Prospects even bleaker for next year's investments

Puspa Delima Amri, Centre for Strategic and International Studies, Jakarta

Immediately after the weekend blasts in Bali, markets in Jakarta reopened to stock indices and the rupiah taking a deep plunge. Over the weekend, the Jakarta Stock Composite Index (JSCI) plummeted by more than 10 percent, closing at 337.48, the lowest ever since the height of the 1998 financial crisis. Meanwhile, the rupiah managed to depreciate by more than 3.5 percent to the U.S. dollar.

The Jakarta Stock Exchange suffered from panic selling by both foreign and local investors, driving stock prices down further. For the first time in months, Bank Indonesia was forced to intervene in the rupiah's market to prevent the currency from falling even further.

Nevertheless, government officials remain upbeat on the outlook of the Indonesian economy. Over the past couple of days, we have heard optimistic notes from both Coordinating Minister for the Economy Dorodjatun Kuntjoro-Jakti and Minister of Industry and Trade Rini Suwandi that the infrastructure of the economy has not been impaired.

It is clear that the market reacted adversely and instantaneously toward the bombing, reconfirming a longstanding thesis that security and political stability are the first and foremost factors in attracting foreign investment.

As can certainly be seen, the next immediate impact of the bombing will be felt in the tourist sector. With the exodus of tourists and numerous cancellations for near future travel plans, we can forget about reaping a significant amount of income from tourism for the rest of this year.

Statistical data in 2000 reveals that the tourism sector contributed to approximately 4 percent of the gross domestic product, 30 percent of which came from foreign tourists. Consequently, national income may contract by roughly 1 percent, a very significant number considering that GDP growth for this year is targeted at 3.5 percent upto 4 percent. It is especially saddening due to the fact that tourism is a labor-intensive industry, which means that mass layoffs can be expected following the fall in the sector's performance.

These immediate reactions, however, serve only to exacerbate an already gloomy investment climate that Indonesia is facing this year. Up to the second quarter of 2002, GDP data shows that overall investment growth remains weak. The growth of gross fixed capital formation, which measures accumulative physical investment, has been declining since the third quarter of 2001. It contracted by 3.7 percent (quarter-on-quarter) in the second quarter of 2002. Furthermore, Investment Coordinating Board (BKPM) data in August 2002 revealed that overall approved investment declined by 42 percent for foreign investment and 72 percent for domestic investment.

This bleak investment performance is worrying as it will undoubtedly affect economic growth figures as investment is a significant source of growth. In 2000, investment contributed 24 percent to GDP growth. Serious concern has been raised on whether the government will be able to meet its target of 4 percent growth this year.

While it is true that the Bali explosions, which seem to add weight to the international perception that Indonesia is a target for terrorists, will affect foreign investor sentiment, the core of the problem lies much more in fundamental noneconomic factors.

Again, security and political stability remain the primary factors in determining investors' decisions as to where to put their money, and this is especially true for foreign investors.

Another problem that may inhibit the inflow of long-term capital in the near future is the fact that the government and the House of Representatives still fail to agree on the investment bill, a necessary legal basis for investors in doing business in Indonesia.

Finally, other problems such as the tax and labor policies will also further discourage domestic investment. Those combined factors will result in further relocation of investment to other countries.

Nevertheless, the government still faces serious challenges in the aftermath of the Bali explosion. Not only is our nation's credibility to fix the investment climate at stake, but the bigger challenge ahead of us is how to restore international confidence.

Within an instant, the Bali incident wiped out the momentum of economic recovery that had been building up throughout the year, as macroeconomic conditions of declining inflation, a more stable exchange rate and lower interest rates paired with political stability had been strengthening.

Therefore, the government needs to exercise extra caution with its response to this tragedy, as failure to tackle the issue of terrorism would set a precedent that could drive investors further away from Indonesia. Unless serious efforts are made to resolve the issues contributing to the long-term risk premium, such as security, institutional problems and legal certainty, the risk premium will not fall soon and big investments, either foreign or domestic, are unlikely to take place in the near future.