Indonesia – a worthy investment?

Danielle Cuaycong

Indonesia, Southeast Asia’s largest economy, has experienced an increase in its sovereign credit rating. Indonesia’s upgrade to an investment-grade level Standard & Poor in May 2017 has indicated for the first time since the 1997 Asian Financial Crisis that Indonesia has an investment-grade rating by all of the ‘Big 3’ ratings agencies. Due to Indonesia’s increasing resilience to external shocks, the rating on the long-term, foreign currency-denominated debt was increased by one level to BBB with a stable outlook, leaving it on the same level as Portugal and the Philippines. Alongside this, the combination of the persistent and strong economic growth (5.19% in the fourth quarter of 2017) and increasing foreign exchange reserves were major components for the upgrade. Outlook for Indonesia is positive with expectations of GDP growth of 5.4% in 2018 and 5.5% in 2019.

Fitch Ratings noted that monetary policy has been “sufficiently disciplined to limit bouts of volatile capital outflows during challenging periods.” Thus, this is an indication that the demand for Indonesian debt has increased, with 25.5 trillion rupiahs being sold this month, beneficial for President Joko Widodo who had plans to raise 194.5 trillion rupiahs in the first quarter of 2018. With a higher rating, Indonesia will expect to see an influx of investors. As the confidence of investors significantly increases, borrowing costs for Indonesia will decrease, raising the level of foreign direct investment (FDI), which reached peak levels at 109.9 trillion rupiah in the second quarter of 2017. The upgrade will result in keeping yields low and will help control the increase in Indonesia’s risk premium. Therefore, Indonesia has strengthened its position in Asian bonds, with local notes increasing 17% over the past year compared to 12% for emerging Asian bonds.

The ultimate question lies – should investors be moving towards to the Indonesian bond market? There are significant issues with this. Firstly, Indonesia’s economy is incredibly reliant on commodities.  With an HSBC trade report predicting that Indonesia’s exports will be mainly composed of agricultural produce until 2020, there is a significant need for Indonesia to diversify more to increase the number of investors. Additionally, with expectations for the US to pursue three interest rate rises in 2018, this may cause capital to flow out to Indonesia. However, it is important to note that it is likely a recovery will occur once the increases in rates have been announced. Alongside this, the upcoming elections (2018 local elections and 2019 presidential election) may pose a hindrance to Indonesia’s strong economic performance.

In December 2017, the rupiah-denominated bond ‘Komodo’ hit the London Stock Exchange. Presently, 16 active Indonesian rupiah (IDR) are on the London Stock Exchange, enticing organisations including Barclays, Inter-American Development Bank and the European Bank of Reconstruction to be repeat issuers of IDR bonds. A further indication of the potential positive economic prospects for Indonesia is its decreasing reliance on price-volatile commodity-based growth, with a change in direction towards more industry-based growth. The ultimate benefit of this is the removal of foreign exchange currency risk.

Indonesia’s growth prospects seem to be positive, with GDP growth set to exceed 5%, which means Indonesia will maintain its position as one of the fastest growing countries in the G20. There are expectations that investment will rise with increased spending on infrastructure, reduced borrowing costs and more structural reform. However, it is important to note that Indonesia still has a low level of government revenue, with only four other Fitch-rated sovereigns having lower government revenue as a percentage of GDP.

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