Market vote of confidence

Indonesia's first global bond issue since the 1997 financial crisis was initially designed mainly as a move to test the waters. But the issue early this week turned out to be so successful with subscriptions eight times as large as the sum originally planned that the government decided to sell US$1 billion with a coupon rate of 6.75 percent.

The overwhelming number of subscriptions certainly drove down the average yield to 6.85 percent, a level more favorable than other sovereign issuers with better credit ratings have gained. With a B credit rating from Standard & Poor's that is lower than most Asian countries and is below the investment-grade quality, the bond issue could perhaps be considered the best deal of the year, as Bank Indonesia's Senior Deputy Governor Anwar Nasution has said.

Since the rupiah will most likely continue to strengthen against the American dollar and the inflation throughout the year will not likely exceed 5 percent, the Indonesian dollar bonds will also be quite attractive for domestic investors, even though the latest (February) government rupiah bond issue offered a coupon rate of 11.82 percent.

The greatly positive response to the 10-year bonds reflects a strong international market vote of confidence in the future outlook of Indonesia's economy which has become increasingly brighter due to the stronger macroeconomic stability and the steadily declining government debt ratio in relation to the gross domestic product.

To be sure, the credibility of the government in the eyes of the global markets has been strengthening, especially over the past two years, due to the steady, significant progress in its reform measures, notably its high fiscal discipline, despite the current election year.

The market confidence in the country has indeed been strengthening -- especially since early 2003, as can be seen from the inflow of foreign portfolio investment, the strengthening rupiah relative to the dollar and the steady decline in inflation and interest rates to below 7.50 percent today.

The steady decline in both international and domestic interest rates and the strong appetite of global investors in seeking higher yields in the emerging markets with reasonable risks also contributes to the positive market reception of the Indonesian global bonds.

True, as economists emphasize, most of the macroeconomic indicators are stable, except for one: extremely high unemployment, and as long as that remains problematic, poverty also remains, regardless of inflation and interest rate indices. The economy will remain fragile if the growth continues to hover at only 4 percent as it has been over the past three years. Nevertheless, given the fact that Indonesia was a virtual basket case among the emerging market countries until as recently as mid-2001, the progress is indeed impressive.

The successful bond issue also serves as the first international market test of the credibility of the government after it decided not to renew the International Monetary Fund program and consequently stop new borrowing from this multilateral agency as from this year.

The government should not, however, let this heightened market confidence go to its head, let alone to feel complacent that the economic roadmap ahead will all be as smooth as the Autobahn.

The next several months when the nation will elect its legislators and president will be quite crucial for determining whether the political and macroeconomic stability will continue.

Even though buying Indonesian bonds means investing in the future prospects of its economy, the great market reception of the bond issue cannot yet be seen entirely as a clear sign of a resumption of international investor confidence in the country.

Bonds, though classified as long-term investments, are only a portfolio investment that can easily be dumped on the market at the first sign of trouble. Indonesia can be considered successful in fully regaining foreign investor confidence only after the inflow of foreign direct investment into fixed assets to build productive plants, thereby generating employment.

Unfortunately, though, most foreign direct investors still shun the country due to the slow progress in reform measures to remove investment barriers, especially inconsistency in policy, weak law enforcement, uncertainty about regulations in the provinces due to decentralization and crumbling infrastructure due to lack of maintenance or new investment.

Whether foreign direct investors will return or not will be determined by how the market will perceive the new government emerging from the upcoming elections.

Investors will return in droves if the new government is seen to be one that is strongly committed to establishing good governance, especially fighting corruption with strong law enforcement and continuing with economic reforms.

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