Economic ramifications of the Aceh disaster

Economic ramifications of the Aceh disaster

David E. Sumual, Jakarta

Aceh has again become the center of global attention in recent
days. Yet this time, the province has not grabbed the headlines
because of the separatist rebellion. The strife-torn province is
now in crisis due to another catastrophe, resulting from the
tsunami triggered by a 9.0-magnitude earthquake off Sumatra
Island.

In Indonesia alone, according to the latest data of the
Ministry of Health, the death toll from last week's earthquake
and tsunami reached 94,100. As a result, Aceh is the worst hit
region in terms of human losses compared to the total number of
people reported killed in 12 countries in the Indian Ocean basin
that has reached 150,000.

Given the poverty of the affected communities in Aceh, the
human toll obviously is the greatest loss of this disaster,
outweighing its economic impact. In addition to the death toll,
government authorities estimate that 500,000 people or roughly 12
percent of the population have been displaced by the disaster. In
contrast, the disaster is expected to have little impact on the
country's economic growth in 2005, and be far less significant
than the Bali bombing in 2002.

As Aceh contributes only 2.1 percent of Indonesia's gross
domestic product (2003 data), Indonesia's economy is unlikely to
suffer much. Moreover, Aceh's most lucrative industries, -- oil
and gas production facilities -- remain in place. Shipments of
liquefied natural gas have reportedly not been disrupted. As
such, the oil and gas production sector that contributed 51.3
percent of Aceh's economy in 2003 will not be hampered. It is
also a relief to know that some seaport facilities and airports
were not damaged, increasing confidence that the economic impact
will be short term.

Drawing a parallel with Kobe's quick recovery from the 1995
earthquake indicates that economic growth will be boosted in the
medium term (beyond the second quarter of 2005). Some studies
even suggest that national growth and growth in the affected
region picks up in the years after a natural disaster. Despite
the short-term negative impacts, such as slower consumer spending
with the infrastructure and trading sectors hit hardest by the
quake, the medium-term growth should be stimulated by increases
in spending on infrastructure and construction.

And the construction, transportation and communications
sector, as well as steel and cement industries are set to benefit
from these reconstruction efforts. This belief is supported by
some academic papers that provide empirical evidence of higher
multiplier economic growth from infrastructure development
(Aschaeur, 1995).

The impact on Indonesian insurance firms was also tempered as
most affected businesses and individuals in Aceh do not have
insurance coverage for that kind of disaster. According to the
Indonesian insurance association, the total insurance claim will
be no more than US$1.9 billion. The greater damage in terms of
insurance losses will be from tourist resorts and properties in
Thailand that according to Munich Re could reach more than $13
billion.

In fact, unlike Aceh, which does not have a developed tourism
industry, Thailand will suffer more potential losses from
tourism, which is one of its important sources of foreign
exchange earnings. Foreign tourists in turn may instead travel to
unaffected areas such as Bali or Lombok in the near future.

While it is difficult to find close parallels to the Aceh
calamity, the direct damage on fundamentals is actually much
smaller than that resulting from the Bali bombing in October,
2002. Unlike the Bali bombing that affected systematic risk,
Indonesia's business sentiment has not been affected. There is
also no panic in the financial market. The rupiah did not move
significantly, hovering at around Rp 9,300 to the dollar so far.

Even the Jakarta Composite Index breached the psychological
level of 1,000 at the beginning of this week. And the higher than
expected inflation of 6.4 percent in December is due to higher
expected inflation resulting from the government's plan to raise
fuel prices and has nothing to do with the tsunami.

The Aceh disaster may also have only a minor fiscal impact in
2005 or even be positive for the mid-term fiscal outlook. The
government, in our view should be able to collect around $145
million that according to Vice President Jusuf Kalla is needed
for the immediate relief to supply materials for shelter, food,
and medical treatment. Half of that amount may already be covered
by fund raising efforts from Indonesian civil society, which from
the media alone so far has reached nearly $25 million.

Another factor preventing the budget deficit (estimated
earlier at Rp 30 trillion or about 1 percent of GDP in 2005) from
increasing is the news of massive international humanitarian
assistance and reconstruction aid for Aceh. Assuming that 5
percent of the world's total contributions, which according to
the United Nations have amounted to $2.1 billion, go to Indonesia
(around $105 million), the funds for immediate relief efforts
should be covered.

At the same time, the around $3 billion in loan commitments
from the World Bank and the ADB that have not yet been disbursed
could be partly used for Aceh's reconstruction program. It will
be a major help to finance the $1.1 billion infrastructure
spending that according to the coordinating minister for the
economy, Aburizal Bakrie is needed to reconstruct the tsunami-
shattered province of Aceh.

As such, there is no urgency to divert the planned
infrastructure-spending program to the Aceh reconstruction
program. Given these encouraging developments, it is not
surprising that Standard & Poor's sees no reason to downgrade
Indonesia's rating.

A rosy fiscal outlook can also be expected in the medium term
with the recent debt moratorium proposal from Japanese Prime
Minister Junichiro Koizumi, German Chancellor Gerhard Schoeder
and British Prime Minister Tony Blair. And Italian Prime Minister
Silvio Berlusconi has an even more elaborate scheme in offering
debt relief for Indonesia. This debt moratorium or debt relief
will of course greatly help in reconstructing Aceh as well as
help ease the pressure on the country's balance of payments and
accordingly the rupiah.

In fact, the government should pursue this debt moratorium or
debt scheme more vigorously rather than the additional aid as it
is actually unclear which part of the aid is purely a grant and
which part is a loan. Moreover, Indonesia still has problems with
law enforcement and good corporate governance. For sure, without
clear coordination and transparency, this aid is susceptible to
abuse.

The writer is an analyst of Danareksa Research Institute. This
article represents his personal views.