Indonesia's economy predicted to continue to cool down

JAKARTA (JP): Indonesia's economy is likely to continue to cool down this year, with economic growth, the current account deficit, inflation and interest rates being kept in check.

Hong Kong-based Peregrine Brokerage Ltd. said in its special report on Indonesia that the country's economy is likely to grow by 7.5 percent this year, compared with 8.07 percent last year.

"Monetary tightening will down the economy in 1996 but strong foreign direct investment will prevent a sharp slowdown," Peregrine said in the report, released here last week to coincide with the Indonesia Summit, an international seminar on Indonesia's economy.

However, the report noted that the recent surge in investment approvals will not necessarily lead to an investment blow-out this year because actual foreign direct investment, or the foreign equity component, usually makes up less than 10 percent of total investment approvals, which cover the entire costs of projects.

In addition, over 50 percent of investment approvals in 1993 and 1994 went into large-scale heavy industry projects, the report said.

"Therefore, we do not anticipate that the rapid rise in foreign investment approvals will necessarily lead to the investment blow-out many are forecasting for 1996," the report said.

Monetary tightening, coupled with the central bank's efforts to reduce both public and private access to foreign borrowing this year, will also have an impact on imports growth, which is projected to fall to 18 percent this year from 27 percent last year.

Peregrine projected that imports of capital goods and raw materials will be contained this year -- despite the rapid rise in foreign investment approvals.

As foreign direct investment still finances less than 10 percent of the value of total imports, by tightening the availability of both domestic and external sources of financing, the monetary authority will force foreign joint ventures to slow down their purchases of foreign goods and also slow down domestically-generated import demand.

"History repeats itself. This was exactly what happened during the previous cycle of overheating in 1990-1992," the report said.

In 1990, foreign investment approvals jumped 1.8 times the record of the previous year. However, a clampdown on credit growth in 1991 slowed domestic investment and caused import growth to fall by a moderate rate of 18 percent in 1991 from the surprising rate of 33 percent in 1990.

Exports

Peregrine is also upbeat about Indonesia's non-oil export performance this year, which it projected to pick up by 16.5 percent, as compared to last year's 15 percent.

Non-oil exports should fare better this year than last year. Plywood exports, which experienced continuing drops in recent years, will pick up slightly this year due to the improving prices on the international market.

Structural problems and continued weak external demand are likely to continue to hurt the export performance of textiles and apparel products. However, electronics and other industrial exports should continue to take up the slack.

Meanwhile, Indonesia's oil exports are forecasted to fall by some 2 percent this year due to expectation that Brent oil prices will average at $17.6 per barrel for the whole year of 1996, down from the current level of $19.4.

"However, if current high oil prices are maintained, Indonesia may have a pleasant surprise on this front," Peregrine said.

The slowing down of imports and the improvement of exports are expected to contain Indonesia's current account deficit from expanding, which Peregrine projected to reach US$7.5 billion this year, slightly lower than $7.51 billion in 1994.

As a percentage of the country's gross domestic product (GDP), the account balance should improve with the current account deficit declining to 3.5 percent of the GDP this year from 3.8 percent in 1994.

The current account deficit, Peregrine believes, will be manageable for Indonesia. It will be financed by the inflows of official capital, which is expected to reach $5.4 billion this year, as well as foreign direct investment inflows of $4.9 billion and private borrowings.

Peregrine projected that the combination of rising foreign direct investment, steady official capital inflows and a stabilizing current account deficit will reduce the country's basic balance from minus $3.1 billion last year to minus $2.5 billion this year and minus $1.5 billion next year.

"By definition, this means that Indonesia's reliance on other short-term capital is expected to fall in 1996 and 1997," the report said.

It forecasted that the country's foreign exchange reserves will rise to approximately $19.1 billion this year, covering a comfortable 4.9 months of imports, from $15.8 billion last year.

Such an improving international trade standing will let the monetary authority maintain its policy of targeting a stable real exchange rate through crawling nominal depreciation of the rupiah of approximately 4 percent per annum against the U.S. dollar.

Peregrine also believed Indonesia's real effective exchange rate has remained remarkably stable since the devaluation in 1986.

It projected that the rupiah will probably depreciate by 3.8 percent against the U.S. greenback this year, ending the year at Rp 2,396/US$1.

However, the government's monetary tightening will, in all probability, not significantly affect the growth of the country's consumer demand, which is still focused on basic items such as food, clothing and housing.

Spending

Although sales of big-ticket consumer durables such as automobiles will feel the squeeze, overall consumer spending is expected to grow at a real rate of 6 percent per annum over the next two years, slightly above the 5.6 percent average rate over the past five years.

Such a slight increase in consumption, however, is not expected to drive up this year's inflation as an improved rice crop this year will lead to a sharp fall-off in food inflation this year and core (non-food) inflation has been on a downtrend since mid-1995.

Peregrine projected that core inflation is likely to fall to an average of 6 percent in 1996 from 7.2 percent in 1995, and food inflation to fall to 12 percent from 13.2 percent.

Based on the gradual slowdown of economic growth and the stabilization of the current account deficit and the containing of inflation, it is expected that domestic banking lending rates shall go down this year.

Peregrine forecasted that the 90-day central bank certificate (SBI) rate will be in a position to fall 50 basis points to 14.24 percent by the end of the third quarter of this year.

The rapid run-up in deposit rates relative to lending rates since early 1994 and the recent fall in the loan deposit ratio towards more normal levels indicate that there is scope for deposit rates to fall ahead of SBI and lending rates.

Despite the expected decrease in interest rates in the second half of 1996, it is expected that broad money growth and bank loan growth will continue to tighten through to the end of 1996 due to the lagged impact of higher interest rates, continued direct and indirect controls on bank loan growth and a clampdown on the private sector's access to foreign borrowing.

Peregrine forecasted that the growth rate of banking loans will slow to 18 percent by the year-end from 24 percent at the end of last year and that broad money growth will fall to 18 percent from 27 percent.

More moderated economic growth and a stabilization of the current account deficit over the course of 1996 should leave room for limited monetary easing in the first half of 1997, Peregrine suggested. (rid)