Growth with caveat

Growth with caveat

All projections point to continued high growth of the Indonesian economy. The economic expansion, in terms of real gross domestic product, is estimated at a range of 7.3-7.5 percent this year and the same robust growth is foreseen for the next two years.

However, the rosy projections are qualified by notes of caution. The main caveat is related to the widening deficit of the current account in the balance of payments. The problem lies not only in the size of the deficit, which is expected to more than double from last year's deficit of US$3.4 billion, but also the underlying developments which have been causing the deficit.

One of the most worrisome trends is the sharp decline in the merchandise trade surplus due to the steep increase in imports and the virtually stagnant level of export growth. During the first seven months, for example, the trade surplus amounted only to $2.3 billion, or a mere 30 percent of last year's surplus. In fact, for the month of June, the trade balance, including oil and natural gas, showed a deficit of $205 million, the first deficit in the past decade. In the past, the merchandise trade surplus usually checked the current account deficit at a comfortable level, despite the big deficit in the service account.

The 30 percent growth of imports would not have caused such great concern had the import composition remained dominated (with a 95 percent share) by capital goods and industrial materials as it had been until 1993. But the import of consumer goods has been expanding rapidly over the last two years, indicating the rising demand of the expanding high and middle-income people for a wide variety of goods not locally produced. We don't expect any decline on consumer goods imports due to the continued trade liberalization and the steady increase in the purchasing power of the middle and top-income people in line with robust economic growth.

True, as Bank Indonesia's Governor Soedradjad Djiwandono has stated, the current account deficit, though increasing to twice last year's level, will still be manageable due to the capital flows through direct and port-folio investments. But dependence on portfolio capital is not sound, as shown by the speculative attack on the rupiah early this year which was set off by the Mexican financial crisis.

What makes the situation rather delicate is the fact that there is little chance of curbing the widening deficit within the next two to three years. Merchandise imports will obviously continue to increase partly due to the dramatic rise in the sums of new foreign and domestic investments licensed this year. Moreover, since most of the export-oriented industrial companies depend largely on imported basic and intermediate materials, their imports also will surge along with any expansion in the production for the export market. The central bank's recent move to increase banks' reserve requirement from two to three percent of third-party funds would have only a slightly contractive impact on domestic aggregate demand. In fact, this measure will further tighten the money supply, thereby maintaining bank interest rates at a high level.

The service account, which has always been in deficit, cannot either be expected to decrease significantly in view of the big servicing burdens of the official and private-sector foreign debts and our heavy dependence on foreign freighters. The only sector that has a realistic chance of curbing the service-account deficit growth is the tourism industry.

Given the severely limited options for curbing the widening current account deficit, we should focus attention on export promotion once again. The fusion of the trade and industry ministries into a single ministry could help improve coordination of the export drive. But that is only the first of numerous other measures essential to bolstering exports. Our problem now is not only the declining competitive edge of Indonesian export goods but also the numerous barriers faced by export flows.

Even though a great portion of our growth has so far been generated by domestic market demand, the call for a more concerted export promotion has now become much more urgent. A persistently widening deficit would put our external balance in a very precarious position, highly vulnerable to devastating monetary instability, since short-term capital flows, attracted by the present high interest rate differentials, could suddenly fly out at the drop of the wildest, most nonsensical rumor.