low this year, reaching only IDR 17 trillion (6 percent of budgeted capital spending for 2015), down from IDR 20 trillion in 2014 (13 percent of budgeted capital spending in 2014). The new government transition and restructuring in a number of ministries, particularly the Ministry of Public Works and Housing and the Ministry of National Education, has slowed down project 15 Article 21, Article 25 (personal) and Article 4(2) of the Income Tax Law No. 7/1983. Final withholding tax is the full and final payment of income tax due from the recipient of the income. 16 For a discussion of these measures see the March 2015 IEQ. 17 Regulation No. 90/PMK.03/2015. “Super-luxury” goods are taxed under the Income Tax Law because they are seen as assets purchased with the intention to gain profit. 18 Law 19/1997 (amended by Law 19/2000), Article 29-32. 19 Regulation No.29/PMK.03/2015 and Regulation No. 91/PMK.03/2015. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 14 Slower gains Indonesia Economic Quarterly preparation, adding to long-standing capital budget execution challenges such as land acquisition and inter-ministerial and inter-governmental coordination. …but disbursement Despite the relatively low disbursement rate in the first five months, the government is expected to has indicated that it will accelerate budget execution in the second half of the year, accelerate in the targeting 90 percent realization for total expenditure by year-end. Some efforts to second half of the improve budget execution are underway. As of May, 95 percent of line ministries’ year budget documents (Daftar Isian Pelaksanaan Anggaran, DIPA) had been completed. According to the Ministry of Public Works and Housing, contracts for 54 percent of its capital budget have already been awarded.20 The revised land acquisition regulation, effective March 17, 2015, is also expected to accelerate the land acquisition process by facilitating timelier funding for land acquisition,21 though this is only likely to have a major impact in 2016. In an attempt to ramp up infrastructure development further, two regulations have also been issued to facilitate the government’s capital injection of IDR 5 trillion (out of IDR 70.4 trillion allocated in the 2015 revised Budget) into two state-owned enterprises (SOEs) in the construction industry.22 The World Bank The World Bank’s baseline budget deficit projection for 2015 remains at 2.5 percent projects a fiscal of GDP, unchanged from the March 2015 IEQ outlook (Table 4). On the revenue deficit of 2.5 percent side, a significant shortfall of IDR 296 trillion (2.6 percent of GDP) is expected. of GDP in 2015, This is higher than the IDR 282 trillion projected in the previous IEQ, due mainly driven by an to generally weaker macroeconomic assumptions (Table 4), offset only partly by expected significant higher oil and gas related revenues (due to an upward revision of oil price and revenue shortfall exchange rate assumptions, see Table 2). Finally, as the international CPO price is no longer expected to exceed the USD 750 per metric ton threshold, the World Bank assumes that the CPO export tax rate will remain at zero, prompting a reduced export tax forecast. The baseline revenue projection is consistent with the revenue outturns in the first five months of 2015. It does not incorporate significant improvements in revenue collection in the second half of 2015 from the policy measures that have been undertaken so far, as the magnitude and timing of their potential effects are difficult to quantify. 20 http://hariansib.co/view/Headlines/59514/Defisit-APBN-Makin-Menciut--Penerimaan-Pajak- Mulai-Bergerak-Lebih-Cepat.html. 21 Presidential Regulation No. 30/2015, which is the third revision of Presidential Regulation No 71/2012. Under the new regulation, private investors, provided they have an agreement with the central or sub-national government, can provide funding for land acquisition at an early stage with assurance that the funds will be refunded directly by the state budget, or through revenue arrangements as the project proceeds. This is in contrast with previous arrangements whereby land acquisition had to wait for disbursement of the state budget, which is often limited and subject to a long budgeting cycle. (http://setkab.go.id/perpres-no-302015-badan-usaha-bisa-talangi-dana- pengadaan-tanah-untuk-kepentingan-umum/ and http://www.eastasiaforum.org/2015/06/10/how- to-solve-indonesias-infrastructure-crisis/). 22 http://setkab.go.id/en/government-injects-the-capital-of-hutama-karya-and-adhi-karya-of-rp-5- trillion/. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 15 Slower gains Indonesia Economic Quarterly Table 4: The World Bank projects a fiscal deficit of 2.5 percent of GDP in 2015 (IDR trillion, unless otherwise indicated) 2014 2015 2015 2015 Preliminary World Bank World Bank Revised Budget Actual March July A. Revenues 1,537 1,762 1,480 1,467 1. Tax revenues 1,143 1,489 1,199 1,165 Income tax 547 679 541 550 Oil and gas 87 50 36 44 Non-oil and gas 460 630 508 507 VAT/LGST 405 577 450 420 International trade taxes 43 49 44 32 Import duties 32 37 34 32 Export taxes 11 12 10 3 2. Non-tax revenues 391 269 277 298 B. Expenditures 1,764 1,984 1,774 1,760 I. Central government 1,191 1,320 1,109 1,091 Personnel 243 293 262 278 Material 176 239 175 176 Capital 135 276 200 160 Interest payments 133 156 156 158 Subsidies 393 212 192 199 Energy subsidies 342 138 140 149 Fuel 240 65 67 67 Electricity 102 73 79 82 Non-energy subsidies 51 74 52 52 Grants 1 5 5 5 Social 98 104 105 104 Other expenditures 12 36 9 9 II. Transfers to regions 574 665 664 669 C. Primary balance -94 -67 -138 -135 D. Overall balance -227 -223 -294 -293 as percent of GDP* -2.2 -1.9 -2.5 -2.5 Key economic assumptions Real GDP growth (percent) 5.1 5.7 5.2 4.7 CPI (yoy, percent) 8.4 5.0 6.5 6.8 Exchange rate (IDR/USD) 11,878 12,500 12,600 13,200 Crude-oil price (USD/barrel) 97 60 55 59 Oil production ('000 barrels/ day) 794 825 826 826 Source: Ministry of Finance; World Bank staff calculations Weaker revenues are In the base case, the World Bank assumes that the government would spend 2 expected to limit the percent of GDP (IDR 225 trillion) less than planned in the 2015 revised Budget and scope for capital expand the deficit by 0.6 percent of GDP to respond to the expected revenue expenditure shortfall.23 The revised 2015 total expenditure projection is broadly flat in nominal increases terms compared with 2014 but with a markedly different composition. Social and grants expenditures, as well as the main regional transfer categories are projected to be disbursed as stated in the 2015 revised Budget. Personnel and other expenditure categories are forecasted to be disbursed at the 2011-2014 average disbursement rates of 95 percent and 25 percent, respectively.24 The remaining revenue sharing balance, energy subsidies, and interest payments are driven by macroeconomic assumptions. For the other expenditure categories, projections assume that the 23 In a scenario of full budget execution the fiscal deficit for 2015 would reach 4.6 percent of GDP. 24 The projection for personnel expenditure for 2015 is slightly higher than in the March 2015 IEQ, which assumed that efficiency measures will be taken and a second round of Budget revisions, both of which are now unlikely. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 16 Slower gains Indonesia Economic Quarterly government will prioritize capital spending by constraining material and non-energy subsidy spending to 2014 nominal levels. This would yield sufficient fiscal space for capital spending to reach IDR 160 trillion in 2015, an 18-percent nominal increase from 2014 levels but significantly less than the targeted IDR 276 trillion in the 2015 revised Budget. Gross financing Gross government financing needs for 2015 could reach IDR 576 trillion (5.0 needs in 2015 could percent of GDP), comprising: i) debt amortizations of IDR 223 trillion (1.9 percent exceed those in 2014, of GDP); ii) non-debt financing needs of IDR 62 trillion (0.5 percent of GDP) but risks are primarily from SOE recapitalization; and iii) a fiscal deficit of IDR 291 trillion (2.5 mitigated by front- percent of GDP). These projected 2015 financing needs are higher than those in loading securities 2014 (4.6 percent of GDP), but associated risks are mitigated by the strong pace and issuance and the foreign take-up of domestic bond issuance so far on 2015. As of June 30, nearly 65 deployment of new percent of the current gross annual securities issuance target, the source of 89 multilateral percent of the intended total annual financing, was already met. This generates some financing headroom to meet a higher securities financing target merely by reducing the rate at which gross securities issuance is tapered down over the remainder of 2015, assuming that market conditions, including global appetite for Rupiah-denominated bonds, remain conducive. There is also ample scope to increase bi-lateral and multi- lateral program loans in 2015, from very low initially-budgeted levels. Increasing the fiscal Given Indonesia’s relatively low government debt level, at 24 percent of GDP in deficit to boost 2014, and credible fiscal rule, raising the 2015 fiscal deficit to the maximum level public investment allowed by law is a good policy option to accelerate public investment spending in would support line with the government’s ambitious infrastructure plans and to support economic economic growth growth. The maximum legal fiscal deficit level of 3 percent of GDP applies to the general government (i.e. the central and sub-national governments combined). The threshold for each level of government is determined each year in a regulation by the Ministry of Finance. The maximum threshold for the sub-national government was set at 0.3 percent of GDP and for the central government at 2.7 percent of GDP for 2015.25 If the central government deficit were increased to 2.7 percent of GDP, then capital expenditure could be raised by an additional IDR 23 trillion (0.2 percent of GDP), pushing it up by a significant 35 percent from the 2014 level. 7. Ongoing labor market challenges may intensify due to lower growth Employment growth Job creation in Indonesia has been strong over the last decade, with employment over the past decade growth averaging 1.8 percent per year. Over 24 million net new jobs were created has been strong… between 2000 and 2014 (Figure 21), increasing the ranks of the employed to 114.6 million. Indonesia’s success in job creation over this period is explained mainly by sustained economic growth, a favorable economic environment, and a rapidly expanding service sector, particularly in urban areas. …but job creation However, job creation has slowed in recent years as a result of slower economic slowed down in 2013 growth, with net new jobs rising only by 0.2 percent in the year to August 2013 and and 2014 by 1.6 percent in the year to August 2014 (the most recent data). The recent employment increase has only just equaled the increase in the working age population, leaving the total employment rate stable at 62.6 percent in 2013 and in 2014 (Figure 22). The growth in employment contributed to a slight decline in the 25 PMK No.183/PMK.07/2014. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 17 Slower gains Indonesia Economic Quarterly unemployment rate to 5.9 percent, from 6.2 percent in 2013, while the overall labor force participation rate remained unchanged at 66.6 percent. Figure 21: Employment has risen by 26 percent since Figure 22: …but the employment rate has stagnated 2001, mostly in urban areas… since 2012 (cumulative employment growth since 2001, percent) (share of working age population in employment, percent) Urban Rural 64 28 24 63 20 62 16 61 12 8 60 4 59 0 2002 2004 2006 2008 2010 2012 2014 58 2001 2003 2005 2007 2009 2011 2013 Source: BPS; World Bank staff calculations Source: BPS; World Bank staff calculations Figure 23: Growth has slowed down significantly in Figure 24: ...while the average annual increase in provinces more exposed to the commodity sector… employment rates has declined across most regions (change in commodity price index, percent; change in annual GDP (average annual difference in employment rates, percentage points) growth, percentage points) -6 -4 -2 0 2 4 Commodity price index, percentage change 0 Jakarta Commodity boom (2007-2011) 1.5 Post-commodity boom (2012-2014) -2 National -4 1.0 (Apr 2015 - H1 2011) -6 West 0.5 -8 Papua -10 Riau 0.0 -12 -0.5 -14 West Sulawesi -16 East -1.0 Kalimantan -18 Change in provincial and national annual GDP growth between 2011 and 2013, percentage points Note: Commodities include oil, gas, rubber, crude palm oil, coal, Source: BPS; World Bank staff calculations copper, nickel, aluminum, lead, zinc and iron ore. The commodity price index, for each province and at the national level, is weighted by each commodity’s share in provincial and national GDP; *2014 is not included in the calculation due to lack of data. Source: BI; BPS; World Bank; World Bank staff calculations Commodity- While the commodity downturn since 2012 and policy responses have affected dependent provinces output growth the most in resource-rich provinces, employment creation has also recorded come under pressure in Java and Bali. According to BI estimates of provincial significantly slower GDP26, East Kalimantan, Riau, West Papua, and West Sulawesi have seen annual 26 Bank Indonesia, Regional Economic Report (Laporan Nusantara). J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 18 Slower gains Indonesia Economic Quarterly GDP growth, but GDP growth rates significantly below the national average (Figure 23).In terms of employment growth employment growth, after the commodity boom the average annual employment weakened across rates declined in Kalimantan and Maluku and job creation slowed down significantly Indonesia in Sulawesi (Figure 24). However, declining employment growth was observed across Indonesia, except in Nusa Tenggara. In Java and Bali, an average of 1.4 million new jobs were created annually between 2012 and 2014, compared with an average increase in the working-age population of 1.6 million people. The employment situation in Java and Bali also reflects demographic trends, as the population of working age increases faster in those regions than elsewhere partly due to rural-urban migration. Employment growth In addition to recent macroeconomic conditions, employment trends in Indonesia is hampered by long- are affected by several ongoing labor market challenges, which may have worsened standing structural with weaker demand and growth. First, low value-added sectors (e.g. agriculture) are issues, which have the largest employers, and low productivity sectors (e.g. social and personal services become more and wholesale and retail trade) create the most jobs. Second, the informal sector is prominent with still large. According to World Bank estimates, over 60 percent of workers are either slower growth self-employed, casual workers, unpaid family workers, or employers who hire temporary workers among the rest of the workforce, only around 35 percent of employees have written contracts. Third, investment in higher productivity sectors is constrained by the limited availability of skilled workers, as less than 9 percent of the workforce has tertiary education. The new government has prioritized reforms, such as increasing infrastructure spending and reducing the barriers to starting and running a business, which address some of the above challenges by enhancing competitiveness. 8. More public investment can help to reinvigorate Indonesia’s weakening economy Indonesia faces The balance of risks to the World Bank’s economic outlook for Indonesia is on the persistent downside. In terms of the international environment, there is uncertainty around the international risks in trajectory of public and external financing costs and availability in the context of the the context of tighter normalization of US monetary policy (with Indonesian domestic government bond financing conditions yields having already increased significantly in 2015). International financial market and weaker dislocations may induce more currency and external financing pressures, constrain commodity prices… policy options, and further weaken domestic demand growth. There are also ongoing risks to external demand, given lower trend output growth in developing countries (including some of Indonesia’s major trading partners), which has contributed to the decline in global commodity demand and prices. A key risk to the global outlook is a setback in the still-fragile Euro Area recovery, including perhaps because of concerns about Greece's financial strains. … whereas on the Turning to domestic macroeconomic conditions, GDP growth decelerated to below domestic front, 5 percent in Q1 2015 on account of weak trade and fixed investment, but private macroeconomic consumption, Indonesia’s engine of growth in recent years, appears to be slowing management faces a down too. Monetary policy is constrained due to sticky CPI inflation, persistent complex mix of external vulnerabilities and the need to manage the risks from currency volatility. challenges, placing a This places the focus on the fiscal sector and the regulatory environment. In focus on the fiscal particular, the government can support a sustainable return to higher economic sector… growth by moving ahead with its ambitious infrastructure development plans and other reforms to boost private investment. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 19 Slower gains Indonesia Economic Quarterly … where managing The World Bank projects that fiscal revenues this year will fall significantly short of expenditures and budgeted levels (by 2.6 percent of GDP). This, together with a very low capital allowing the fiscal spending year-to-date, risks undermining the government’s development agenda. In deficit to expand this context, raising the general government deficit to 3 percent of GDP (or, could help keep equivalently, the central government deficit to 2.7 percent of GDP) in 2015, may be ambitious an appropriate response for the government to consider. In addition, budget infrastructure reductions or under-execution, which appear likely given revenue constraints, will development plans need to be managed well by continuing to move ahead with high-priority on track… infrastructure projects, enabling capital spending to accelerate past last year’s level and contribute to overall fixed investment and GDP growth. …in addition to Revenue-improving measures should take account of the risk of potential measures aimed at counterproductive long-term effects. For example, the government’s planned tax sustainably raising amnesty for offshore assets and income that would provide exemptions from all revenue collection charges of financial crimes – including corruption, money laundering, and tax evasion – in exchange for repatriating assets to Indonesia, may provide tax revenue gains when implemented. However, it also carries the risk of lowering tax morale, and hence impeding revenue mobilization, in the future.27 The implications for governance and efforts to combat corruption of the planned waiver of legal charges for financial crimes should also be carefully evaluated. Reforms to improve Apart from the challenging external environment, long-standing structural issues, revenue performance such as poor tax compliance rates, are among the reasons for Indonesia’s weak over the medium- revenue performance. Therefore, the government could also focus on measures to and long-term need sustainably improve revenue collection over the longer term. Some tax to be implemented administration measures which the government has already introduced, such as in parallel electronic tax return submission and improvements in the income tax audit strategy, fall into this category (as discussed in Section 6). Additional reforms that could be considered relate to optimizing the tax regime, including revisions to sales and excise taxes for vehicles, fuels and tobacco. These measures would reduce market distortions and negative externalities (e.g. pollution, congestion), improve public health, and, at the same time, raise revenues. There is also scope to improve corporate income taxation to reduce firms’ incentives to remain small. Finally, some other measures have the added advantage of increasing equity, such as the revision of VAT exemptions for the electricity consumption of households with 2,200- 6,600VA power supply, which was announced as part of the revised Budget. 27 See Section 7 in the March 2015 IEQ for a brief discussion of this topic. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 20 Slower gains Indonesia Economic Quarterly B. Some recent developments in Indonesia’s economy 1. Indonesia’s current account – deficits are here to stay Indonesia’s current The current account of the Figure 25: The current account deficit has held at account deficit has balance of payments is the close to 3 percent of GDP despite currency adjustment remained little- broadest measure of a (c/a balance; currency and terms of trade indices: Q1 2011=100) changed since 2013, country’s international C/A balance (4-quarter sum, % of GDP) despite significant trade, covering Real effective exchange rate (RHS) IDR/USD index (RHS) policy and economic transactions in goods, 1.0 Major commodities terms of trade (RHS) 120 adjustments services, factor income (from assets and labor), 0.0 100 and transfers. Indonesia’s current account balance -1.0 80 moved into deficit in Q4 -2.0 2011 and has stayed negative ever since. This -3.0 60 has worried policymakers and investors, most -4.0 40 notably during the mid- Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 2013 “taper tantrum”, Note: Lower exchange rate index values indicate depreciation. when Indonesia was Source: BI; BIS; CEIC; World Bank staff calculations amongst those emerging market economies (EMEs) widely considered to be at risk from the effects of tighter US monetary policy. Since 2013, Indonesia has acted to reduce macroeconomic risks and external financing conditions have remained generally favorable; indeed, Indonesia received record portfolio inflows in 2014. Yet to date the current account deficit has remained little-changed since 2013, at close to 3 percent of GDP on an annualized basis (Figure 25). This section examines recent current account dynamics, placing them in the context of longer-term trends, and discusses policy implications.28 28 This Section summarizes a forthcoming World Bank staff report on Indonesia’s current account. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 21 Slower gains Indonesia Economic Quarterly a. A major trade shock has dominated current account dynamics in recent years Since 2011, the The stand-out recent feature of Indonesia’s current account is the sharp contraction current account has of the non-oil and gas goods trade surplus, beginning in 2011 and becoming been affected by a strongly apparent in 2012 (Figure 26), caused mainly by declines in global major trade shock, commodity prices and the demand for Indonesia’s key commodity exports. This has compounded been due to a moderation of growth in China, as well as generally sluggish global through 2014 by growth. It has been a major trade shock, cutting Indonesia’s commodities export rising net oil revenues by approximately one-sixth over 2011-2014, amidst an approximate imports… halving in its terms of trade for major commodities. A large and, until 2014 growing, oil and gas trade deficit also contributed. All told, the narrower non-oil and gas goods trade surplus accounts for about half (49 percent) of the USD 30.5 billion deterioration in the current account balance from 2010 to 2014, oil and gas trade somewhat under a third (29 percent), and higher income outflows about a quarter (23 percent, most of which occurred in 2010). …resulting in Monetary and exchange rate policy reacted decisively after mid-2013 to the trade significant monetary shock, after external financing conditions deteriorated markedly for Indonesia and policy and exchange many other EMEs. Bank Indonesia (BI) tightened monetary policy through interest rate adjustments… rate increases and macroprudential measures, aiming to moderate domestic demand growth and compress imports. Flexible exchange rate management since mid-2013 has also contributed to macroeconomic stability. The Rupiah has fallen by 33 percent against the US Dollar since July 2013, when BI adopted a more hands-off approach to the currency. Depreciation in real effective (i.e. trade-weighted) terms has been a more moderate 10 percent, and an initially sharp adjustment in H2 2013 has been followed by a generally orderly depreciation trend. This has helped to cushion the trade shock by reducing export price falls in Rupiah terms, improved currency market liquidity, and supported a recovery in gross foreign reserves. …with energy Large energy subsidies, especially for fuel, contributed through 2014 to the increase subsidy reform also in the current account deficit. They did so directly by keeping retail fuel prices expected to alleviate artificially cheap, which increased fuel demand and imports, and indirectly by additional pressures placing upward pressure on the fiscal deficit (hence contributing to a shortfall of that were being national saving relative to investment). Recent reforms have cut budgeted fuel placed on subsidies to 0.6 percent of GDP in 2015, reducing budgeted energy subsidies (for Indonesia’s external fuels and electricity) to 1.2 percent of GDP in 2015, down from an average of 3.3 balance percent in 2011-2014 (see Section B.2). This should contribute to the future sustainability of Indonesia’s external position and reduce fiscal risks from, and increase the expenditure-switching power of, any further Rupiah depreciation. Despite these The effects of lower commodity prices and demand, and of the needed policy changes, Indonesia’s responses to facilitate Indonesia’s adjustment to these shifts, have continued to filter current account into the economy. Domestic demand growth has slowed markedly (see Part A). Yet deficit has remained despite this, and the sharp fall in global oil prices since mid-2014, the current sticky, due mainly to account deficit has so far remained sticky, at 2.9 percent of GDP for 2014. In Q1 weak commodity 2015 the deficit stood at 1.8 percent of GDP, but this reflected favorable seasonal exports factors, and was only 0.1 percentage points of GDP narrower than its 1.9 percent of GDP level in the comparable quarter (Q1) of 2014. The reason is that imports have compressed significantly (by 4.5 percent in 2014 on the back of a lagged response to weaker exports, domestic demand and, moving into 2015, also lower imported fuel prices), but export revenues have also continued to fall, by 3.7 percent in 2014. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 22 Slower gains Indonesia Economic Quarterly Broadly, net commodity exports have remained a drag on Indonesia’s current account balance, while the manufactures trade deficit has closed gradually (mainly due to import compression since 2013), and the more recent drop in global oil and prices has helped lift the goods trade balance back into surplus (Figure 27). Figure 26: The current account balance has been Figure 27: …with net commodity exports staying weak recovering slowly from a large trade shock… but the manufactures trade deficit slowly narrowing (annual change in sub-account balances, USD billion) (3-month rolling goods trade balances, USD billion) Oil & gas trade Non-oil & gas trade Oil & gas Manufactures 15 20 Services Primary income Commodities Total 10 Secondary income Current account 15 5 10 0 5 -5 0 -10 -5 -15 -20 -10 -25 -15 -30 -20 2011 2012 2013 2014 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Source: BI; World Bank staff calculations Note: “Manufactures” aggregate non-commodity SITC 2 categories (mainly chemicals, manufactured goods, machinery & transport, other transport products); “commodities” is a residual item = total goods exports – manufactures – oil & gas. Source: BPS; World Bank staff calculations b. …but Indonesia’s current account balance has also declined due to longer- term structural factors… Recent current In addition to the recent, highly visible impacts of the trade shock and policy account changes also responses, the current account has also continued to be driven by a complex mix of need to be placed in other forces. Recent detailed analysis by World Bank staff decomposes these forces the wider context of into four blocks of interacting short, medium and long run factors: external shocks, Indonesia’s domestic policies, international integration, and stage of development and investment and demographics. This wide range of factors reflects that the current account results saving trends… from the interaction of domestic saving and investment, each of which is subject to both medium-term trends and cyclical factors. The balance of this interaction is that amount that a country borrows from the rest of the world to finance investment and consumption in excess of its level of production. …which point to a The analysis suggests that based on structural factors, a modest negative balance on modest structural Indonesia’s current account is to be expected, with a mid-point of -1 percent GDP, current account but with a wide confidence interval of +/- 2 percent of GDP (i.e. a structural deficit… current account deficit of -3 to 1 percent of GDP, Figure 28). This result is broadly in line with the IMF’s recent assessment that a current account deficit of 1.5 percent of GDP +/- 1 percent is normal for Indonesia.29 29 IMF, March 2015, 2014 Article IV Consultation (Staff Report). J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 23 Slower gains Indonesia Economic Quarterly Figure 28: Based on structural factors alone, it is normal for Indonesia to record current account deficits (estimated structural, cyclical and total current account components, percent of GDP) 90% CI 8 Structural component of current account Cyclical component of current account 6 Current Account 4 2 0 -2 -4 -6 -8 1994 Q2 1996 Q2 1998 Q2 2000 Q2 2002 Q2 2004 Q2 2006 Q2 2008 Q2 2010 Q2 2012 Q2 2014Q2 Note: CI denotes confidence interval (estimated to contain the true structural current account balance with 90 percent probability); irregular component of current account balance not shown (residual of estimated structural and cyclical components). Source: World Bank staff calculations …resulting in a While running a current account deficit may be natural, it still means that Indonesia growing, but is accumulating net foreign liabilities, something which may pose sustainability sustainable, net concerns if these liabilities grow over time, generating debt payment obligations that foreign liabilities burden the economy. Indeed, according to BI, Indonesia’s net international position… investment position (NIIP) declined by USD 129 billion from 2010, the last full year of current account surpluses, to 2014 (Figure 29). The NIIP as of the end of 2014 was USD 420 billion (47 percent of GDP, up from 38 percent of GDP in 2010). Examining the composition of the increase is important in gauging the sustainability of these changes. Figure 29: Most of the increase in net foreign liabilities has been in FDI or other Rupiah-denominated assets (net international investment position, USD billion) Direct investment assets Portfolio investment assets 400 Reserve Assets Other assets Direct investment liabilities Portfolio investment liabilities 200 Loans and other liabilities NIIP 0 -200 -400 -600 -800 2010 2011 2012 2013 2014 Source: BI …helped by a Crucially, the bulk of the increase in Indonesia’s net foreign liabilities from 2010 to preponderance of 2014 has been through an increase in the stock of direct investment holdings of Rupiah-denominated non-resident investors in Indonesia (by USD 104 billion). Such liabilities are liabilities commonly considered to be “bolted down”, representing longer-term commitments by non-resident investors in the economy, and come with ancillary benefits including technological transfers. A further USD 58 billion consists of increased J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 24 Slower gains Indonesia Economic Quarterly portfolio liabilities, and most of this, in turn, comprises increased foreign ownership of domestic government debt. Consequently, most of the total increase in Indonesia’s foreign liabilities has been Rupiah-denominated. Currency depreciation reduces the value of these liabilities in foreign currency terms, strengthening the mechanism for currency depreciation to facilitate external adjustment, as has been occurring since 2013. The IMF’s latest assessment is that the NIIP remains “…at moderate levels and [is] projected to remain stable”.30 c. …and appropriate policy responses are also longer-term in nature Indonesia can, and Indonesia’s current account deficit is due to a complex mix of factors, many of most likely will, which are structural and long-term in nature. Indonesia is still in the relatively early continue to run stages of economic convergence to higher-income trading partners, implying a faster current account growth rate, a higher domestic return on capital, and an excess of investment deficits… spending over domestic saving, tending to push the current account towards deficits. Policy measures to force the current account back into surplus, for example by suppressing imports directly through regulatory measures or through fiscal contraction, would push the economy far off its trend path, at a cost to growth. Fortunately, Indonesia does not have to pay such a price. Assuming no short-term financing difficulties (liquidity constraints), moderately-sized current account deficits can be run indefinitely (sustainably), so long as these deficits contribute to a rapid enough pace of economic expansion relative to the growth, and servicing costs, of accumulated foreign liabilities. …but policy actions Although powerful structural factors are reflected in the current account, there is can play an still a role for policies to help maintain the external balance of the economy. These important role to include the need for measures to increase integration in global markets, and high strengthen the quality spending to address infrastructure and skills gaps. Such steps can boost external balance and international competitiveness (helping Indonesian exports gain global market share ensure continued and reducing import penetration by making domestic production of import sustainability… substitutes more competitive), and raise the efficiency of given levels of investment in generating growth, jobs and incomes. Addressing the regulatory uncertainties and costs facing both domestic and international investors could help Indonesia achieve its potential as a regional production and export hub in Asia and support foreign direct investment, a large and relatively stable source of external financing. …and a focus on Such long-term measures would address socioeconomic policy priorities directly, securing a resilient while also being positive for the current account balance. In the near-term, however, mix of external Indonesia’s ongoing vulnerability to external financing crunches must also be financing, and continually monitored. Risks are due not only to the net foreign currency demand domestic financial generated by the current account deficit, but also from the need to roll-over public market deepening, is and private external debt, which has also increased sharply in recent years (although merited to reduce to still-moderate levels relative to the size of Indonesia’s economy). This argues for short-term financing a strong policy focus on securing a resilient mix of external financing sources, and risks on mobilizing more domestic savings, via improving access to finance and deepening the domestic financial sector. Such a focus on financing, particularly in Rupiah, can help to ensure Indonesia’s continued ability to invest more than it saves, including for the government’s ambitious infrastructure development program. 30 IMF, March 2015, 2014 Article IV Consultation (Staff Report), page 12. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 25 Slower gains Indonesia Economic Quarterly 2. Fuel subsidies - a major reform, but not yet a durable one Fuel subsidy reform Sharply reducing fuel subsidies has been a stated priority of the Indonesian has been a major government, and is a necessary condition for achieving many of its ambitious early achievement of development goals, including redirecting spending towards much-needed the current infrastructure investment. Major fuel pricing reforms have been made, but the government, but implementation of these measures has so far been uneven, and the government has achieving durable sent mixed signals regarding more changes, including introducing price ceilings, and benefits will require reducing the frequency of price adjustments.31 This has caused some confusion more progress in amongst consumers, and contributed to ongoing concerns over the durability of this implementation cornerstone reform, particularly if and when Rupiah-denominated fuel prices rise further. This section provides a brief overview of the fuel price reforms and their significance, the implementation of the announced measures thus far, and discusses priority areas to help ensure that lasting benefits are achieved. a. The announced fuel subsidy reforms are a major positive step… Under the new In one of its first acts after taking office, the administration of President Widodo in system, fuel prices November 2014 increased subsidized fuel prices by an average of 34 percent. are to adjust Subsequently, on December 31, 2014, the government announced a major reform regularly, with no of the fuel pricing system. The reform took effect on January 1, 2015, under gasoline subsidy and Presidential Regulation (Perpres) No. 191/2014 and an implementing regulation of a much-reduced the Ministry of Energy and Mineral Resources (Permen ESDM No. 39/2014). The diesel subsidy… regulation stipulated that gasoline and diesel prices would track the movement in international oil prices and the exchange rate. The subsidy for gasoline with a research octane number (RON) of 88 (“Premium”) was eliminated, and the new regulated price was a little higher outside Java, Madura and Bali, to account for higher transportation costs. A subsidy for diesel was maintained, but at a much reduced level compared to that of recent years, and consisting of a fixed amount per liter, capped at IDR 1,000 per liter. Prices of gasoline and diesel would be announced every month, or more than once a month if deemed necessary, by the Ministry of Energy and Mineral Resources, based on the monthly average of the reference international oil price (e.g. Mean of Platts Singapore) and the USD/IDR exchange rate. …addressing what This critical reform substantially frees Indonesia’s fiscal sector from a wasteful, had become a critical regressive and increasingly unsustainable form of spending, which was also so impediment to the volatile that it significantly complicated fiscal planning and execution, and increased effectiveness and fiscal risks. By 2014, fuel subsidies had swollen to about a fifth of central fairness of public government spending, or 2.3 percent of GDP. In addition to crowding out spending allocations for more productive purposes such as infrastructure, education and healthcare, this spending was highly regressive, since fuel consumption is correlated with income; the richest (poorest) 10 percent of households captured 33 percent (2 percent) of gasoline and diesel subsidy spending.32 Finally, not only did fuel subsidy spending trend higher over the years due to rapidly increasing domestic demand as a result of solid economic growth, but fluctuating global oil prices and exchange rates 31 http://en.tempo.co/read/news/2015/06/01/056671215/Govt-to-Quarterly-Adjust-Fuel-Prices. 32 World Bank staff estimate based on March 2014 Susenas Household Survey. For a more detailed overview of the evidence in favor of removing fuel subsidies in Indonesia, see Diop, N., “Why is reducing energy subsidies a prudent, fair and transformative policy for Indonesia?”, Economic Premise, World Bank, March 2014, available at: http://siteresources.worldbank.org/EXTPREMNET/Resources/EP140.pdf. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 26 Slower gains Indonesia Economic Quarterly also made subsidy costs difficult to project accurately and to plan for. Over 2010- 2014, fuel subsidy spending averaged 2.2 percent of GDP per year, and exceeded initially budgeted costs by an average of 0.5 percent of GDP (Figure 30). Fuel subsidy costs drove about half (0.75 percent points) of the 1.5 percent of GDP deterioration in the fiscal deficit from 2010 to 2014 (Figure 31), and as a result contributed to the widening of the current account deficit (see Section B.1). Figure 30: Until 2015, fuel subsidy costs were high and Figure 31: …and, until 2015, contributed significantly almost always under-budgeted… to the increase in the fiscal deficit since 2010 (fuel subsidy costs, initially-budgeted and actual, percent of GDP) (difference in outturns relative to 2010, percent of GDP) 3.5 Initial Budget (APBN) Actual outturn* 1.5 Revenue Fuel subsidies Other expenditures Overall fiscal balance 1.0 3.0 0.5 2.5 0.0 2.0 -0.5 1.5 -1.0 -1.5 1.0 -2.0 0.5 -2.5 0.0 -3.0 2005 2007 2009 2011 2013 2015 2011 2012 2013 2014 2015 Note: *2015 outturn is World Bank projection. Note: 2015 figures are World Bank projections. Source: Ministry of Finance; World Bank staff calculations Source: BPS; World Bank staff calculations b. …but implementation of the new pricing system has so far been uneven and will need to be improved to achieve durable gains… Regulated prices Implementation of the reform has so far been uneven. Large price reductions were have not been announced on January 19, around the time when the world oil price fell to its lowest adjusted consistently level in six years, despite the regulation specifying that the price adjustment would or transparently… generally be announced at the end of each month. This created some early uncertainty about the frequency and timing of regulated fuel price changes. Prices were then held constant in February, before being adjusted again at the start of March (gasoline only) and the end of March (gasoline and diesel). J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 27 Slower gains Indonesia Economic Quarterly Regulated prices The Ministry of Energy Figure 32: The retail RON88 gasoline price has not have not been and Mineral Resources changed since April 2015 adjusted consistently subsequently issued a (RON 88 gasoline announced and estimated economic price, IDR per or transparently… regulation dated May 4, liter; oil price USD/barrel; USD/IDR exchange rate) 2015, detailing the pricing 14,000 160 formula for each type of USD/IDR fuel, a positive 12,000 RON 88 gasoline 140 development toward 10,000 estimated market price (IDR/liter) based 120 improved transparency.33 Indonesia crude oil prices (ICP, However, from April to 8,000 USD/barrel, RHS) 100 June, regulated gasoline 6,000 RON 88 gasoline 80 and diesel prices were announced price (IDR/liter) 4,000 60 again kept unchanged, despite significant shifts in 2,000 40 global oil prices and the 0 20 exchange rate over the Implied subsidy gap period, partly on account -2,000 (IDR/liter) 0 of the authorities’ Jan-14 Apr-14 Jul-14 Oct-14 Jan-15 Apr-15 concerns to keep inflation Note: Market-based price of RON 88 gasoline is linearly in check leading up to interpolated using the differences in price between unleaded 92 and Ramadan and Idul Fitri.34 95 and unleaded 92 and 98. Announced and estimated market-based prices from January 2015 onward use averages from the preceding Consequently, the implied month. gap between non- Source: Ministry of Energy and Mineral Resources; Ministry of Finance; CEIC; World Bank staff calculations subsidized RON88 gasoline and the regulated price has narrowed significantly over 2015, but it has not closed, and in June is estimated to have been about IDR 1,500 per liter, or 17 percent of the estimated unsubsidized price (Figure 32). …after the move to Why the need for more transparent, consistent implementation, especially given that the new pricing lower oil prices since 2014 mean that the government is expected to save almost 2 system, which percent of GDP in subsidy costs, despite the uneven implementation of the new benefited initially system? The reason is that the government has made bold moves to slash subsidies, from lower global oil but it has done so in the context of a sharp fall in global oil prices, making it prices… possible to cut subsidies with only a relatively modest increase in retail fuel prices. Gasoline and diesel prices are up 12 percent and 25 percent compared with their levels before the November 2014 once-off price increase, yet fuel subsidy spending is expected to be almost three-quarters lower in 2015. A number of other developing countries have also taken the opportunity to improve their fuel pricing systems, strengthen their budgets, and provide better support to vulnerable households for energy costs (Box 2). …and adding to Global fuel prices are most unlikely to remain at the current level for long. Brent uncertainty over the crude, the global oil price benchmark, is already up 34 percent since January in US durability of the Dollar terms, and 40 percent in Rupiah terms. If and when global fuel costs do reform, especially climb further, there is a risk that subsidy costs will accumulate again too, without when fuel prices more progress to embed regular fuel price adjustments based on market prices. The begin to rise again lack of clarity about how binding the new regulations are makes it difficult to know 33 See http://jdih.esdm.go.id/peraturan/Kepmen-esdm-2856-2015.pdf. 34 http://thejakartaglobe.beritasatu.com/multimedia/bps-warns-government-raising-fuel-prices-ahead- ramadan-will-drive-inflation/ and http://www.jawapos.com/baca/artikel/18198/bps-minta-bbm- tak-naik-jelang-lebaran. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 28 Slower gains Indonesia Economic Quarterly whether they will prove durable, or if instead the fiscal sector will again become burdened by future rises in global oil prices or currency depreciation, against the backdrop of the ever-rising energy needs of Indonesia’s growing economy. In contrast, adhering on a transparent and consistent basis to the automatic price adjustments as stipulated by the new regulations, during what may prove to be a temporary window period of relatively low global oil prices, could go a long way towards building the public’s comfort with, and de-politicizing, fuel price changes. In short, the appeal of retaining discretion in the setting of sensitive prices such as for fuels is understandable, but international experience demonstrates that such discretion comes at the cost of the credibility of commitments to prevent wasteful and unsustainable subsidies from growing again in the future. This is particularly true at times of political pressure, for example related to the election cycle, or higher global fuel prices.35 Box 2: Moving to market-based fuels pricing and raising government revenue while protecting the poor: recent examples from around the world Developing countries across the world have seized the opportunity afforded by the fall in global oil prices since mid- 2014 to move towards more optimal fuel pricing and strengthen their budgets by increasing fuel taxes. From May 2015, Vietnam tripled its environmental protection tax on gasoline to the equivalent of IDR 1850, that on diesel to IDR 925, and that on kerosene to IDR 185 per liter. China in three successive steps between November 2014 and January 2015 increased the excise tax on gasoline by a total of 52 percent and diesel by 50 percent, to about IDR 3,200 and 2,500 per liter, respectively. India similarly nearly doubled the excise tax on regular gasoline and tripled the tax on diesel over three successive months in 2014 to IDR 3,700 and 2,100 per liter, respectively. Mexico turned its negative taxes (that is, subsidies) on gasoline and diesel in 2014 to positive taxes in 2015. For example, the tax on regular gasoline in March 2014 was IDR -930 per liter, but by February 2015 the tax was IDR +3,425 per liter. Similarly, the corresponding taxes on diesel were IDR -900 and IDR +3,765 per liter, respectively. Liquefied Petroleum Gas (LPG) prices are important where LPG is the primary cooking fuel for many vulnerable households. Indonesia has implemented a large-scale program converting households from kerosene to cleaner LPG, and subsidizing the price of smaller (3kg) LPG canisters. LPG subsidy costs have consequently increased significantly, to a budgeted 0.25 percent of GDP in 2015. A number of developing countries that have also historically subsidized LPG have taken steps to minimize distortions in the market and wasteful spending due to weak targeting of the poor households who most need support for their energy costs. India in February 2015 stopped price subsidies for LPG for cooking, historically intended for household use but exploited for decades by restaurants, hotels, and other commercial consumers of LPG, who managed to obtain residential LPG cylinders illegally. Under the new system, price subsidies are no longer provided at the point of sale, arguably making illegal diversion to commercial establishments much more difficult. Instead, consumers wishing to receive cash assistance are required to sign up for the Direct Benefits Transfer for LPG and receive deposits in their bank accounts. Those without bank accounts are provided one free of charge. The bank account is also linked to the consumer’s LPG customer identification number and the national 12-digit individual identification number being rolled out by the government, which contains each resident’s biometric information. Cash transfers are provided up to 12 times a year to refill 14.2-kg cylinders. Peru in 2013 created a fund, financed by surcharges on energy consumers, to help poor households consume LPG. The eligibility criteria are strict to ensure that better-off households do not benefit from the assistance. Recipients of the program receive a voucher that provides a discount of 16 soles (approximately IDR 67,000) on the first refill of a 10-kg LPG cylinder each month. The refill price in June 2015 was about IDR 150,000. 35 See IMF Staff Report “Energy Subsidy Reforms: Lessons and Implications”, January 2013, available at: http://www.imf.org/external/np/pp/eng/2013/012813.pdf. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 29 Slower gains Indonesia Economic Quarterly c. …as part of ongoing, wider efforts to strengthen energy pricing polices Beyond more In addition to being applied consistently and transparently, the existing fuel pricing consistent and policy can be further improved to help manage the impact of oil price and exchange transparent rate volatility on the economy and the fiscal position, while strengthening application of the protections for the poor and vulnerable. There are concerns that Indonesian new pricing system, consumers and the economy will find it difficult to adjust to regular fuel price Indonesia stands to changes. However, these are mitigated by the fact that Indonesian fuel prices remain gain from potential low by international standards, and only more experience with the new system will additional generate the data and evidence required to definitively address these questions and measures… consider effective policy responses. In the meantime, it seems unlikely that the best solution is to revert to the past system of absorbing market fuel price volatility in the fiscal sector by fixing retail fuel prices, especially at an artificially low level. This suppresses retail fuel price volatility, but at a high cost to fiscal planning, generating fiscal risks and macroeconomic management risks from sporadic large price adjustments, and distorting the economy (for example by blunting consumers’ incentives to economize on fuel at times of higher prices). …including to Rather, to help manage the impacts of volatile fuel prices, Indonesia could consider manage the impacts mechanisms such as a sliding-scale fuel tax that increases with falling oil prices and of price volatility on decreases above a given retail fuel price ceiling. Such an adjustable fuel tax could the most vulnerable, support government revenues at times of low oil prices and mitigate the impact of while preserving price increases on consumers and the economy at times of high prices. Another automatic price option is to provide targeted compensation for high oil prices to those who need it adjustments… most, for example through targeted cash transfers (as Indonesia has done, for example through the Bantuan Langsung Tunai, BLT, program). Such cash transfers could even be automated through the use of agreed trigger prices, based for example on transparent, fuel affordability measures. …and building on Finally, while the elimination of gasoline subsidies is a major step forward, reform progress in Indonesia continues to spend significant sums subsidizing diesel and LPG (about non-fuel energy 0.25 percent and 0.3 percent of GDP under the 2015 Budget, respectively), and a subsidies, including smaller amount on kerosene. Rather than subsidizing LPG, international evidence electricity suggests that targeted direct transfers are possible with LPG and support vulnerable households better and more efficiently (see Box 2). Electricity also remains subsidized at a cost of approximately 0.6 percent of GDP, with mixed progress in reforming electricity tariffs. Effective in January 2015, tariff adjustments for ten non-subsidized customer categories (out of twelve customer categories for which a floating tariff adjustment is to be applied) now reflect changes in production costs and macroeconomic developments (e.g. inflation, oil prices, and the exchange rate).3 However, the application of a similar floating tariff system for two large household customer categories, those with 1,300 volt-ampere (VA) and 2,200VA power supplies, which consume 12 percent of the electricity produced by the state-owned electricity company (Perusahaan Listrik Negara, PLN), have been postponed.4 J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 30 Slower gains Indonesia Economic Quarterly C. Indonesia 2016 and beyond: A selective look 1. Geothermal energy in Indonesia: realizing the potential Indonesia has not Indonesia lies on the Pacific “ring of fire”, a geological belt that makes the yet unlocked its Indonesian archipelago one of the most active seismic regions in the world. This has significant obvious major drawbacks in terms of volcanic eruptions and earthquakes, but it also geothermal energy means that Indonesia is one of the most ideally located countries in the world for potential… exploiting geothermal energy. This energy is derived from the earth’s inner heat and exploited by pumping water into the earth’s crust and using the steam produced to drive turbines and so produce electricity. Geothermal energy is clean and renewable, and can also act as a natural hedge against volatile global fossil fuel prices. Despite these advantages, Indonesia has not yet harnessed much of its large geothermal energy endowment. This section provides a brief overview of the sector and discusses options to unleash more investment. …which is Indonesia was the third-largest generator of electricity from geothermal energy in significant but the world in 2014, after the US and the Philippines, with installed production currently only capacity of almost 1,395 MW from eleven geothermal fields in Central and West accounts for a Java, North Sumatra, Lampung, East Nusa Tenggara and North Sulawesi (Figure fraction of installed 33).36 However, most of Indonesia’s geothermal potential still remains untapped. electricity capacity Estimates of available geothermal resources vary, but Indonesia may have about 40 percent of the world’s potential geothermal resources, sufficient to generate 27,000 megawatts (MW) of electricity.37 Consequently, Indonesia remains heavily reliant on gas, oil and (especially) coal for its electricity, with geothermal energy contributing only 3 percent of electric power in 2014.38 36 Source: World Bank staff estimate. 37 Source: Indonesian Ministry of Energy and Mineral Resources, Geological Agency Annual Geothermal Area Distribution Map, and Annual Report on Geothermal Potential in Indonesia. 38 Source: State-owned electricity company PLN’s Electricity Supply Business Plan (RUPTL), 2015- 2024. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 31 Slower gains Indonesia Economic Quarterly Figure 33: Geothermal working areas are located across Indonesia but still tap only a fraction of potential Source: Geothermal Agency, Ministry of Energy and Mineral Resources Recognizing the Indonesia’s governments have recognized the potential contribution of geothermal potential, successive energy in Indonesia’s future energy mix, and have put major efforts into promoting governments have the sector’s development. A Geothermal Fund under the Ministry of Finance was laid out ambitious established in 2012, and seeded with over USD 200 million in public funds, with a plans for the sector… mandate to help fund exploration drilling, thus reducing investment costs and risks. A Roadmap of Geothermal Development 2012-2025 was issued and subsequently incorporated into the National Energy Policy (NEP) of 2014. Also in 2014, a new geothermal ceiling tariff was implemented and a Geothermal Law, No.21/2014, was passed. Plans for the development of the sector have been ambitious, including to build 44 new geothermal plants, to more than triple capacity to 4,000 MW by 2014, and then to increase capacity to 6,000 MW by 2020.39 This would make geothermal energy an important contributor to the goal under the NEP of generating 23 percent of primary energy from renewables by 2025 (and 31 percent by 2050). 39 Source: Government Fast Track 2 Power Program (Presidential Regulation no 4/2010), subsequently revised by MEMR Decrees, most recently MEMR Decree 32/2014. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 32 Slower gains Indonesia Economic Quarterly a. Investment has been impeded by high upfront costs and pricing difficulties… …but investments Progress has fallen far short Figure 34: Geothermal energy has not contributed have so far been of these ambitious goals. significantly to increasing power generation limited… From 2010-14, just 175 (installed capacity operated by PLN, thousand megawatts) MW in new geothermal Coal Gas Hydro Solar & Wind Geothermal capacity was added (Figure 40 34). No new power 35 purchase agreements (PPAs), governing new 30 private investment in the 25 sector, were signed under 20 the government’s feed-in tariff policy (discussed 15 further below) since it was 10 established in 2012. Indeed, there is a widespread 5 perception that the 0 Indonesian geothermal 2006 2007 2008 2009 2010 2011 2012 2013 2014 program has stalled. Four Note: PLN operations only; excludes approximately 800MW of main sets of issues have independently-operated geothermal capacity. impeded the development Source: PLN Statistics 2014 of geothermal energy in Indonesia. These are (i) the geothermal tariff, which affects both currently stalled and future projects; (ii) tendering processes, (iii) price negotiations and difficulties in reaching closure on power purchase agreements and (iv) institutional roadblocks and financing issues. …hampered by high These four sets of issues are interlinked and developing geothermal energy in initial investment Indonesia requires simultaneous and coordinated action across all these areas. The costs and risks main underlying problem is one of capital mobilization for what is a highly capital- intensive sector, with long lead times from exploration through to power generation. For instance, indicatively, 30 percent of equity financing is required for geothermal projects, which means that achieving an additional 3,000 MW of geothermal capacity would require USD 4 billion in equity, and USD 9.5 billion in debt financing.40 The high levels of upfront investment involved make the level and certainty as to pricing—that is, tariffs—critically important. Tariffs must be set at an adequate level, and periodically reviewed over the project implementation cycle, otherwise capital-intensive exploration and exploitation of geothermal resources will continue to be perceived as uneconomical, or overly risky. The regulated returns from the electricity sector are currently too low to cover the risks inherent in geothermal exploration and exploitation. 40 Assuming USD4,500/kW total cost and 30 percent equity financing. For detailed geothermal cost estimates, see World Bank Energy Sector Management Assistance Program (ESMAP), 2012 “Geothermal Handbook: Planning and Financing Power Generation”, Technical Report 002/12, 2012. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 33 Slower gains Indonesia Economic Quarterly b. …and resolving this will require more aligned public stakeholder goals and less regulatory complexity… Increased Many state institutions are involved in the geothermal sector. A lack of cooperation, cooperation will be and even outright competition, amongst these entities has added complexity in the needed amongst sector, damaged the investment climate, and likely reduced investment. Addressing public sector this situation will require a comprehensive and coordinated approach amongst stakeholders… government entities, so that the required resources and incentives are in place to develop the sector. …including multiple The Ministry of Energy and Mineral Resources (MEMR) is the primary promoter of ministries and state- the geothermal sector and is responsible for implementing the Geothermal Law and owned enterprises for tariff-setting. The Ministry of Finance (MOF) is responsible for the USD 200 million Geothermal Fund, but, naturally given its different mandate, lacks in-house technical expertise around the planning, implementation, supervision and review of drilling activities. The MOF is concerned with minimizing the fiscal burden of electricity subsidies paid to the state-owned electricity company (Perusahaan Listrik Negara, PLN). The Ministry of State-Owned Enterprises, in contrast, has a mandate to ensure the sound commercial performance of both PLN and Pertamina, the state-owned oil company. Pertamina has had little incentive to allocate scarce capital to PT Pertamina Geothermal Energy (PGE)—its division responsible for geothermal energy—given that it can generate far higher returns from its numerous oil and gas interests. Finally, there are overlapping roles amongst PGE, PT Geo Dipa Energi, another state-owned enterprise for geothermal development set up in 2002, and PLN Geothermal, which focuses on geothermal power generation. More cooperation amongst all these key government stakeholders is clearly needed, to mobilize geothermal financing and investment. c. …a strengthening of the tendering process… Tendering processes The Geothermal Law stipulates competitive tendering for licenses to exploit can be strengthened geothermal energy resources, with the aim of encouraging efficient and to ensure that transparently-allocated investments. Previously, winning bids for geothermal projects are awarded projects often had unrealistically low prices and bidders may have lacked adequate to committed and technical knowledge and financial capacity. Purported weaknesses of the system adequately- have included poor technical knowledge of the selection committee at the local resourced bidders… government level, inadequate bid bonds (some as low as USD 100,000), and performance bond requirements that were not imposed (bid and performance bonds aim to ensure that only committed contenders participate in the tender process). Hence, there is a need for improved tendering processes, including by applying international best practice principles. For instance, the minimum bid bond size could be increased substantially and calculated as a percentage of total project cost, rather than the first year’s exploration cost. Winners’ bid bonds could then be converted into performance bonds that would only be released upon evidence of tangible exploration drilling, reducing speculative activity by uncommitted or under- resourced bidders. …backed by higher International experience also shows that the quality of information on available quality geological resources is crucial in improving the quality of tender processes. In view of this, information concession areas in Indonesia should be put out to tender only with a complete and independently certified package of geology, geophysics and geochemistry (“3Gs”) information, ideally based on analysis from a minimum of three exploration wells. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 34 Slower gains Indonesia Economic Quarterly Currently, tenders often lack any subsurface geological information, making it difficult for bidders to reliably estimate costs. d. …a strengthening of the tariff system… Appropriate tariff Appropriate tariffs have proved to be a major impediment to private investment in levels and structures, Indonesia’s geothermal sector. In 2012, the government made a major attempt to including flexibility, unblock the sector by introducing a feed-in tariff (FIT), providing fixed tariffs for can be critical developers. However, perhaps due to insufficient stakeholder consultations, the FIT factors… failed to break the deadlock over pricing between electricity buyers and prospective sellers. In addition, the FIT system was flawed because it relied on fixed tariffs. This turned the selection process for investment bids into a “beauty contest”, based on hard-to-measure non-price qualifications. International best practice suggests that allowing competitively determined bids is a more effective way of conducting the bid process, guided by a maximum (“ceiling”) price. This provides information on the maximum acceptable tariff (which is vital should competition for licenses prove limited), while maintaining flexibility for competition to drive winning bids down, and for gauging efficiency and competitiveness gains over time. In Indonesia’s case, a ceiling price of USD 9.7 cents/kWh was originally set in 2009, and this was updated in 2014 through MEMR Decree no 17/2014. The new regulation sets the ceiling prices by region (3 alternatives, based on main generation sources), and target commercial operation date (COD) year. While this is a promising start, international experience also demonstrates that tariff-setting should be seen as part of a process that will change over time. Indeed, most countries conduct regular tariff reviews based on full stakeholder consultation and a published methodology. Such an approach recognizes that a tariff ceiling set today may have little relevance when commercial operations start 7-9 years in the future and that for tariffs to be acceptable and de-risked they need to involve some degree of flexibility. …and could be One approach for achieving more flexible tariffs that may be appropriate for informed by ceiling Indonesia is to set ceiling prices on the basis of the estimated benefits of geothermal prices reflecting the energy to the country. “Avoided-cost” approaches have been used for these sorts of benefits to Indonesia estimates, based on a transparent methodology for forecasting a reasonable price for of geothermal power projects whose commercial operation is 7-9 years away. While there are many benefits to Indonesia of using geothermal energy, the most important is the potential avoided costs for PLN of having to invest in other sorts of costly power plants. Another major benefit relates to local economic development, given that one of the main goals of the government is to encourage economic development in the eastern islands, for which geothermal energy holds great promise. Finally, there are also benefits in terms of avoided externality costs of thermal generation, notably avoided greenhouse gas (GHG) emissions. The government would need to decide on the value it should place on avoided GHG emissions and whether this should be higher than the current price in global carbon markets. e. …and making power purchase agreements work Power purchase Power purchase agreements (PPAs) are the contracts that need to be agreed agreements are the between geothermal project developers and PLN, as the state-owned electricity cornerstone of company and distributor of electricity. To date, a stumbling block in concluding private investment in PPAs has been the time-consuming and ad hoc negotiation of tariff escalation terms the sector… after tenders have been issued. An alternative could be to use a single tariff escalation formula, consistent with international best practice for renewable energy projects, agreed at the time of tender. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 35 Slower gains Indonesia Economic Quarterly …and, to be The comprehensiveness of PPAs is also important. For example, PPAs should effective, should be specify in advance how the new geothermal power source will be connected to the comprehensive grid (transmission connection). One option is to call for the developer to build a transmission line to the nearest PLN substation and then recover the costs through a non-escalating tariff ladder. These costs would be relatively small and hence not relevant in selecting a developer. PLN would later take over the line at the time of commercial operation and be responsible for maintenance thereafter. There is a need to One immediate problem concerning PPAs is how to resolve projects that are address the backlog currently stalled due to factors including: low tariffs (resulting in the license-owner of stalled projects… not having an incentive to exploit the resource), unresolved land acquisition or access issues, or a lack of technical and financial capability on the part of license- owners. In these stalled cases, PPA renegotiation may be required. For instance, under the 2014 ceiling tariff decree, geothermal license holders were required to sign PPAs by December 2014. PPA renegotiation is allowed when the developers completing the exploration program find that the proven resource is less than expected. In addition, for PGE to conclude private partnerships, prices that were set up a decade ago and are now obsolete would need to be reset. New projects, by contrast, should be helped by the declassification of geothermal exploitation as a mining activity in an amendment to the Geothermal Law, allowing the Ministry of Forestry and the Environment to issue permits to developers within national forests. …including the To mitigate uncertainties generated by the possibility of PPA renegotiations, the possibility of scope for this to occur could be guided by clearly communicating principles, renegotiating stalled including the circumstance under which a renegotiation could be considered and the projects’ PPAs, process that would be applied. For example, renegotiations could be limited to three subject to clear situations: (i) delays attributable to government error; (ii) projects where drilling principles after tender reveals significantly larger or smaller potential than was estimated in the tender; and (iii) projects where developer capacity was set at the time of tender, but where the developer subsequently wishes to install larger units and not risk incurring a penalty. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 36 Slower gains Indonesia Economic Quarterly 2. Ten years of Indonesia’s school grants program (BOS) – successes and challenges41 Indonesia’s school Indonesia’s school grants program (Bantuan Operasional Sekolah, BOS) is central to grants program the country’s strategy to expand access to good quality basic education. In 2012, the (BOS) provides program accounted for 8 percent of all government education spending and operational funding provided IDR 24 trillion (USD 2.5 billion) of operational funding to 220 thousand to 220 thousand primary and junior secondary schools and madrassahs. This section provides a brief schools and assessment of the program and its contribution to the education sector. An madrassahs… assessment is timely since the program has now reached its tenth year of operation and efforts are underway to expand the program beyond basic education. ...joining many other Education policymakers around the world have increasingly recognized the countries in granting importance of empowering schools to make their own decisions in the quest to schools more improve education outcomes. This has led many countries to grant schools greater management and autonomy by introducing school-based management reforms. This has included spending autonomy, increasing the participation of parents and communities in school governance, in often with positive order to improve the accountability and performance of schools. The increasing results when focus on school-based management has usually gone hand-in-hand with direct accompanied by funding to schools to support various improvements. This kind of funding differs effective from regular public funding as it provides schools with some discretion on how implementation funds are spent. Such funding can provide a more predictable income stream, allowing schools to plan quality improvement activities more effectively. School- based management and school grant programs have shown some success in improving education access and raising education outcomes, as well as reducing education inequality.42 However, programs can take time to yield results and their success depends critically on political support and effective implementation. a. The nuts and bolts of the BOS program BOS aims to help The BOS school grants program aims to improve access to, and raise the quality of, fund school the 9-year basic education system through three main channels. First, direct support operating costs, poor for school operating costs: this channel has the potential to reduce fees charged to students’ costs, and parents and increase enrolment and participation particularly for poor households. strengthen school Second, financial assistance for poor students: school grants can provide direct management support to poor students to cover transportation, stationery, uniform and clothing expenses. Third, strengthened school-based management: grants are intended to lead to greater school autonomy by providing resources to finance activities which schools themselves feel will raise local enrolment rates and education quality. The management of funds within schools is expected to increase transparency, strengthen school accountability and lead to improved education outcomes. 41 This section is based on Al-Samarrai, S., Fasih, T., Hasan, A and Syukriyah, D., “Assessing the role of the school operational grant program (BOS) in improving education outcomes in Indonesia”, World Bank study, December 2014, available at: http://documents.worldbank.org/curated/en/2015/05/23167187/indonesia-assessing-role-school- operational-grant-program-bos-improving-education-outcomes-indonesia. 42 See for example, AusAID ERF (2011), ‘School grants and school-based management’ and Bruns, B., D. Filmer, et al., 2011, Making schools work: new evidence on accountability reforms, World Bank. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 37 Slower gains Indonesia Economic Quarterly BOS funding for The BOS school grant is Figure 35: The value of BOS assistance for each schools is significant allocated based on an student has increased considerably and has doubled in amount for each student (BOS program allocations per-student and as a share of govt. spending, real terms since 2005 and currently covers 2005-2014, in constant 2012 prices, thousand IDR and percent) BOS per-student amount: primary approximately 43 million BOS per-student amount: junior secondary primary and junior BOS spending as percent of total education budget (RHS) secondary school students. The real value 1,200 of the per-student 12 1,000 allocation has more than 10 doubled since the 800 8 introduction of the program in 2005 (Figure 600 6 35). In 2014, the program 400 4 provided funds to the average primary school of 200 2 approximately USD 0 0 10,000, and of USD 2005 2007 2009 2011 2013 20,000 for a junior Source: World Bank calculations from Ministry of Education and secondary school. The Culture and Ministry of Finance BOS and budget information program is financed by the central government and allows schools to utilize funds according to lists of authorized and unauthorized categories of expenditure. BOS funds can be used for a wide range of improvement activities and schools have considerable flexibility over what they use funds for. However, restrictions on the total amount of funds for spending on contract teachers were introduced in 2009 after concerns were raised about teacher over-hiring. Funds are governed BOS teams are established in all levels of government and at the school level. The at the school level by school BOS team, made up of the school principal, a treasurer and a parent BOS teams, distinct representative, is the main focal point in the school and manages all administrative from school procedures associated with the BOS program. It is expected to work closely with committees the school committee that also oversees the planning and use of BOS funds and participates in the overall school improvement process. b. BOS has had a limited impact on reducing households’ education costs BOS appears to have The evidence suggests that BOS has had a discernable, but limited, impact on reduced households’ reducing household education costs, especially for poorer households. Annual education costs, education spending for households with children in primary and junior secondary especially for poorer fell by about 6 percent in the first year after BOS was introduced (Figure 36). households… However, the drop in education costs faced by households has been relatively small compared to the size of the per-student grants given to schools through the BOS program.43 Initial drops in household spending were concentrated amongst poorer households and for children attending government schools. Immediately after the introduction of the BOS program, household spending for the poorest households 43 Given that the BOS program was national in scope it is difficult to use formal methods to evaluate its effect. A second-best approach is adopted which uses available data to look at trends before and after the program was introduced and also simple regression analysis to control for other factors (e.g. household income). This approach cannot provide definitive conclusions on the effect of the BOS program but can provide some insights into its overall effect. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 38 Slower gains Indonesia Economic Quarterly fell by the equivalent of around 5 percent of the BOS grant at primary school level and 30 percent at the junior secondary level. …but perhaps only However, drops in Figure 36: The introduction of the BOS program led to temporarily, with households’ education an initial drop in education spending by households costs rising steadily spending, corresponding (annual household per-student education spending, thousand IDR) again in real terms with the introduction of 1,200 since 2009… the BOS program, appear All households to have been a relatively 1,000 BOS introduced temporary phenomenon; by 2009 household 800 education spending in real (inflation-adjusted) terms 600 began to increase steadily 400 again. These findings Poorest 20 support other more percent of 200 detailed study results households showing that the allocation 0 and level of education charges for parents fell with the introduction of Note: Average education spending per-student for households with primary and junior secondary education children. BOS but then began to Source: Susenas household surveys rise over time as schools became more familiar with the workings of the BOS program. …consistent with If BOS has had only a limited impact on reducing charges faced by households, this evidence that BOS raises the question of where else BOS funds have been allocated. It is also possible has increased overall that BOS only had a limited effect on households’ education costs because other school funding, and sources of school funding fell when BOS was introduced. However, there appears that a significant to have been a strong increase in schools’ discretionary resources after the amount of BOS introduction of BOS. In particular, the number of teachers hired directly by schools funding has been increased sharply in the years after BOS was introduced. In 2012, there were allocated to hiring approximately six hundred-thousand school-hired teachers in the education system additional teachers and approximately half of these were recruited after the introduction of the BOS program. This suggests that schools had more resources to spend after BOS was launched and that they devoted a significant share of these resources to hiring additional teachers. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 39 Slower gains Indonesia Economic Quarterly c. BOS has contributed to rapidly rising junior secondary enrolment rates BOS has likely Enrolment rates in Figure 37: Enrolment in secondary schooling has been contributed to the primary school have been growing strong rise in junior very high for a Primary, junior and senior secondary net enrolment rates, 2000-2013 secondary enrolment considerable time and so, primary: national average primary: poorest 20 percent since 2005… as might be expected, junior: national average junior: poorest 20 percent senior: poorest 20 percent senior: national average BOS has had no discernable effect on 90 90 these rates (Figure 37). Introduction However, enrolment in 70 of BOS 70 junior secondary school, particularly for children in 50 50 the poorest households, increased significantly 30 30 after the introduction of the BOS program. 10 10 Between 2000 and 2005, junior secondary enrolment rates for the Source: Susenas household survey poorest 20 percent remained relatively stable but increased 26 percentage points between 2005 and 2013. There is tentative evidence that the BOS program contributed to approximately 5 percentage points of this strong increase, especially amongst poor households. Like the apparent impact on household costs, however, this effect seems to have also been temporary, with enrolment rates settling back onto a long term trend that did not fluctuate with subsequent increases in the per-student amount of the BOS grant. Further support for these findings comes from the different rate at which poor households closed the participation gap in junior and senior secondary schools; the period since BOS was introduced has seen the senior secondary enrolment gap narrow but at a slower rate compared to junior secondary (Figure 37). …but there is no Enrolment rates are only one measure of the potential effect of BOS on school evidence that BOS participation. The program was expected to improve the proportion of children has increased completing the full nine years of compulsory education, by improving transition transition rates rates between primary and junior secondary education. Transition rates of this kind between primary and have indeed increased since the introduction of BOS and have followed a similar secondary school trend to the enrolment rates shown in Figure 37. However, further analysis shows that the introduction of the BOS program and subsequent increases in its level were not associated with jumps in transition rates. d. BOS is at the center of efforts to improve school-based management BOS is an important Improvements in school-based management have been shown to raise levels of part of reforms to learning achievement in Indonesia.44 For example, primary schools with better strengthen school- parental and school committee participation have better learning outcomes, due to based management improved resource allocation decisions and higher teacher attendance rates. The 44 See for example, Chen, D. (2011), “School-based management, school decision-making and education outcomes in Indonesian primary schools”, World Bank Policy Research Working Paper No. 5809, and Heyward, M. O., R. A. Cannon, et al., 2011, “Implementing school-based management in Indonesia: impact and lessons learned.” , Journal of Development Effectiveness. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 40 Slower gains Indonesia Economic Quarterly in Indonesia, which BOS program has been a vital component of government efforts to implement has been shown to school-based management reforms. In 2001, the responsibility for basic education improve learning service delivery was largely devolved to local governments. Further reforms were outcomes introduced in 2003 that provided the legal basis for school-based management and school committees, in an effort to encourage local community participation and strengthen accountability between schools and parents. The BOS program supported these reforms by providing resources to fund school improvement plans and by making use of established school-based management structures and processes to govern the use of its funds. School committees Most schools in Indonesia have the institutions and processes required for school- have been based management. A nationally representative survey conducted to explore school- established in most based management issues showed that all schools had established school schools but concerns committees.45 However, the selection of committee members was not very remain over the transparent. For example, in primary schools, members were commonly either selection of members appointed or selected by consensus; less than fifteen percent of school committee chairs and less than twenty-five percent of committee members were elected. BOS has been Principals reported that they had considerable autonomy over school affairs but central to opening up only involved school committees in about forty percent of the decisions they made. school decision- The role of school committees centered around the use of BOS funds and making … overseeing financial matters more generally. These findings highlight the importance of the BOS program in opening up school decision-making to the broader school community. …but school Despite the role that BOS has provided for school committees, there are significant committees are weaknesses in how effective they have been. Focus group discussions with the BOS rarely actively team and school committee members, conducted as part of the survey, generally involved … agreed that committee members were rarely, if ever, actively involved or consulted in making BOS fund allocation decisions. In practice, it was common for the school principal and teachers to agree on the allocation of BOS funds and then to communicate their decision to the school committee chair for approval. …and their role is The role of the school committee in managing BOS funds is further weakened by further weakened by the requirement for schools to establish a separate BOS management team. Rules a requirement to on the formation of this team explicitly prohibit membership for parents from the have separate BOS school committee. Given that all schools already have school committees, a separate teams team for the management of BOS funds dilutes the potential role of the school committee. e. There is scope to significantly strengthen the impact of BOS spending Steps can be taken These findings suggest a number of key policy directions that could strengthen the that could strengthen existing BOS program. First, BOS could have an enhanced focus on improving BOS’ positive education quality. BOS funding could be linked more directly to education impact, by linking standards. Establishing a more formal link between BOS funding and education funds to making standards has the potential to signal to schools the importance of using BOS education quality resources to fulfil these standards. BOS funding could also be tied to quality gains… assurance systems by providing an incentive for schools to obtain and maintain accreditation status. The list of eligible items under BOS could also be reviewed, to 45 World Bank, “School based management in Indonesia”, 2012. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 41 Slower gains Indonesia Economic Quarterly give schools the flexibility to invest in quality-enhancing inputs, for example teaching and learning materials such as audio-visual equipment. ...by increasing the Second, BOS could have an increased focus on reducing poverty. The value of BOS focus on poverty could be adjusted periodically to account for regional price differences and inflation, reduction… to ensure that all schools can meet operating standards and to recognize that education costs per-student vary greatly across Indonesia. The BOS formula could also be adjusted to provide more funding to schools serving poor and vulnerable children. Schools serving poor and disadvantaged students need additional support to ensure that they are able to provide a quality of schooling similar to schools in wealthier areas of Indonesia. In addition, it would likely be effective to phase out the use of BOS resources to cover “out of pocket” expenses of poor students, because large cash transfer programs (e.g. Kartu Indonesia Pintar) already exist. While these programs require strengthening, they should be the principal way of reducing the direct costs of schooling. …by improving the Third, the coordination between BOS and other sources of school funding could be coordination of BOS strengthened. Fees and charges remain a significant proportion of out-of-pocket with other school expenses, despite efforts to clarify the rules governing voluntary contributions to funding… schools. Alongside continuing these efforts, consideration should be given to strengthening the role of school committees in managing the level of contributions. Regulations should also be clearly communicated to parents and other stakeholders. There is also a need to coordinate more closely with local governments, as many local governments also run school grant programs to support school operating expenses beyond basic BOS funding. It is important that these funds are used to raise overall school standards beyond the level provided by BOS. …and through Finally, there is scope to revitalize the role of the BOS program in empowering strengthening the schools and local communities. School-level management of the funds could be role of school strengthened, to improve their effectiveness, for example, regarding the role of the committees… school committee, by transferring the responsibilities of the BOS team to the committee, and ensuring better representation in the committee. …and such In the ten years of its existence, the BOS program has established itself as a measures could help program that is able to deliver resources to schools on a regular and timely basis. build on the success Other countries, having also successfully established school grant programs and of BOS’ first 10 years, their financing mechanisms, have further developed them to address other to spend not only education challenges. For example, they have used them to allocate a greater share more, but better, on of school funding in an effort to promote more efficient spending, which other Indonesia’s schools studies have shown is also an urgent priority for Indonesia. Consolidating a larger share of budgetary resources, and in particular teacher remuneration, into a BOS- type formula has the potential to improve the quality of education spending. For example, linking teacher resources for schools to student numbers could create incentives for local governments to reduce the large number of small schools currently in operation in many parts of the country. The challenge now is to build on the initial successes of the BOS program, and explore how it and the mechanisms it has introduced for allocating and managing resources can be adapted to make an even bigger contribution to improving education outcomes in Indonesia. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 42 Slower gains Indonesia Economic Quarterly APPENDIX: A SNAPSHOT OF INDONESIAN ECONOMIC INDICATORS Appendix Figure 1: Quarterly and annual GDP growth Appendix Figure 2: Contributions to GDP expenditures (real GDP growth, percent) (contribution to real GDP growth yoy, percent) Private cons. Gov cons. 4 8 Investment Net exports Year-on-year (RHS) Stat.discrepancy* GDP 8 3 6 QoQ seasonally 4 adjusted (LHS) 2 4 Average (LHS)* 0 1 2 0 0 -4 Mar-09 Mar-11 Mar-13 Mar-15 Mar-12 Mar-13 Mar-14 Mar-15 Note: *Average QoQ growth, Q1 2009–Q1 2015 Note: *includes changes in stocks. Source: BPS; World Bank staff calculations Source: BPS; World Bank staff calculations Appendix Figure 3: Contributions to GDP production Appendix Figure 4: Motorcycle and motor vehicle sales (contribution to real GDP growth yoy, percent) (seasonally-adjusted sales growth yoy, percent) Agriculture Mining and constr. 60 Manufacturing Comm & transport Trade, hotel & rest Other services 8 GDP 40 Motor vehicle sales Cement sales 6 20 4 0 2 -20 Motorcycle sales 0 -40 Mar-12 Mar-13 Mar-14 Mar-15 May-12 May-13 May-14 May-15 Source: BPS; World Bank staff calculations Source: CEIC; World Bank staff calculations Appendix Figure 5: Consumer indicators Appendix Figure 6: Industrial production indicators (retail sales index 2010=100) (PMI diffusion index and production index growth yoy, percent) 180 BI Retail sales index 60 20 BI consumer survey Industrial production, RHS 160 index 55 10 140 120 50 0 100 Manufacturing PMI, LHS 80 45 -10 May-12 May-13 May-14 May-15 Jun-12 Jun-13 Jun-14 Jun-15 Source: BI Source: BPS; Markit HSBC Purchasing Managers Index J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 43 Slower gains Indonesia Economic Quarterly Appendix Figure 7: Balance of payments Appendix Figure 8: Current account components (USD billion) (USD billion) Capital and financial Current account Errors and omissions Overall BoP inflows 10 15 Secondary income Goods trade 5 10 0 5 -5 Current account 0 -5 -10 Primary income Services trade -10 -15 Mar-12 Mar-13 Mar-14 Mar-15 Mar-12 Mar-13 Mar-14 Mar-15 Source: BI Source: BI; World Bank staff calculations Appendix Figure 9: Exports of goods Appendix Figure 10: Imports of goods (3-month moving average, USD billion) (3-month moving average, USD billion) 20 20 Total exports Total imports 16 16 12 12 Intermediate (excl. oil & gas) 8 Manufacturing 8 Agriculture & forestry Oil & gas 4 4 Oil & gas Capital Consumer Mining & minerals 0 0 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Source: BPS Source: BPS Appendix Figure 11: Reserves and capital inflows Appendix Figure 12: Inflation and monetary policy (USD billion) (month-on-month and year-on-year growth, percent) 3.5 12 160 5.0 Headline inflation, YoY (RHS) International reserves (LHS) BI policy rate (RHS) 2.5 Core inflation, 8 120 2.5 YoY (RHS) 80 0.0 1.5 4 Headline inflation MoM (LHS) 40 -2.5 0.5 0 Non-resident portfolio inflows, (RHS): Equities SUN SBI 0 -5.0 -0.5 -4 May-12 May-13 May-14 May-15 Jun-12 Jun-13 Jun-14 Jun-15 Source: BI; CEIC; World Bank staff calculations Source: BPS; World Bank staff calculations J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 44 Slower gains Indonesia Economic Quarterly Appendix Figure 13: Monthly breakdown of CPI Appendix Figure 14: Inflation comparison across (percentage point contributions to monthly growth) countries (year-on-year, June 2015) 3.6 Core Administered Volatile Headline Thailand* 3.0 Singapore USA 2.4 Japan 1.8 Korea China 1.2 Philippines 0.6 Malaysia India 0.0 Indonesia* -0.6 -2 -1 0 1 2 3 4 5 6 7 8 Jun-12 Jun-13 Jun-14 Jun-15 Source: BPS; World Bank staff calculations *June is the latest available month, others January Source: National statistical agencies via CEIC; BPS Appendix Figure 15: Domestic and international rice Appendix Figure 16: Poverty and unemployment rate prices (percent) (percent LHS, wholesale price, in IDR per kg RHS) 120 12,000 20 Domestic rice, IR64-II (RHS) Percentage spread (LHS) 15 Poverty rate 80 8,000 10 40 4,000 5 Vietnamese rice 5% broken (RHS) Unemployment rate 0 0 0 May-12 May-13 May-14 May-15 2002 2004 2006 2008 2010 2012 2014 Source: Cipinang wholesale rice market; FAO; World Bank Source: BPS Appendix Figure 17: Regional equity indices Appendix Figure 18: Selected currencies against USD (daily index in local currency, June 1, 2012=100) (monthly index May 2012=100) 225 90 Shanghai-China Turkey 200 110 India 175 BSE-india SET-Thailand 150 130 Indonesia South Africa 125 150 JCI - 100 SGX-Singapore Indonesia Brazil Appreciation 75 170 Jun-12 Jun-13 Jun-14 Jun-15 Source: CEIC; World Bank staff calculations Source: CEIC; World Bank staff calculations J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 45 Slower gains Indonesia Economic Quarterly Appendix Figure 19: 5-year local currency govt. bond Appendix Figure 20: Sovereign USD bond EMBIG yields spread (percent) (basis points) 10 475 Indonesia spreads less overall EMBIG 60 Indonesia index spread (RHS) 8 400 0 6 325 -60 Thailand Malaysia 4 250 -120 2 United States 175 -180 Singapore Indonesia EMBIG bond spread (LHS) 0 100 -240 Jun-12 Jun-13 Jun-14 Jun-15 Jun-12 Jun-13 Jun-14 Jun-15 Source: CEIC Source: JP Morgan; World Bank staff calculations Appendix Figure 21: Commercial and rural credit and Appendix Figure 22: Banking sector indicators deposits growth (monthly, percent) (year on year growth, percent) 30 100 10 Commercial and rural bank loans Loan deposit ratio (LHS) 25 80 8 20 60 6 Non-performing 15 40 loans (RHS) Return on assets 4 ratio (RHS) 10 20 2 Private deposits Capital adequacy ratio (LHS) 5 0 0 Apr-10 Apr-11 Apr-12 Apr-13 Apr-14 Apr-15 Apr-10 Jul-11 Oct-12 Jan-14 Apr-15 Source: BI; World Bank staff calculations Source: BI Appendix Figure 23: Government debt Appendix Figure 24: External debt (percent of GDP; USD billion) (percent of GDP; USD billion) 60 Domestic debt, RHS 300 Private external debt, RHS External debt, RHS 60 Public external debt, RHS 300 Total debt to GDP, LHS Total external debt to GDP, LHS 50 250 50 250 40 200 40 200 30 150 30 150 20 100 20 100 10 50 10 50 0 0 0 0 2007 2009 2011 2013 2015 2007 2009 2011 2013 2015 March March Source: MoF; BI; World Bank staff calculations Source: BI; World Bank staff calculations J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 46 Slower gains Indonesia Economic Quarterly Appendix Table 1: Budget outcomes and projections (IDR trillion) 2009 2010 2011 2012 2013 2014 2015 Preliminary Revised Actual Actual Actual Actual Actual actual budget A. State revenue and grants 849 995 1,211 1,338 1,439 1,537 1,762 1. Tax revenue 620 723 874 981 1,077 1,143 1,489 2. Non-tax revenue 227 269 331 352 355 391 269 B. Expenditure 937 1,042 1,295 1,491 1,651 1,765 1,984 1. Central government 629 697 884 1,011 1,137 1,191 1,320 2. Transfers to the regions 309 345 411 481 513 574 665 C. Primary balance 5 42 9 -53 -99 -94 -67 D. SURPLUS / DEFICIT -89 -47 -84 -153 -212 -227 -223 (percent of GDP) -1.5 -0.7 -1.1 -1.8 -2.2 -2.2 -1.9 Note: Budget balance as percentage of GDP is using revised and rebased GDP. Source: Ministry of Finance Appendix Table 2: Balance of payments (USD billion) 2013 2014 2015  2012 2013 2014 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Balance of payments 0.2 -7.3 15.2 -2.5 -2.6 4.4 2.1 4.3 6.5 2.4 1.3 Percent of GDP 0.0 -0.8 1.7 -1.0 -1.2 2.1 1.0 1.9 2.8 1.1 0.6 Current account -24.4 -29.1 -25.4 -10.1 -8.6 -4.3 -4.1 -8.8 -6.9 -5.7 -3.8 Percent of GDP -2.7 -3.2 -2.9 -4.3 -3.8 -2.1 -1.9 -4.0 -3.0 -2.6 -1.8 Trade balance -1.9 -6.2 -3.0 -4.1 -2.7 1.6 1.2 -3.2 -0.9 -0.1 1.2 Net income & current transfers -22.5 -22.9 -27.5 -6.0 -5.9 -5.9 -5.3 -5.6 -5.9 -5.6 -5.1 Capital & Financial Account 24.9 22.0 44.4 8.7 4.6 8.7 7.1 13.7 14.7 8.9 5.9 Percent of GDP 2.7 2.4 5.0 3.7 2.0 4.1 3.3 6.1 6.3 4.1 2.8 Direct investment 13.7 12.2 15.5 3.3 5.4 0.2 3.2 3.4 5.9 3.0 2.3 Portfolio investment 9.2 10.9 26.1 3.8 1.5 1.7 8.7 8.0 7.4 1.9 8.9 Other investment 1.9 -1.1 2.8 1.6 -2.4 6.7 -4.8 2.2 1.3 4.0 -5.2 Errors & omissions -0.3 -0.2 -3.7 -1.0 1.4 0.1 -0.9 -0.6 -1.3 -0.8 -0.8 Foreign reserves* 112.8 99.4 112.0 98.1 95.7 99.4 102.6 107.7 111.2 111.9 111.6 Note: *Reserves at end-period. Source: BI; BPS J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 47 Slower gains Indonesia Economic Quarterly Appendix Table 3: Indonesia’s historical macroeconomic indicators at a glance 1995 2000 2005 2010 2011 2012 2013 2014 1 National Accounts (% change)    Real GDP 8.4 4.9 5.7 6.4 6.2 6.0 5.6 5.0    Real investment 22.6 11.4 10.9 6.7 8.9 9.1 5.3 4.1    Real consumption 21.7 4.6 64.4 4.1 5.1 5.4 5.6 4.8    Private 22.7 3.7 0.9 4.1 5.1 5.5 5.4 5.3    Government 14.7 14.2 6.6 4.0 5.5 4.5 6.9 2.0    Real exports, GNFS 18.0 30.6 16.6 15.3 14.8 1.6 4.2 1.0    Real imports, GNFS 29.6 26.6 17.8 16.6 15.0 8.0 1.9 2.2    Investment (% GDP) 28 20 24 31 31 33 32 33    Nominal GDP (USD billion) 202 165 286 755 893 918 910 889    GDP per capita (USD) 1229 948 1,560 3,233 3,663 3,718 3,644 3,524 Central Government Budget (% GDP)2    Revenue and grants 15.2 20.8 17.9 14.5 15.5 15.5 15.1 14.6    Non-tax revenue 4.8 9.0 5.3 3.9 4.2 4.1 3.7 3.7    Tax revenue 10.3 11.7 12.5 10.5 11.2 11.4 11.3 10.8    Expenditure 13.9 22.4 18.4 15.2 16.5 17.3 17.3 16.7    Consumption 3.9 4.0 3.0 3.6 3.8 3.9 4.1 4.0    Capital 4.6 2.6 1.2 1.2 1.5 1.7 1.9 1.3    Interest 1.4 5.1 2.4 1.3 1.2 1.2 1.2 1.3    Subsidies .. 6.3 4.4 2.8 3.8 4.0 3.7 3.7    Budget balance 1.3 -1.6 -0.6 -0.7 -1.1 -1.8 -2.2 -2.2    Government debt 32.3 97.9 47.2 24.3 22.8 22.6 24.1 23.8    o/w external government debt 32.3 51.4 23.4 11.1 10.2 9.9 11.2 10.2    Total external debt (including private sector) 61.5 87.1 47.1 26.8 25.2 27.5 29.2 33.0 Balance of Payments (% GDP)3    Overall balance of payments .. .. 0.2 4.0 1.3 0.0 -0.8 1.7    Current account balance 3.2 4.8 0.1 0.7 0.2 -2.7 -3.2 -2.9    Exports GNFS 26.2 42.8 35.0 22.0 23.8 23.0 22.5 22.4    Imports GNFS 26.9 33.9 32.0 19.2 21.2 23.2 23.1 22.8    Trade balance -0.8 8.9 2.9 2.8 2.7 -0.2 -0.7 -0.3    Financial account balance .. .. 0.0 3.5 1.5 2.7 2.4 5.0    Direct investment 2.2 -2.8 1.8 1.5 1.3 1.5 1.3 1.7    Gross official reserves (USD billion) 14.9 29.4 34.7 96.2 110.1 112.8 99.4 112.0 Monetary (% change)3    GDP deflator1 9.9 20.4 14.3 7.3 7.5 3.8 4.7 5.4    Bank Indonesia interest key rate (%) .. .. 9.1 6.5 6.6 5.8 6.5 7.5    Domestic credit .. .. 28.7 17.5 24.4 24.2 22.1 15.9    Nominal exchange rate (average, IDR/USD)4 2,249 8,422 9,705 9,090 8,770 9,387 10,461 11,865 Prices (% change)1    Consumer price Index (eop) 9.0 9.4 17.1 7.0 3.8 3.7 8.1 8.4    Consumer price Index (average) 9.4 3.7 10.5 5.1 5.3 4.0 6.4 6.4    Indonesia crude oil price (USD per barrel, eop)5 17 28 53 79 112 113 107 60 Source: 1 BPS and World Bank staff calculations, using revised and 2010 rebased figures. 2 MoF and World Bank staff calculations (for 1995 is FY 1995/1996, for 2000 covers 9 months), 3 Bank Indonesia, 4 IMF, 5 CEIC. J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 48 Slower gains Indonesia Economic Quarterly Appendix Table 4: Indonesia’s development indicators at a glance 1995 2000 2005 2010 2011 2012 2013 2014 Demographics1 Population (million) 199 213 227 241 244 247 250 .. Population growth rate (%) 1.5 1.3 1.2 1.3 1.3 1.2 1.2 .. Urban population (% of total) 36 42 46 50 51 51 52 .. Dependency ratio (% of working-age population) 61 55 54 53 53 52 52 .. Labor Force2 Labor force, total (million) 84 98 106 117 117 120 120 126 Male 54 60 68 72 73 75 75 77 Female 31 38 38 45 44 46 45 49 Agriculture share of employment (%) 43 45 44 38 36 35 35 35 Industry share of employment (%) 19 17 19 19 21 22 20 21 Services share of employment (%) 38 37 37 42 43 43 45 44 Unemployment, total (% of labor force) 7.0 8.1 11.2 7.1 7.4 6.1 6.2 5.7 Poverty and Income Distribution3 Median household consumption (IDR 000 per month) .. 104 211 374 421 446 487 548 National poverty line (IDR 000 per month) .. 73 129 212 234 249 272 303 Population below national poverty line (million) .. 38 35 31 30 29 28 28 Poverty (% of population below national poverty line) .. 19.1 16.0 13.3 12.5 12.0 11.4 11.3 Urban (% of population below urban poverty line) .. 14.6 11.7 9.9 9.2 8.8 8.4 8.3 Rural (% of population below rural poverty line) .. 22.4 20.0 16.6 15.7 15.1 14.3 14.2 Male-headed households .. 15.5 13.3 11.0 10.2 9.5 9.2 11.2 Female-headed households .. 12.6 12.8 9.5 9.7 8.8 8.6 11.9 Gini index .. 0.30 0.35 0.38 0.41 0.41 0.41 0.41 Percentage share of consumption: lowest 20% .. 9.6 8.7 7.9 7.4 7.5 7.4 7.5 Percentage share of consumption: highest 20% .. 38.6 41.4 40.6 46.5 46.7 47.3 46.8 Public expenditure on social security & welfare (% of GDP)4 .. .. 0.4 0.4 0.4 0.4 0.6 0.5 Health and Nutrition1 Physicians (per 1,000 people) 0.16 0.16 0.13 0.29 .. 0.20 .. .. Under five mortality rate (per 1000 children under 5 years) 67 52 42 33 32 31 29 .. Neonatal mortality rate (per 1000 live births) 26 22 19 16 15 15 14 .. Infant mortality (per 1000 live births) 51 41 34 27 26 25 25 .. Maternal mortality ratio (estimate, per 100,000 live births) 420 340 270 210 .. .. 190 .. Measles vaccination (% of children under 2 years) 63 74 77 78 80 85 84 .. Total health expenditure (% of GDP) 1.8 2.0 2.8 2.9 2.9 3.0 .. .. Public health expenditure (% of GDP) 0.7 0.7 0.9 1.1 1.1 1.2 .. .. Education3 Primary net enrollment rate (%) .. .. 92 92 92 93 92 93 Female (% of total net enrollment) .. .. 48 48 49 49 50 48 Secondary net enrollment rate (%) .. .. 52 61 60 60 61 65 Female (% of total net enrollment) .. .. 50 50 50 49 50 50 Tertiary net enrollment rate (%) .. .. 9 16 14 15 16 18 Female (% of total net enrollment) .. .. 55 53 50 54 54 55 Adult literacy rate (%) .. .. 91 91 91 92 93 93 Public spending on education (% of GDP)5 .. .. 2.7 3.5 3.6 3.8 3.8 3.6 Public spending on education (% of spending)5 .. .. 14.5 20.0 20.2 20.1 20.0 19.9 Water and Sanitation1 Access to an improved water source (% of population) 74 78 81 84 84 85 .. .. Urban (% of urban population) 91 91 92 93 93 93 .. .. Rural (% of rural population) 65 68 71 75 76 76 .. .. Access to improved sanitation facilities (% of population) 38 44 53 57 59 59 .. .. Urban (% of urban population) 60 64 70 70 73 71 .. .. Rural (% of rural population) 26 30 38 44 44 46 .. .. Others1 Disaster risk reduction progress score (1-5 scale; 5=best) .. .. .. .. 3.3 .. .. .. Proportion of seats held by women in national parliament (%)6 .. 8 11 18 18 19 19 17 Source: 1 World Development Indicators; 2 BPS (Sakernas); 3 BPS (Susenas) and World Bank; 4 MoF, Bappenas and World Bank staff calculation, only includes spending on Raskin, Jamkesmas, BLT, BSM, PKH and actuals; 5 MoF; 6 Inter-Parliamentary Union J u l y 2 01 5 T HE W ORL D BA NK | BAN K DU NIA 49 Supported by funding from the Australian Government (Department of Foreign Affairs and Trade, DFAT), under the Support for Enhanced Macroeconomic and Fiscal Policy Analysis (SEMEFPA) program.