But there is also a more pressing need to sort out the country’s transportation bottlenecks, which add to the cost of doing business. The country has roughly 2.5 million young people entering the workforce each year and it needs to keep growing at an estimated 7% per annum to provide them with jobs.
Edward Gustely has been working at the sharp end of infrastructure finance in Indonesia for more than 20 years.
The co-founder of Jakarta-based Penida Capital helped set up Indonesia’s sovereign wealth fund and the government-owned Indonesia Infrastructure Guarantee Fund (IIGF), which provides credit guarantees that help bridge the gap between a project’s greenfield stage and the time it begins to generate cash flows.
Here Gustely explains the role the private sector is playing to bridge a second gap between the state’s ambitions and its budgetary constraints.
In its 2016 budget, the government has provisionally allocated Rp313.5 trillion ($22 billion) for infrastructure spending. How much is going to need to come from the private sector?
The government hopes the private sector can finance about two thirds of Indonesia’s infrastructure needs. There’s about $93 trillion in investment funds globally out there. So one key question is how you effectively tap into that.
But the most important issue is how Indonesia can get projects to the stage where they’re investment ready in the first place. Fixed income investors need an annuity stream. The real challenge is putting a formula in place that ticks of all of an investor’s boxes. The bottleneck has always been project preparation.
There are some very encouraging signs. I’ve just got back from Makassar, a city of two million people in South Sulawesi. It’s really the gateway to eastern Indonesia.
There’s always a lot of focus on Greater Jakarta but the provinces are where the real growth is. Makassar is growing by 9% per annum.
I was really blown away by what’s happening there. The city even has its own smart card, which enables the local residents to pay for public transport, property taxes and other government services. If Indonesia can generate that sort of traction and enthusiasm in other provinces then the country will really start to go places.
So how have they achieved this in Makassar?
Well for starters there is a very dynamic mayor and governor who realize co-ordination is the key to getting infrastructure projects off the ground. related
They’ve set up a public private partnership (PPP) investment centre, which the mayor has asked us to spearhead. Indonesia could do with more of these at key gateways across the archipelago.
The centre will provide technical expertise in how to structure priority infrastructure projects to a stage where they can be financed, ensure there’s co-ordination between all the related parties and identity potential problems with execution and delivery. It will be looking at about $2.5 billion worth of projects initially that include light-rail transport, seaport expansion, toll-roads, expanded internet connectivity, hospitals, and atmospheric water generation.
Are all these projects going to be economically viable?
I think projects generally fall into one of three equal camps. About one third will be financially viable and they are the ones, which will have private sector financial investment. For example seaport expansion, internet connectivity, atmospheric water generation that produces drinking water, and hospitals.
Then there is a second group, which are economically viable but not financially viable. By that I mean they will generate tax revenues and enhance property valuations to the benefit of society. These projects will be the ones that attract bilateral and multilateral funding to bridge the viability gap, and may include projects such as public-transport, plastic waste to oil recycling facilities, and bulk-water distribution.
Then there are the final third, which will need to be completely funded by the Indonesian government that include underserviced remote areas.
What role can the IIGF play? Has it done enough since it was set up five years ago? It hasn’t really provided many guarantees yet has it?
IIGF was established as the “single window” to provide guarantees that would mitigate the private sector’s exposure to any risk of government action or inaction involving specific PPP contracts. But a lack of investment-ready PPP projects eligible for guarantees means that IIGF has had to spend a lot of time training-up government agencies responsible for preparing these projects.
We’re hopeful IIG’s efforts will begin to result in greater use of its guarantee facility.
As an outsider it seems to me Indonesia’s main issue relates to the judicial process. You’ve been in Indonesia a long time and saw what happened during the Asian financial crisis when many borrowers defaulted on their US dollar-denominated debt and refused to pay their creditors back. Have there been any positive changes, which should give investors more confidence?
If you look at a graph and see how Indonesia has moved from the bottom left towards the top right then there has been continual progress on that front over the past 20 years. Clearly it has not always been a smooth progression and good times often breed bad policies.
But I think it’s very clear that Indonesia wants to create legal certainty over the sanctity of contracts and their enforceability. Don't forget Indonesian corporates are equally impacted by any real or perceived rulings that are interpreted as odd by the international media because it causes their risk premiums to rise.
The US has funded judicial reform through training and capacity building of Indonesia’s commercial courts though a bi-lateral programme. That finished a few years ago, but is being re-started given the slow progress on judicial reforms it initiated.
But having said that, I think we are seeing less maneuvering these days and faster correction towards accommodating investors. That’s partly a function of global competition. There are a lot of countries trying to boost their infrastructure. Half of Indonesia’s population is below 30-years old so there really is very little latitude for making mistakes.
There were some expected hiccups in the run up to the last Presidential election, such as quite spirited nationalistic campaigns among competing candidates that sent mixed signals to investors. But the new president has a very strong view that Indonesia must get it right. I think recent events at the country’s largest single infrastructure project demonstrate that.
The $4 billion Central Java project was launched four years ago, with involvement from Japan’s J-Power and Itochu Corp, and IIGF’s guarantee. The new government has clearly shown how serious it is about making sure this project actually happens and sending a signal of intent right across the country.
President Jokowi himself attended the groundbreaking ceremony last month and the issues relating to land acquisition have been addressed.
Have they though? I thought there were quite a few farmers who were still refusing to sell up.
I think there’s roughly 10% of the required land, which is still under negotiation. But that’s fairly typical for any country. You will always get middlemen or brokers involved in holding-up and holding out to the last minute to get the best price. But the Government is confident this will all be done and dusted in the next couple of months now.
It is true that land is a very sensitive issue in a country where there are a lot of people per square kilometre particularly on Java. But there are eminent domain laws here, which allow the government to requisition land.
The government is required by law to pay market value of land acquired for public infrastructure projects. And it has set up courts whose sole purpose is to settle land grievances pertaining to infrastructure development so civil society does not think the government is abusing its powers.
What’s your view on China’s involvement in Indonesia? How big a role could the country play?
Very big. It was recently reported that two major Chinese banks are going to funnel money through Indonesia’s state-owned banks. I believe it’s about $20 billion in total. It’s a very clever approach because BNI, Mandiri, BRI etc have the channels to do the necessary credit-risk analysis and due diligence to ensure sure the money is spent appropriately.
China often attracts criticism for bringing over its own construction workers rather than employing locals. Has that been a problem in Indonesia too?
I think there’s been an evolution on both sides of the negotiating table. Five years ago, for example, there were a lot of Chinese labourers working on the Chinese-funded suspension bridge from Surabaya to Madura.
These days the host has gotten a little wiser and part of the contract negotiations will involve a stipulation about local labour. But likewise, the Chinese will be making sure their SOEs are looked after too.
So you’re basically quite positive that Indonesia will be able to raise all the money it wants to fund its infrastructure ambitions?
Well I would say things are moving in the right direction. Could they move faster? Yes. But I think it’s very important people remember this country of 253 million people is not homogenous but heterogeneous and spread over an archipelago of 14,000 islands stretching the distance of New York to LA.”