Thu, 04 Dec 2008
Purbaya Yudhi Sadewa, Economist

The latest data indicates that the economy is slowing. However, from a positive aspect, household purchasing power has improved. This helped prevent economic growth from falling below 6 percent in the third quarter (Q3) of 2008.

Going forward, the economy is likely to continue slowing, although the chances of a severe slowdown appear to be remote.

The economy grew by 6.1 percent in Q3 2008, lower than the 6.4 percent growth in Q2 2008. In Q3, household spending grew a brisk 5.3 percent, while investment surged 12.0 percent.

The 16.9 percent growth in government spending, meanwhile, suggests that the government has, to some extent, done a better job in disbursing the state budget faster.

Exports grew 14.3 percent in the third quarter. This is surprising given the global economic malaise (officially, the U.S. economy has been in a recession since December 2007). It suggests that, despite the gloomy global economic outlook, demand for Indonesian products was still firm Q3.

But is this a fair assessment? Well, we agree that the global economic slowdown will have a significant impact on the economy. Yet to talk of an economic crisis on the lines of 1997/1998 is going much too far. We have data that supports our views and suggests that there are good reasons to believe the economy will not contract.

First of all, there are indications that household purchasing power has improved. This is evident in the movements of our Consumer Confidence Index (CCI). Note that the CCI showed a downtrend from the end of 2007 due to rising food prices.

Fuel price hikes dragged down the CCI even further to 65.3 in June, or its lowest level in the history of the survey. This reflected weaker consumer purchasing power due to the increases in prices, and if the CCI had stayed at such levels for a longer period of time, then we believe that the economy would have entered a recession.

Fortunately, the CCI started to recover in July 2008 and continued to rise, and by October 2008 it had reached the level of 80.3, or its highest level since February 2008. There are also early indications that the CCI rose further in November 2008.

This suggests that household purchasing power has improved to some extent. Falling prices of rice and other foodstuffs have given a boost to consumer purchasing power. With prices of oil and food commodities likely to stay relatively low in the near future, the consumer confidence index is likely to rise further.

With the cut in prices of subsidized gasoline fuel in December providing another boost, consumer purchasing power is likely to improve further going forward.

The improvement in household purchasing power is also confirmed by the findings of our Business Sentiment Survey. Our Business Sentiment Index (BSI) rose in June-July 2008 and continued to rise in the August-September survey -- suggesting improving business conditions.

Please note, however, that the survey was undertaken in September; that is before the problems in the world's leading economies really became apparent.

As such, CEOs may not be so optimistic about the upcoming months. Nevertheless, our survey still shows the domestic economy is continuing to perform fairly well.

The rebound in our Coincident Economic Index (CEI) also points toward brisker economic activities after the index had declined in both July and August. The increase in the CEI in September was rather surprising as we had expected weakened economic activities on higher interest rates.

It seems, however, that the improvement in household purchasing power helped bolster overall economic activities in September (due to higher household spending), resulting in economic growth of more than 6 percent in 3Q this year.

Looking ahead, household purchasing power may get an additional boost from cuts in interest rates. Note that inflation is likely to fall to single digits again by mid 2009 as a result of the collapse in oil and commodity prices. By that time, the central bank will have room to cut interest rates.

We believe, however, that the central bank might not want to wait until mid-2009. It might actually start to cut interest rates several months before the inflation rate declines. BI seems to have realized the economy needs all the support it can get to minimize the impact of the global downturn.

It is therefore possible that BI may cut interest rates as early as December 2008. By the end of 2009, we expect the BI rate to have fallen to 8.5 percent. Rate cuts bode well for the economy. Historical data suggests that economic activities will pick up pace if the BI rate falls below 9 percent.

Indonesia's banking system is still in relatively good shape. This is evident in our Banking Pressure Index (BPI). The BPI is an index which measures pressure in the banking system.

A BPI reading above 0.5 suggests tremendous pressure in the system and that the probability of systemic default is high. In contrast, a BPI below 0.5 suggests that the banking system is in good shape. Although rising, the BPI was still in negative territory as of September 2008 -- indicating a banking system that is relatively healthy and that the possibility of a banking crisis occurring is rather remote.

All in all, global economic recession would indeed have an impact on the economy.

Nevertheless, with sound economic fundamentals and a fairly low export-to-GDP ratio (only around 29 percent) -- much lower than the corresponding figures for neighboring countries -- we believe the economy will still grow next year and we will not see a recession as we did in 1997/98.

The writer is the chief economist at Danareksa Research Institute



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