Potential rebound ahead in the midst of persistent risks

The Jakarta Post | Opinion | Mon, July 14 2014

The global economy continues to show positive signs of recovery, but the risk of volatility still looms. The current conflict in the Ukraine and Iraq has driven the World Bank (WB) to cut its global growth forecast in 2014 to 2.8 percent — much lower than the bank’s January forecast of 3.2 percent.

Developed economies will be the main driver of global growth and trade, while the economies of developing countries will decelerate in the next period. It is worth noting that the WB expects advanced, high income economies to grow 1.9 percent this year and 2.4 percent in 2015, while developing countries will grow at the stable rate of 4.8 percent in 2014, as happened in 2013.

China will still pose the main risk for developing countries due to its poor performance and persistent deceleration since 2011, when the country’s economy was growing at 9.2 percent (compared to 10.4 percent in 2010).

Over the next five years, China’s economy is predicted to grow at an average of 7 percent per year, much lower than the average growth of 9.6 percent recorded over the last 15 years. China’s economic growth may also be aided by the recovery of the US economy, which is expected to grow around 2.8 percent.

The US is China’s main trading partner, taking in about 17 percent of total US exports, slightly higher than the 16 percent taken in by the European Union.

The current global economic development has affected the volatility in developing countries, especially in Indonesia. It is worth highlighting that fluctuations in China’s economy have a larger impact on Indonesia than fluctuations in the economy of the US.

Every 1 percent point drop in China’s economy decreases Indonesia’s economic growth by 0.33 percentage points, while a 1 percent decline in the US economy drags down Indonesia’s economy by 0.11 percentage points.

However, US economic recovery still positively affects Indonesia’s export performance in two ways:

One, a recovery in the US economy will lead to higher demand for Indonesia’s manufactured exports, such as apparel (contributing 25 percent of total nominal exports to the US), and electrical machinery (7 percent).

Second, the indirect impact from increased Chinese exports to the US will create higher demand for Indonesia’s commodity products. Nonetheless, the government’s policy to ban ore exports will exert downward pressure on export performance.

Indonesia’s economic performance in the first quarter was evidence that poor export performance drags down economic growth.

During that period, private consumption grew at a significant 5.6 percent, but exports contracted by 0.8 percent year-on-year, bringing the gross domestic product (GDP) down to 5.2 percent.

Export performance will still be the main source of downside risk for Indonesia’s economic growth, as we expect the trade balance to persist over the next two months during the fasting month and Lebaran, before improving at the start of the third quarter.

Based on historical data, imports tend to increase, on average, US$1 billion during Ramadhan before returning to normal levels at the conclusion of the festival season.

Thus, the level of imports will depend on the direction of capital goods imports, which is mainly driven by rebounds in investment.

At this juncture we believe that tight monetary policy and the weakening rupiah will hold capital goods imports at a steady rate. Our plantation analyst also suggests that crude palm oil (CPO) prices in 2014 will fall between $900 – $950 per ton, despite the possibility of unfavorable weather associated with El Niño in the second half of 2014, which usually gives positive sentiment for CPO prices.

Last week, the Central Statistics Agency (BPS) announced a small trade surplus of $70 million in May, a steep gain from the deficit of $2 billion registered in April, mainly driven by the deeper contraction of imports on a yearly basis.

The latest trade surplus should provide mild optimism that full-year trade performance will be much better than last year, in view of the improved global economic outlook.

However, we should note that slower imports, partly affected by tighter monetary policies, also played an important role in Indonesia’s trade surplus last month. The May trade figures confirmed that declines in imports were dominated by capital goods, in line with our estimate of moderation in investment this year.

Furthermore, upside risks will be coming from inflation rate figures following the approval of the second-round electricity tariff, which we expect to occur. Based on our calculations, the overall contribution of the first- and second-round electricity tariffs to the rate of inflation will stand at around 0.5 percentage points.

Hence, we expect the inflation rate to reach 5.5 percent this year, much higher than our previous forecast of 5.3 percent. On a monthly basis, the inflation rate will still be higher in June and July in the midst of the fasting month.

Moving forward, we believe that the political certainties post-presidential election will support further acceleration of the Indonesian economy through a steady and strong rate of private consumption and better investment performance.

We predict that Indonesia’s economy will grow by 5.3 percent in the second quarter and 5.4 percent in the second half, bringing 2014 economic growth to 5.3 percent.

Our Mandiri leading economic index indicates that economic growth over the second quarter will improve and then stabilize following the election.

In sum, clear direction and a swift execution of infrastructure projects will give investors the confidence needed to to invest in Indonesia, despite the current downward trend in economic growth.


Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )


Connecting to %s