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Indonesia: Staff Report for the 2016 Article IV Consultation

Author(s):
International Monetary Fund. Asia and Pacific Dept
Published Date:
February 2017
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Overview

1. Indonesia has maintained macroeconomic stability, while adjusting well to recent shifts in the external environment. A prudent mix of macroeconomic policies and the launch of structural reforms has helped the economy weather the commodity down-cycle, slow global growth, and several episodes of financial turbulence affecting EMs. While growth has slowed slightly, it has remained robust. Inflation has eased and the external position has improved. A gradual fiscal consolidation has begun. There has been major progress on the financial stability framework, and gaps related to the crisis management framework are being addressed. Structural reforms that began in 2015 so far have improved the business environment. Positive sentiment has been reflected in supportive capital inflows in 2016, which buoyed financial markets before undergoing some corrections starting in October. Since the United States (U.S.) elections and the December decision by the FED to raise interest rates, markets have accelerated the correction.

2. Private consumption remains the main driver of growth, but higher inclusive growth will require deeper structural reforms. Consumption growth has been underpinned by an expanding middle class, lower fuel prices, and falling inflation. Investment has remained subdued, reflecting spillovers from lower commodity prices, some excess capacity in mining and manufacturing, and structural impediments, while external demand has been weak. In staff’s views, consumption-led growth can be sustained over the medium term, but meeting the authorities’ ambitious targets for inclusive growth will require deepening structural reforms.

3. Discussions focused on policies to strengthen the medium-term policy framework to support inclusive growth, while preserving macro stability in an uncertain and volatile external environment. The challenge is to continue, and in some cases deepen, ongoing structural reforms that will boost productivity and growth, while maintaining and improving policy buffers to boost resilience in an increasingly uncertain and volatile external environment. Policy priorities include: (i) strengthening the medium-term fiscal framework with a growth-friendly revenue strategy and continuing to improve the effectiveness and efficiency of public spending; (ii) standing ready to adjust monetary policy to deal with changes in the external environment, while maintaining exchange rate and bond yield flexibility; (iii) implementing the enhanced financial stability framework, improving inter-agency coordination to respond to shocks, and sustaining vigilance on pockets of macro-financial vulnerabilities from the bank and corporate sectors; and (iv) deepening structural reforms to improve the business environment and support private investment.

4. Past Fund advice and the authorities’ policies have been broadly aligned. In 2016, monetary policy easing was appropriately calibrated and there was progress with monetary operations reform. The authorities continue to pursue a flexible exchange rate policy. The FSCPM Law passed in March was a milestone for the financial stability architecture. On the fiscal front, however, the authorities decided to launch a tax amnesty to expand the revenue base and strengthen compliance instead of raising excises.

Recent Developments, Outlook, and Risks

5. In 2016, growth remained strong, inflation dropped significantly, and the current account deficit was contained.

  • Growth remained robust at 5.0 percent in 2016:Q3 due to resilient private consumption, despite some modest fiscal consolidation and still weak private investment and external demand. Credit growth slowed to the lowest over the past few years on weak corporate demand, before slightly picking up recently.

  • Headline inflation dropped to the bottom of the official target band (3−5 percent)—the lowest since end-2009—owing to stable food prices, lower administered prices, and a small negative output gap (½ percent of GDP), with core inflation also moderating.

  • The current account (CA) deficit remained contained at 2.1 percent of GDP in Q1-Q3:2016, due mainly to lower imports that more than offset lower exports. Official reserve assets rose to US$111.5 billion at end-November (around 8 months of prospective imports), amid supportive portfolio inflows in the first three quarters of 2016.

6. The near-term outlook remains favorable. Growth in 2016 is projected at 5 percent on account of robust private consumption. In 2017, growth is expected to rise modestly to 5.1 percent, led by a gradual pickup in private investment in response to stronger commodity prices, low interest rates, and a recovery in external demand on the back of a pickup in global growth and trade. Inflation is expected to rise from 3.2 percent at end-2016 to around 4.5 percent at end-2017 largely due to lower electricity subsidies and some recovery in commodity prices. The CA deficit would remain at around 2 percent of GDP next year, with the expected pickup in fixed investment and imports offset by the impact of higher commodity prices on exports.

7. Overall macro-financial risks appear more manageable, but pockets of risks remain. Macro-financial pressures have moderated slightly, aided by some recovery in commodity prices, portfolio inflows during much of 2016, and private external debt deleveraging. Indonesian financial markets experienced strong rallies until Q3:2016. The correction that began in October intensified after the U.S. election in November and the FED’s decision to raise interest rates in December—in the period of November 8-December 16, equities fell by 4 percent, benchmark 10-year bond yields rose 70 bps, and the rupiah weakened 2.3 percent, with portfolio outflows. During this episode, financial market volatility was higher than following Brexit, but less than during the 2013 taper tantrum. Corporates’ external borrowing has started to decline, after a rapid rise in previous years, and credit growth remains tepid. Corporate debt-at-risk with an interest coverage ratio less than 1 picked up somewhat this year. Banks’ nonperforming loans (NPLs) have also risen, albeit from a low level, while liquidity remains tight in some smaller banks, and deposit growth slowed. Fiscal financing remains reliant on nonresident investment in local currency (LCY) government bonds and in global bond issues.1 The government successfully placed international bonds amounting to US$3.5 billion in December 2016.

Equity and Government Bond Inflow

(In millions of U.S. dollar, cummulative since 1/1/2016)

Sources: Bloomberg LP.; and IMF staff estimates.

Exchange Rate and Government Bond Yield Movements

Source: Bloomberg LP.

8. Indonesia’s external position in 2016 is assessed to remain broadly consistent with medium-term fundamentals and desirable policy settings (Box 1, Appendix II). Staff estimates the current account gap to be between -0.8 and 1.2 percent of GDP, with the REER gap in the range of -6 percent to 4 percent. The main conclusion from the external and public DSA are broadly unchanged from the last Article IV (Appendix III). At 35.8 percent of GDP (about half of which is public) at end-September 2016, external debt remains at a moderate level. External financing has been sustainable, but remains sensitive to domestic and external volatility. At about 130 percent of IMF’s reserve adequacy metric (projected for end-2016), reserves are expected to be sufficient to buffer most shocks.

9. Over the medium-term, the macroeconomic outlook is expected to improve. Growth is projected to increase to 5½ percent by 2020, supported by a gradual recovery in fixed investment and ongoing structural reforms, with the output gap closing by 2018. International reserves are projected to gradually increase, with the reserve adequacy metric remaining broadly stable.

10. Under an illustrative enhanced reform scenario prepared by staff that involves a more growth-friendly fiscal policy, growth would rise to 6 percent by 2021, mainly on account of higher infrastructure and social spending, as well as to some productivity growth from capital accumulation and reforms.

11. Downside risks to the outlook have risen recently and are largely external. (Appendix I: Risk Assessment Matrix) The government and corporate sector’s reliance on external financing makes Indonesia susceptible to global shocks and funding reversals. External risks include uncertainties around the policies of the incoming U.S. administration, tighter and more volatile global conditions, spillovers from a significant China slowdown, and lower commodity prices. In response to expectations for higher interest rates following the U.S. election and an increase in the U.S. policy rate in December, sovereign and corporates could face higher funding costs, together with exchange rate depreciation and capital outflows. Domestic risks include a smaller fiscal buffer, reflecting tax revenue shortfalls or higher domestic interest rates due to tighter global financial conditions, which could curb fiscal space to support growth. Domestic political tensions associated with regional elections could also increase. A confluence of external and domestic factors could intensify pockets of macro-financial vulnerabilities related to the banking and corporate sectors. Upside risks include stronger global growth and higher commodity prices, aided by an expected fiscal stimulus in the United States.

12. In the event of severe external pressures, tighter aggregate demand management and continued exchange rate flexibility could help contain risks. International reserves should be used primarily to prevent disorderly market conditions, provided that reserves remain adequate (Appendix I: Risk Assessment Matrix). If international financial markets were to be closed to EMs for a protracted period of time, targeted measures to alleviate funding pressures by banks and corporates would help preserve financial stability. Contingent financing totaling about US$83 billion is currently available, inclusive of the Chiang Mai Initiative Multilateralization and bilateral swap arrangements.

Authorities’ Views

13. The authorities broadly agreed with staff on the macroeconomic outlook. The authorities reaffirmed their commitment to maintain macroeconomic and financial stability, while enhancing the medium-term framework to raise growth potential. Growth is projected to strengthen in 2017, underpinned by a recovery in private investment, with exports also expected to benefit from the recent strong rebound in coal and palm oil prices; inflation and related expectations remain at multiyear lows; and the CA deficit is expected to remain well contained, while reserve buffers have risen considerably. In their views, these developments, coupled with a flexible policy framework, contingency plans, and a range of available contingent financing place Indonesia in a strong position to manage the downside risks emanating primarily from outside the country.

Policy Discussions

A. Fiscal Policy and Reforms—Growth-Enhancing Revenue and Expenditure Strategy

14. The government’s fiscal strategy centers on broadening the revenue base and expanding priority expenditures, while making them more efficient within the statutory fiscal deficit limit of 3 percent of GDP. The government aims to mobilize tax revenue by strengthening tax collection efforts, simplifying layers of exemptions, and broadening the tax base. The authorities also intend to continue reallocating unproductive spending and improving the efficiency of spending, including on infrastructure, social programs, and transfers to local governments. Following the landmark 2015 fuel subsidy reforms, the government has continued to reform energy subsidies, including electricity and diesel, and improve the targeting of rice subsidies. The retail prices of diesel and other fuels are being adjusted on a quarterly basis. Aided by these efforts and the planned tax reform, the government aims to gradually lower the fiscal deficit to 2¼ percent of GDP over the medium term, to rebuild buffers and strengthen the fiscal sector’s resilience to outside shocks.

15. In August 2016, the authorities began a gradual fiscal consolidation while protecting the government’s priorities. Weak revenues had pushed the fiscal deficit to 1.8 percent of annual GDP in 2016:H1, requiring lower spending in H2 to stay within the deficit rule of 3 percent of GDP. In addition to weak commodity-related revenues, nonoil revenues—particularly Value Added Tax (VAT) and excise taxes—continue to underperform, exacerbating Indonesia’s structurally low tax revenues. Against this backdrop, the Cabinet approved a revised financial plan in August 2016, with more realistic revenue projections and lower spending, that staff project will lead to a fiscal deficit of about 2.7 percent of GDP. Collections from the amnesty program2 surprised on the upside (Rp 99.2 trillion or 0.8 percent of GDP as of November 30), coming mainly from previously undeclared domestic assets; for 2016 as a whole, tax amnesty collections are projected to reach 0.9 percent of GDP. Building on the success of the amnesty, the government intends to expand the tax base and strengthen relations and trust between the private sector and the tax administration.

General Government Tax-to-GDP Ratio, 2015

(In percent)

Sources: IMF, WEG Database; and Authority data.

16. The 2017 budget targets higher revenue, more efficient spending in priority areas, and a lower fiscal deficit. The 2017 budget increases nominal tax collections by around 13 percent, on stronger collection efforts and expanded tax base. The authorities plan to upgrade the main tax laws in 2017, including VAT and income tax laws, while using the information gathered from the tax amnesty combined with external databases to guide audits. The budget continues to relocate operational spending to priority areas, including infrastructure, education, and health, reduces and better targets electricity subsidies for the poor, and increases transfers to local governments for infrastructure. The fiscal deficit target of 2.4 percent of GDP will help rebuild fiscal buffers.

Staff Position

17. The government’s fiscal strategy is well-placed. Staff welcomes the government’s overall fiscal strategy. The revised financial plan approved in August 2016 was appropriate in light of weak revenues and higher external volatility. The authorities should continue to improve targeting of subsidies and reduce operational spending, while protecting priority spending. Ongoing expenditure reviews in agriculture, health, and education are expected to improve efficiency, which will strengthen the medium-term fiscal framework and contribute to growth.

18. While Indonesia has some fiscal space to expand spending, the decision to rebuild fiscal buffers in 2017 by targeting a lower fiscal deficit is appropriate. A range of indicators point to the availability of fiscal space, even within the existing fiscal rule, including relatively small financing needs and deficit levels, low inflation and credit growth, and a sustainable external position. However, in the current context, the authorities’ plan to rebuild fiscal buffers by lowering the fiscal deficit target in 2017 and rationalizing spending to achieve a sustained lower primary deficit is appropriate. These policies will support the economy’s resilience to shocks, which is needed if Indonesia is to prosper in a more volatile external environment. Meeting the authorities’ revenue targets for 2017 will be challenging. If revenue shortfalls persist, additional revenue actions will be needed to maintain the planned level of spending and meet the deficit target.

19. There is room to strengthen the medium-term fiscal framework to promote productivity gains and growth. Public investment in infrastructure and expansion of social spending, especially health and education, can catalyze other key drivers for medium-term growth, supplemented by improving the efficiency of public expenditure. To achieve these, fiscal buffers need to be strengthened, within the fiscal rule, buttressed by additional revenue measures from tax policy and administration reforms. Higher domestic revenue mobilization will gradually reduce reliance on external financing. Finally, moving to more frequent adjustments of retail fuel prices through a transparent fuel pricing mechanism would also protect the budget from upward changes in international oil prices.

20. In an illustrative reform scenario prepared by staff, where both revenue and expenditure would increase by around 3 percentage points of GDP by 2021, potential growth would increase to 6 percent by 2021. This result is similar to the experience of other EMs which implemented growth-friendly fiscal reforms. (text table).3

Indonesia: Illustrative Growth-Enhancing Fiscal Strategy Versus Baseline Forecast
BaselineIllustrative Scenario: Growth-Enhancing Fiscal Strategy
201520162017202120172021
General government revenue14.914.514.314.314.817.3
Central government revenues and grants13.112.812.512.513.015.3
Of which: tax revenues10.711.010.610.711.113.5
Oil and gas revenues1.10.70.90.70.90.7
Non-oil and gas revenues11.912.011.611.712.114.5
Tax revenues10.310.610.210.410.713.2
Income tax4.85.55.25.45.25.4
VAT3.73.43.53.43.85.2
Excise1.31.11.11.21.32.2
Other0.60.60.50.40.50.4
Nontax revenues1.51.51.41.41.41.4
Local government revenue net of transfer1.81.81.81.81.82.0
General government expenditure17.417.216.716.817.219.5
Health1.31.51.51.51.62.1
Education3.53.33.33.33.54.1
Social Assistance1.51.71.71.71.71.8
Infrastructure2.22.72.42.52.73.8
Other expenditure8.88.17.77.87.77.7
General government deficit−2.5−2.7−2.4−2.5−2.4−2.2
General government debt26.828.028.429.428.328.4
Real GDP Growth4.85.05.15.55.26.0
Source: World Bank; Indonesian authorities; and IMF staff estimates.
Source: World Bank; Indonesian authorities; and IMF staff estimates.

Growth-Friendly Revenue Strategy

21. There is scope to mobilize non-oil revenues through growth-friendly tax policy and administration reforms. Since 2012, total general government revenue has fallen by 2.5 percentage points of GDP, mainly due to lower production and prices of petroleum products, and, more recently, import contraction also affecting VAT receipts. At the same time, non-oil revenue in percent of GDP remains weak at around its 2004 level. There is substantial scope to mobilize tax revenue (see table)—the most growth-friendly tax is the property tax, followed by indirect taxes (including excise taxes and VAT), Personal Income Tax (PIT), and Corporate Income Tax (CIT).4 The following illustrative revenue mobilization strategy could be pursued in the near to medium term:

Menu of Policy Options in Growth-Enhancing Fiscal Strategy(In percent of GDP)
Policy OptionsEstimated Fiscal Impact by 2021Details of the Policy
Total revenue policy 1/3.0
Value-added tax1.8Increase rate from 10 percent to 15 percent while removing exemptions.
Excise taxes1.0Increase vehicle and tobacco excise rates and impose environmental tax on fuel.
Personal income tax0.0Remove exemptions and lower top rate in a revenue-neutral manner.
Corporate income tax0.0Remove exemptions and lower statutory rate in a revenue-neutral manner.
Property tax0.2Increase rate and gradually replace transaction tax with recurrent property tax.
Total expenditure policy 2/2.7
Health0.6Implement universal health coverage while improving efficiency.
Education0.8Increase education expenditure toward EM average (4.8 percent of GDP) while improving efficiency.
Social Assistance0.1Consolidate poorly-targeted programs.
Infrastructure1.3Increase investment expenditure toward 5 percent of GDP while improving efficiency.
Other expenditure−0.1Cut nonpriority expenditure.

Positive sign means more revenue.

Positive sign means more expenditure.

Positive sign means more revenue.

Positive sign means more expenditure.

  • Excise tax rates on vehicle and tobacco could be increased in the near term, while simplifying the complicated structure of tobacco excises over the medium term. A new environmental tax on fuel products could be imposed, as both the retail price and the net tax of gasoline and diesel are relatively low in Indonesia.

  • The VAT rate could be gradually raised, with VAT administration simplified. Revenue potential from VAT is the greatest, given that the current rate is 10 percent, well below those in OECD and large EM countries. The VAT rate could be raised gradually to 15 percent, taking into account the cyclical position of the economy, coupled with a removal of VAT exemptions (including on intermediate services), while administration is gradually simplified.

  • PIT base could be broadened by a lower threshold for the top rate, while capitalizing on asset declarations under the amnesty.

  • The removal of untargeted tax incentives and unifying low-rate regimes into one single CIT rate should be pursued. Lowering the CIT rate significantly is not advisable. At 25 percent, the statutory CIT rate appears appropriate compared to other countries, and as large countries such as Indonesia have little to gain from a lower CIT rate.

  • Higher rates on real property tax could be explored in the near term, while taking into account that this tax has been decentralized to local governments. In the medium term, the assessment of property values could be strengthened, and the local stamp duty (transaction tax) could be gradually replaced by a recurrent real property tax.

  • International aspects of taxation should be reviewed. There is room to strengthen anti-tax avoidance regulations such as those on permanent establishment, transfer pricing, thin capitalization, and controlled foreign corporations. Implementation of the OECD-G20 BEPS project needs to be adapted to Indonesia’s circumstances.5

Gasoline: Retail Price and Net Tax

Sources: KPMG; IBFD; IEO; IMF staff estimates.

Diesel: Retail Price and Net Tax

Sources: KPMG; IBFD; IEO; IMF staff estimates.

22. Tax administration reforms are an important element of a growth-friendly fiscal policy. In particular, actions should aim to lower compliance costs and render tax administration more business-friendly, including by removing ambiguities and inconsistencies in the interpretation of tax laws and simplifying VAT filing and refund requirements. The current focus on strengthening the tax administration through incremental reforms, rather than undergoing a potentially disruptive reform of establishing a Semi-Autonomous Revenue Authority (SARA), is well-placed. Tax collection efficiency can be improved by enhanced risk management, extended audit coverage through more specific-issue audits, and moving the Extensification program (comprising efforts to increase the number of registered taxpayers) towards a more targeted campaign.

Figure 1.Indonesia: Revenue Profile Related to Peers

Growth-Enhancing Expenditure Strategy

23. Higher expenditure in selected areas will support inclusive growth. Constrained by weak revenues, Indonesia lags compared to the rest of ASEAN in spending on growth-critical areas such as infrastructure, health and education.

  • Infrastructure development should continue, supported by stronger coordination and close monitoring. Improving the infrastructure investment framework is critical to improving the efficiency and integrity of scaling-up of investment. With increasing fiscal transfers to local governments, the capacity of regional governments should be enhanced in tandem. As state-owned enterprises (SOEs) are increasing capital spending and there are plans to create six large SOE holding companies, it is important to closely monitor their balance sheets and assess their strategic role to ensure that SOEs do not crowd out private investment. The authorities should also closely monitor contingent liabilities from public-private partnerships (PPPs), where some large projects were recently launched or announced.

  • Health and education spending could further expand. Indonesia’s spending in health and education was 1.3 percent and 3.5 percent of GDP in 2015, respectively, well below the EM Asia average of 4.4 percent and 4.8 percent of GDP. As additional fiscal space is generated over the medium term and in response to Indonesia’s demographic and social needs, spending in these sectors should increase to levels closer to peers. In the near term, the ongoing review of the efficiency of public spending in education, health, and agriculture will help improve its impact and lay the basis for a gradual expansion of social spending. Recommendations from the reviews should be implemented expeditiously.

  • The efficacy of social protection programs has room to improve through consolidation and expansion of those found to be effective. This would entail the reduction and consolidation of various social assistance and subsidy programs, and the expansion of conditional cash transfers, taking advantage of the updated integrated database.6

Public Capital Investment

(In percent of GDP)

Sources: World Economic Outlook: World Bark; Indonesian authorities; and IMF staff estimates.

Public Health Expenditure

(In percent of GDP)

Sources: World Economic Outlook; World Bank; Indonesian authorities, and IMF staff estimates.

Public Education Expenditure

(In percent of GDP)

Sources: World Economic Outlook: World Bank; Indonesian authorities: and IMF staff estimates.

24. Further actions on public financial management (PFM) reforms would enhance the efficiency and integrity of public spending. The authorities are working to improve coordination with local governments and establish incentives to boost infrastructure investment by local government, which are welcome and should continue. Carrying out a comprehensive review of the public investment process at all levels of government may identify measures to improve the efficiency and efficacy of the public investment process.

25. The government’s ambitious infrastructure program should be supported by further financial development. The program aims to mobilize a broad base of investors, including domestic institutional investors and banks, and introduce new financial instruments. In this context, it will be important to ensure that the program does not relax prudential standards that in turn could lead to excessive risk.

Authorities’ Views

26. The authorities broadly agreed with staff’s assessment and described their actions to support growth. A sound financial plan for 2016 approved in August 2016 enabled more realistic revenue projections and a streamlined expenditure envelope, aimed at strengthening fiscal buffers. By streamlining less-productive spending, they improved expenditure composition with a focus on growth-enhancing areas, including critical infrastructure projects and better targeted energy subsidies. These efforts, combined with potential for further revenue-raising reforms in the near to medium term, can support fiscal consolidation while protecting spending that is catalytic for growth.

27. The authorities concurred that revenue mobilization will be challenging but they are confident that the 2017 targets will be met. The authorities agreed on the need to build buffers, and noted that they had prepared spending contingency plans, should tax revenues be lower. They noted that tobacco excises were again increased in the 2017 budget. The authorities indicated that a tax reform group will be formed to develop a comprehensive plan to upgrade the main tax laws in 2017. The authorities also concurred with the view that effective enforcement would be critical following the amnesty to reap the full benefits from the effort.

B. Monetary Policy and Foreign Exchange Management—Maintaining Stability

28. In 2016, Bank Indonesia (BI) eased monetary policy, which remains accommodative, and broadly maintained exchange rate flexibility. BI has cut policy rates by a cumulative 150 bps in 2016, in response to falling inflation and, until very recently, reduced external pressures on the rupiah. The cuts were accompanied by reduced reserve requirements to create space for credit. Exchange rate flexibility has been broadly maintained, with some intervention during episodes of inflow surges and outflows to prevent disorderly market conditions, including the latest bout of EM volatility in November.

29. Important progress has been made in monetary operation reforms (Box 2). Effective August 19, 2016, BI shifted the policy rate to a transactional one (the 7-day reverse repo rate), to strengthen the transmission mechanism of monetary policy and facilitate financial deepening. BI also narrowed the interest rate corridor between the overnight Lending Facility and Deposit Facility. The transition was smooth, and early indicators on the transmission have been favorable, with interbank rates moving closer to the new policy rate.

Staff Position

30. The current monetary stance is broadly adequate. The latest decisions by the BI to hold policy rates in November and December were appropriately calibrated with inflation remaining within the target band and greater market volatility. While inflation in 2017 is projected to remain within the official target band, albeit higher than in 2016 due to the elimination of subsidies and some recovery of commodity prices, the authorities should remain vigilant to the resurgence of inflationary pressures and stand ready to adjust the policy stance, as needed. In the event of spillovers from severe external volatility affecting the currency and related inflation expectations, BI is encouraged to review its policy stance and adjust it to contain second-round inflationary pressures.

31. BI’s ongoing monetary operations reforms will support financial market deepening. The decision to move to reserve requirement averaging in the second half of 2017 will help improve banks’ liquidity management.

32. Continued exchange rate flexibility and market-determined bond yields are critical to help absorb external pressures that may arise. Keeping this flexibility will be important to allow the economy to adjust smoothly to volatile external conditions. FX intervention should continue to be used primarily to prevent disorderly market conditions, provided that reserves remain adequate. The authorities’ handling of capital outflows in the recent period has been broadly consistent with the Fund’s Institutional View on capital flows.

Authorities’ Views

33. The authorities are cognizant of heightened financial volatility facing EMs and were prepared to react to the changing external environment. The authorities saw some additional room to reduce policy rates further when conditions are appropriate, given moderate inflation, a negative output gap, and downside risks to growth in 2016. They viewed that credit growth, which has continued to slow for several years, has reached levels that were less than fully consistent with growth fundamentals, but also noted that the shift to the capital markets in financing over the past year had provided a partial offset. The authorities affirmed that exchange rate and bond yield flexibility would continue to be maintained as part of a prudent policy mix to absorb external pressures that may arise, supported by improved FX market hedging regulations. Furthermore, they noted that the domestic FX market for the last two years has been more liquid and the price discovery processes of the currency driven by market forces.

C. Financial and Corporate Sector Issues—Strengthening the Financial Stability Framework7

34. Financial soundness indicators suggest that the banking sector is broadly healthy, albeit with areas of vulnerabilities. The high level of banks’ capital and profitability has helped weather slowing economic growth. On average, the banking system is well capitalized and profitable, with a capital adequacy ratio (CAR) of 23.3 percent and returns on assets (ROA) of 2.4 percent (as of August 2016). However, soundness varies across different types of banks. Some smaller banks are more vulnerable to a liquidity shock, due to their higher reliance on short-term time deposits and limited access to the money market. The financial system as a whole remains liquid. Some sources of vulnerabilities include the rise in NPLs, special mention loans (SMLs), and restructured loans, although there are early signs that these are stabilizing.8 Higher NPLs are related mainly to manufacturing and trade, while NPLs in mining further increased.

35. Risks from the corporate sector have somewhat moderated, but they remain elevated (Box 3). Corporate vulnerabilities stem from a relatively high level of foreign currency denominated (FX) debt exposures, elevated distressed debt, and lower cash buffers. FX risk of corporate debt has mitigated somewhat due to the slight decline in external borrowing and deleveraging, following weak investment appetite and business consolidation, as well as by the full implementation of BI hedging regulations.9 Profitability has improved slightly, supported by cost-cutting and postponement of investment projects. Nonetheless, corporate performance has varied across sectors, with commodity related sectors slightly recovering and manufacturing remaining weak.

Corporates: External Borrowing

(In billions of U.S. dollar)

Sources: CFIC Data Co. Ltd.; and IMF staff estimates.

Corporates: Liquidity, Debt Service Capacity, and Profitability

(In percent)

Sources: Bloomberg LP, and IMF staff estimates

36. The economy is at a late stage of the credit cycle. Credit growth declined to 6.3 percent in October 2016 from 10 percent at end-2015, but appears to have bottomed out recently. FX loans have declined. Credit growth to corporates varies by sector, with weakness in mining and manufacturing, and robust growth in construction. Sluggish credit growth has been mainly driven by weak corporate credit demand, reflecting low investment. At the same time, some institutions, particularly medium-sized banks, have tightened their lending standards given higher NPLs, but conversely, credit expansion in large state-owned banks remains relatively robust. Some firms have also been shifting financing sources from banks to capital markets, which can partially explain lower lending from banks. Consumer loan growth has similarly slowed down in recent years.

37. The authorities have further unwound part of an earlier tightening of macroprudential policies undertaken in 2012–13.10 The unwinding includes easing loan-to-value (LTV) limits on mortgage loans and down payments on auto loans, and raising the floor of banks’ loan-to-funding ratios that would incur reserve requirements.11 BI has introduced a counter-cyclical capital buffer (CCB) in January 2016, currently set at zero.

38. The adoption of FSCPM Law in April 2016 has strengthened the financial stability framework. The law defines domestic systemically important banks (D-SIBs), and provides a legal basis for crisis response and bank resolution. The authorities are now focusing on issuing the implementing regulations before April 2017 to make the law fully operational. These include regulations on recovery planning (OJK); and bank restructuring and resolution of systemic and nonsystemic banks (the Deposit Insurance Corporation (LPS) and OJK); and short-term lending facility (BI). The authorities have continued enhancing the integrated supervision of banks and nonbanks and upgrading risk-based supervision. Reflecting Basel III requirements, liquidity coverage ratio (LCR) requirements are being adopted to help banks manage liquidity risk, besides a number of other liquidity ratios monitored by the authorities.

39. Financial deepening remains a priority of the government. Financial deepening in recent years has been slower than in peer EMs, constrained by a segmented banking system, shallowness of the financial markets, and low financial inclusion. Nonetheless, over the past decade the local currency government bond market has seen growth in depth and range of investor participation, including from foreign investors. The authorities have created a high-level coordinating committee comprising the key public agencies to intensify coordination on financial deepening.

Indonesia: Financial Deepening Index Comparison to Peers

Sources: IMF Staff Discussion Note 15/08; and IMF staff estimates.

1/ Financial development indices are in the range between 0 and 1, with a higher value representing more advanced financial development.

2/ Peers include Brazil, China, India, Malaysia, Philippines, Poland, Russia, South Africa, Thailand, and Turkey.

Staff Position

40. Progress achieved in assessing financial and corporate sector vulnerabilities should continue. Macro-financial linkages should continue to be carefully monitored with regards to banks’ soundness and liquidity, and corporates’ NPLs and developments in FX debt, including conglomerates. The authorities should continue to ensure the full implementation of the corporate FX hedging regulations and proper loan classification and provisioning against problem loans. Removing various bank deposit and lending rate caps would improve the financial sector’s resilience to shocks and contribute to better transmission of monetary policy.12

41. The authorities are rightly focusing on making the FSCPM Law fully operational. The FSCPM Law establishes a coordination mechanism to maintain financial stability. The approval of this law should be followed by the closely coordinated revisions of the laws of BI, OJK, and LPS to ensure the overall consistency of the legal framework, providing clarity on mandates and policy responsibilities.

42. Financial deepening should continue to be balanced with financial stability. This requires continuing to develop a strong supervisory and regulatory framework, as well as modernizing instruments and institutions. Progress on developing a national plan for financial deepening should continue to allow for enhanced coordination at the national level.

Authorities’ Views

43. The authorities broadly shared staff’s assessments and recommendations, and emphasized progress on the financial stability framework. They emphasized that the banking system is among the most capitalized and profitable in EMs, which provides strong buffers to support financial stability. While banks’ asset quality has weakened somewhat from very low levels, banks are adjusting well including by increasing provisions and loan write-offs. The authorities are closely monitoring the process of NPL restructuring to ensure financial stability. The authorities also noted ongoing efforts to further improve monitoring of the corporate sector, where they see that risks have abated to some extent and remain manageable, aided by BI’s FX hedging regulations. Finally, the authorities noted that the financial stability architecture had been strengthened and that the new FSCPM Law is expected to be fully operational in the coming months.

D. Structural Reforms—Boosting Private Investment

44. The authorities place high importance on revamping the business climate and have achieved some early successes. Following the landmark 2015 fuel subsidy reform, the authorities have been implementing reforms aimed at improving the business environment and strengthening the economy’s productivity and competitiveness. The government announced 14 economic policy packages since September 2015, including some that streamline regulations and support private sector investment. The Foreign Direct Investment (FDI) regime was also partially liberalized, and clarity has increased on the setting of the minimum wage.13 These actions contributed to Indonesia’s notable improvement in World Bank’s Doing Business ranking in 2016 (15 positions to the 91st position).

45. Notwithstanding reforms to date, challenges remain to support private investment (Box 4). While the global economy has seen a slowdown in private investment in recent years, Indonesia has undergone a sharper decline than most of its regional peers, adversely affected by a slump in commodity prices.14 Investment growth in the commodity sector has stalled, while that in manufacturing has contracted, and the economy’s linkages with global value chains have weakened. Infrastructure is below those of other EM peers. Labor skills gap may have constrained investment, while rigid labor markets have resulted in a proliferation of short-term contracts.

GDP by Industry

(In percent of total)

Sources: CEIC Data Co. Ltd.; and IMF staff estimates.

Manufacturing Exports

(In percent of total merchandise exports, 2014)

Sources: Deloitte; and IMF staff estimates.

Staff Position

46. The government should continue with its efforts to strengthen the economy’s productivity and competitiveness through targeted reforms. Building on these efforts, deeper reforms would bolster private investment and growth.

  • Expanding infrastructure. Accelerated infrastructure development would reduce logistics costs and improve competitiveness and productivity, including in manufacturing and tourism. The authorities are rightly planning to expand PPP projects, and the recent start of construction of a large electricity generation plant under this scheme, expected to be completed by early 2020, is promising. Continuing financial deepening with stronger institutional investors base will help channel funds to infrastructure development.

  • Policy packages reflect the authorities’ commitment to improving the investment climate, and efforts should continue. Stronger inter-agency coordination is needed to accelerate the land acquisition process, streamline still-complex regulations, and reduce uncertainty on regulatory consistency. Increased coordination with local governments would improve the investment climate. A comprehensive review of the role of SOEs in the economy, with a view of establishing a level playing field and opening sectors to private investment, would also contribute to higher private investment and growth.

  • Pursuing trade integration and further modernizing the FDI regime would promote investment and economic diversification. The recent revision in the FDI regime is an important step, but further liberalization will help attract FDI inflows as Indonesia’s regulations remain comparatively restrictive. Opening up new sectors of the economy to private investment, including the energy and service sectors (e.g., tourism), could become important drivers of growth and diversification. Participation in new regional trade arrangements would help reinforce Indonesia’s attractiveness and integration into global value chains, which should be pursued along with policies to mitigate the social impact of greater integration.

  • Stronger efforts are needed to improve the labor market and narrow the skills gaps. While the implementation of the minimum wage formula will increase business certainty, wage growth should be aligned with productivity growth at the enterprise or industry levels. Rigid labor practices, especially on worker dismissal procedures, should be rationalized and the social safety net strengthened to facilitate the transition. The skills gap would narrow with expanded vocational training linked to the economy’s needs and improved quality of education, supported by more qualified teachers. Adopting a more open immigration policy toward skilled workers can temporarily abate the unmet demand for skilled workers.

Authorities’ Views

47. The authorities reiterated a strong commitment to continuing structural reforms. They highlighted significant advance in setting the tone for the importance of structural reforms in Indonesia, and progress has been made through the economic policy packages launched since September 2015. They noted that structural reforms are key to strengthen the productivity and competitiveness of the economy and the need to differentiate Indonesia from peers. While continuing infrastructure development, they will further streamline regulations including the Negative Investment List (DNI) and at the local level, thereby bringing in FDI and diversifying growth engines, especially in manufacturing and tourism. They plan to review the role of SOEs, with a view to making more space for the private sector and its investment. The authorities also plan to reform vocational training and the quality of education in order to enhance manpower.

Staff Appraisal

48. The Indonesian economy continues to perform well, supported by robust growth and macroeconomic stability. Over the past few years, the economy has weathered well a major commodity down-cycle and several episodes of financial turbulence affecting EMs, aided by a prudent mix of macroeconomic policies and structural reforms. The near-term macroeconomic outlook remains positive, with economic growth rising modestly, inflation within the official target band, and the current account deficit manageable.

49. Downside risks to the outlook have risen recently and are largely external. Indonesia’s reliance on external financing leaves it susceptible to global shocks and funding reversals. External risks include uncertainties around the policies of the incoming U.S. administration, tighter and more volatile global conditions, spillovers from a significant China slowdown, and lower commodity prices. Domestic risk arises primarily from tax revenue shortfalls and higher interest rates, which could curb fiscal space to support growth.

50. The authorities have strengthened the short-term fiscal framework. The revised financial plan approved by Cabinet for 2016 includes prudent revenue projections and spending commitments. While Indonesia has some fiscal space to expand spending, the decision to rebuild buffers by targeting a lower fiscal deficit in the budget for 2017 is appropriate. Progress continues to be made in reforming and better targeting subsidies and improving the efficiency of spending.

51. There is room to strengthen the medium-term fiscal framework, including through fiscal reforms that generate productivity gains and improved infrastructure. Low tax collections continue to limit fiscal space. The authorities’ plan to upgrade the main tax laws in 2017 is well placed. There is also room to deepen tax administration reforms to strengthen compliance and reduce compliance costs. Ongoing actions to enhance the quality and efficiency of public spending should continue. The authorities should continue to move towards automaticity of energy prices via a transparent fuel pricing mechanism. The domestic investor base of the government bond market needs to be strengthened, which combined with higher domestic revenue mobilization, will gradually reduce reliance on external financing over the medium term.

52. Tax reform can generate the bulk of additional needed tax revenue. Excise tax rates on vehicle and tobacco could be increased in the near term, together with a new environmental (fuel) tax, while simplifying the structure of tobacco excises over the medium term. VAT provides the greatest revenue potential and the authorities could gradually raise the VAT rate, coupled with removing VAT exemptions, while simplifying administration. PIT base could be broadened by a lower threshold for the top rate, while capitalizing on asset declarations under the amnesty.

53. Business-friendly tax administration reforms would lower taxpayers’ compliance costs. The business environment can be strengthened by removing ambiguities and inconsistencies in the tax laws, and simplifying VAT filing and refund requirements. Tax collection efficiency can be improved by enhanced risk management, extended audit coverage through more specific-issue audits, use of external taxpayer information, and moving the Extensification program towards a more targeted campaign.

54. The current stance of monetary policy is appropriate. Policy rates were lowered in 2016, in an environment of falling inflation and reduced external pressures on the rupiah. With inflation remaining within the target band and the external environment more uncertain, the policy rate since has been placed on hold. Exchange rate flexibility has allowed the economy to adjust to intermittent shocks, including higher volatility in capital flows. Continuing with this approach will be critical to allow the economy to adjust to shocks, including by standing ready to adjust the monetary policy stance in the event of severe external pressures and allowing the exchange rate and bond yields to move flexibly. Indonesia’s external position in 2016 is assessed to continue to be broadly consistent with medium-term fundamentals and desirable policy settings.

55. The reform of monetary operations should continue. The introduction of the 7-day reverse repo rate as the policy rate has been smooth, with early indications that it has improved the transmission of monetary policy. The authorities also announced the introduction of reserve requirement averaging, which is expected to improve banks’ liquidity management. Removing various bank deposit and lending rate caps would improve financial sector resilience to shocks and improve the transmission of monetary policy.

56. Risks from the corporate sector have moderated slightly but remain elevated. The corporate sector remains vulnerable due to FX debt exposure, an elevated share of distressed debt, and reduced cash buffers. FX risk of corporate debt has mitigated somewhat as a result of lower external borrowing and deleveraging, supported by the BI regulation on FX hedging. In addition, a large portion of the external debt of nonfinancial corporates is with parent or related loans. Corporate performance varies across sectors, with manufacturing particularly weak. Profitability has also improved somewhat, supported by cost-cutting and postponement of investment projects. In response to expectations for higher interest rates following the U.S. elections and the increase in the U.S. policy rate in December, corporates could face higher funding costs together with exchange rate depreciation and less supportive capital flows. In this context, the continued full implementation of the hedging regulation is important to contain risks, while the preparation and implementation of a balanced financial deepening plan can gradually reduce corporates’ reliance on external financing.

57. The banking system overall remains sound, with some pockets of vulnerabilities. Some smaller banks are more vulnerable to liquidity shock due to their higher reliance on short-term time deposits. Other sources of vulnerabilities are increased NPLs, special mention loans (SMLs), and restructured loans, although there are early signs that they are stabilizing. The authorities should continue to closely monitor banks’ soundness and liquidity conditions, including loan classification and provisioning, while enhancing inter-agency coordination. Macro-financial linkages should continue to be carefully monitored with regards to corporate sector performance, particularly NPLs and developments in FX debt.

58. Making the FSCPM Law fully operational is a priority. Issuing the relevant implementing regulations should be followed by the coordinated revisions of the laws of BI, LPS, and OJK, to ensure the overall consistency of the legal framework to the new institutional landscape. These revisions should provide clarity on the mandates and policy responsibilities of each institution.

59. Deepening structural reforms would bolster growth and diversify the economy. While consumption-driven growth can be sustained in the medium-term, boosting growth and making it more inclusive will require further structural reforms to improve the business environment and boost private investment. Priorities include expanding infrastructure, enhancing the regulatory framework, especially of local governments, opening new sectors of the economy to investment, and closing labor skill gaps through improved education and a more flexible immigration regime for skilled workers.

60. It is recommended that the next Article IV consultation take place on the standard 12-month cycle.

Box 1.Indonesia: External Sector Assessment1

Overall Assessment. In 2016, Indonesia’s external position is assessed to be broadly consistent with medium-term fundamentals and desirable policy settings. Lower commodity prices and weak trading partner demand for commodity exports have been broadly compensated by import compression. Easing trade and investment restrictions, growth-friendly revenue mobilization, deepening financial markets, and improving labor markets would help strengthen overall competitiveness over the medium term. External financing appears sustainable, but could be affected by domestic or external shocks. The authorities’ handling of capital outflows in the recent period has been broadly consistent with the Fund’s Institutional View on capital flows.

Foreign asset and liability position and trajectory. At end-June 2016, Indonesia’s net international investment position (NIIP) stood at -46 percent of GDP, compared to -43¼ percent of GDP at end-2015. A majority of the widening in the first half of 2016 was due to strong net portfolio inflows (mainly government debt). At end-June 2016, gross external liabilities stood at 71 percent of GDP. At end-September 2016, Indonesia’s gross external debt was moderate at 35¾ percent of GDP, with about 6½ percent of GDP denominated in rupiah. The level and composition of the NIIP and gross external debt indicate that Indonesia’s external position is sustainable, but nonresident holdings of rupiah denominated government bonds, with a share of 37 percent at end-November 2016, could be affected by global volatility. Private external debt growth is expected to slow on the implementation of BI’s FX hedging regulations, and expected tightening of global financial conditions.

Current account. Drawing on the IMF’s model-based External Balance Assessment (EBA) regression exercise, staff assess the cyclically-adjusted current gap to be -0.8 percent to 1.2 percent of GDP relative to the level consistent with medium-term fundamentals and desirable policies for 2016. Much of this gap could be accounted for by low public health spending in Indonesia and fiscal policy gaps in other countries.

Real exchange rate. Compared to the 2015 average, the REER appreciated by 3.1 percent in the first ten months of 2016. EBA index and level REER results suggest the REER gap to be about -3.4 percent to 3.2 percent, respectively, in line with staff’s REER gap assessment in the range of -6 percent to 4 percent based on the CA assessment.

Indonesia: Estimated Policy Contributions to Current Account Gap, 2016(In percent of GDP)
Actual CA−2.0
Cyclically-adjusted CA−1.4
CA norm−0.6 to -2.6
Estimated CA gap−0.8 to 1.2
Of which:
Partners’ fiscal deficits1.0
Domestic public health spending0.5
Residual−2.0
EBA REER index and level gaps 1/−3.4 and 3.2 percent
Staff-assessed CA REER gap 1/−6 to 4 percent

Negative value implies REER is below levels consistent with fundamentals and desirable policies.

Negative value implies REER is below levels consistent with fundamentals and desirable policies.

Capital and financial accounts. Indonesia’s gross external financing requirement is expected to be about 9.2 percent of GDP in 2016, with amortization at about 6 percent of GDP. Net FDI and new borrowing are projected at 1.5 percent and 7.6 percent of GDP, respectively. Net and gross financial flows have been steady since the global financial crisis despite some short episodes of volatility. The narrower current account deficit and strengthened policy framework including exchange rate flexibility since mid-2013 have also helped reduce capital flow volatility. For 2016, financial flows have been supported by attractive bond yields and assets repatriation related to the tax amnesty but could become weaker or reverse in the event of large domestic or external shocks as seen in November. Continued strong policies focused on strengthening the fiscal position, keeping inflation in check, and easing supply bottlenecks would help sustain capital inflows in the medium term.

FX intervention and reserves levels. Indonesia’s floating regime has facilitated adjustments in exchange rates to market conditions. Reserves are assessed to be adequate as assessed against the IMF’s composite reserve adequacy metric, sufficient to absorb most shocks, with predetermined drains also manageable. Intervention should aim primarily at preventing disorderly market conditions, while allowing the exchange rate to adjust to external shocks.

1/ For more details, see Appendix II.

Box 2.Indonesia: Monetary Operation Reforms

Backdrop for reforms. Since 2010, the transmission of the policy rate had weakened, as the overnight (O/N) interbank interest rate hovered near the floor of the interest rate corridor represented by Bank Indonesia’s deposit facility rate (as a Standing Facility), reflecting ample liquidity arising from large capital inflows. This opened up a divergence of as much as 200 basis points between O/N interbank rates and the stated policy rate. Without a transacted anchor at the short-end of the yield curve, the interbank money market has also failed to develop a viable interest rate structure, notably for tenors of 3 months to 12 months.

Bank Indonesia has launched a series of reforms to improve the transmission of monetary policy operations, including:

  • Shifting the policy rate to the BI 7-day reverse repo rate, a risk free rate actually transacted by the BI with the money market. The shift did not change the monetary policy stance.

  • Narrowing the interest rate corridor between the overnight Lending Facility and Deposit Facility, reverting to a mid-corridor system at ±75 bps around the new policy rate.

  • Managing the transition well, ably communicating to the markets. During the period, BI absorbed more liquidity at the longer tenors of the term structure, helping keep excess liquidity in the overnight deposit facility contained, and implemented measures to strengthen the interbank rate mechanism (JIBOR). To further sensitize market participants to the impending shift, BI published the term structure of its monetary operations (up to one year) in its monetary policy statements since May 2016, to provide a reliable rate structure for market reference.

  • Announcing reserve requirement averaging. In November 2016, BI indicated that it was preparing for implementation of a reserve requirement averaging scheme in the second half of 2017, which would further incentivize banks’ liquidity management and strengthen policy transmission.

Interest Rates and Excess Primary Reserves

(In percent)

Sources: Bloomberg LP.; and IMF staff estimates.

Monetary Policy, Seven-Day Reverse Repo, and Interbank Rates

(In percent)

Sources: CEIC Data Co. Ltd.; and Bloomberg LP.

Further reforms are recommended to strengthen transmission and deepen the money markets:

  • Shifting from fixed-rate to variable-rate auctions, for the 3 to 12 month tenors, to encourage market participants to transact for price discovery and shape the yield curve.

  • Removing transmission constraints to deposit rates, notably ceilings for large banks and maximum guaranteed deposit rates.

  • Completing the short-term risk-free yield curve by gradually expanding issuance of short-tenor treasury bills as instruments to underpin interbank money market transactions, including repos.

Box 3.Indonesia: Update on Balance Sheet Analysis (BSA)1

The pattern of intersectoral funding and exposures is broadly unchanged between end-2014 and end-2015. Nonfinancial corporations (NFCs) borrowing from the rest of the world (ROW), in the form of both FDI and otherwise, remains the largest exposure in the BSA. The rupiah depreciated approximately 10 percent in U.S. dollar terms as of mid-2016, which inflates all BSA positions denominated in foreign currency proportionately. After correcting for this development, NFC borrowing from the ROW has significantly decreased by 20 percent. The largest change in exposure stems from a 30 percent increase of government borrowing from the ROW.

BSA Matrix in Network Map Form 1/

sources: IMF; and IMF staff estimates.

1/ Nodes size represents the size of the net imbalance between funds borrowed and lent by a sector, while Nodes color represents whether a sector is a net debtor (red) or creditor (green).

Stress-testing demonstrates the impact of a combined depreciation (25 percent) and capital outflow shock (10 percent).2 In this scenario, NFCs lose 10 percent of their funding from the ROW, while existing liabilities increase by 25 percent in national currency terms. In a second round, NFCs replace the missing funding with bank funding (or deposit withdrawal), thereby passing on the shock to the banking system. After the shock, liabilities of NFCs with both ROW and banks increase by about 4 percent. The shock also affects government debt which increases by 4 percent of GDP.

Decomposition of Change in Outstanding NFC Borrowing from ROW During 2015(In trillions of rupiah)
Opening BalanceFX ImpactCorrected ChangeClosing Balance
4,326552−9323,946
13%−22%−9%
Difference of Intersectoral Net Positions(In percent of GDP, after combined shock)
GovernmentCentral BankBanksNBFIsNFCsHHsROW
Government−0.12%0.19%0.00%0.00%0.00%4.34%
Central bank0.12%0.57%0.00%0.00%0.00%−3.08%
Banks−0.19%−0.57%0.00%−4.78%0.41%0.46%
NBFIs0.00%0.00%0.00%−0.19%0.00%0.17%
NFCs0.00%0.00%4.78%0.19%4.07%
HHs0.00%0.00%−0.41%0.00%0.00%
ROW−4.34%3.08%−0.46%−0.17%−4.07%0.00%
Sources: IMF; and IMF staff estimates.
Sources: IMF; and IMF staff estimates.
1/ Prepared by Elena Loukoianova and Giovanni Ugazio (STA).2/ See https://www.imf.org/external/pubs/ft/scr/2016/cr1682.pdf for methodology and discussion.

Box 4.Indonesia: Private Investment in Indonesia

Indonesia has seen a marked slowdown in private investment. While investment globally and in the region has decelerated, Indonesia’s investment has slowed more markedly than that of peers. Over the past several years, investment has become more important in Indonesia as a source of growth, accounting for a third of economic output. The investment slowdown mainly reflects weak private investment, in contrast with a pickup in public investment.

Cyclical factors related to both the commodity down-cycle and subsequent economic downturn have hampered private investment. After a commodity-related investment boom prior to 2013, commodity prices have slumped, pushing down investment growth. The subsequent economic slowdown affected sectors beyond commodities, notably manufacturing. Capacity utilization in mining and manufacturing also fell and remains subdued, accompanied by a sharp fall in selling prices. With cash flows decreasing, corporates responded by cutting costs, postponing investment and laying off workers. Since a number of corporates still rely on internal cash flows for funding, a prolonged weakness in commodity prices and soft economic growth has reduced financing capacity for investment.

Structural constraints have also affected private investment, resulting in weakened linkages with global value chains. Investment has been constrained by weak infrastructure, rigid labor markets and labor skills gaps, as well as regulatory risk and uncertainty. Also financial constraints have been a factor, as some banks have tightened their lending standards amid higher NPLs. While the business climate has started to improve on the back of the authorities’ reforms, important challenges remain.

In contrast, public investment is rising, led by local governments and SOEs, with progress made in PPPs.

  • The central government is increasingly channeling investment through local governments and encouraging SOEs to ramp up capital spending. Capital expenditure of SOEs doubled in 2016, and are expected to rise by around 35 percent in 2017, aimed at meeting infrastructure development needs (text chart). To strengthen investment capacity, the government capitalized selected SOEs in the energy, food, and infrastructure sectors in 2016 (amounting to about 0.4 percent of GDP). In 2017, the government is planning to establish six holding companies in different sectors to increase their financial leverage and reduce duplication.

  • The authorities have also made some recent progress with PPPs. Several projects have started, including the landmark project of 2 GW Central Java Power Plant, with the investment amounting to 0.4 percent of GDP, partly funded by overseas investors. Considerations are also being given to diversifying funding sources, such as securitizing existing infrastructure and promoting SOE joint ventures with the private sector. The government also has increased the number of priority projects to 30 from 22 projects aimed to start by end-2018 (equivalent to 8 percent of GDP), where SOEs and PPPs are expected to play an important role.

Capital Spending of Government and SOEs

(In percent of GDP)

Sources: Indonesia, Ministry of Finance and Ministry of SOEs; and IMF staff estimates.

Private Investment 1/

(In percent year-on-year growth of assets in rupiah)

Sources: Bloomberg LP.; and IMF staff estimates.

1/ Net fixed assets of corporates.

Investment Realization by Sector

(In percent of GDP)

Sources: CEIC Data Co. Ltd.; and IMF staff estimates.

1/ Commodities also includes commodity based industries (food, wood, paper, rubber and, non metalic/mineral)

Exports of Goods and Services

(Index 2000=100)

Source: IMF, World Economic Outlook.

Private Investment to Capital 1/

(In percent)

Sources: Orbis: and IMF staff estimates.

1/ computed as the purchase of gross fixed assets in a given year divided by total net value of property, plant, and equipment in the preceding year; Indonesia includes 433 listed firms, Malaysia 882 listed firms, the Philippines 218 listed filrms; and China 5,688 listed firms.

Indonesia: Corporates EBITDA

(In percent, asset weighted average)

Sources: Orbis; and IMF staff estimates

FDI Regulatory Restrictiveness Index

(1=closed; 0=open)

Source: OECD.

Figure 2.Indonesia: Macro-Financial Developments

Figure 3.Indonesia: Recent Market Developments

Figure 4.Indonesia: Real Sector

Figure 5.Indonesia: External Sector

Figure 6.Indonesia: Fiscal Sector

Figure 7.Indonesia: Monetary Sector and Bank Liquidity Developments

Figure 8.Selected Emerging Market Economies: Financial Soundness Indicators, 2016:Q2

Figure 9.Financial Soundness Indicators by Size of Commercial Banks

Table 1.Indonesia: Selected Economic Indicators, 2012–17

Nominal GDP (2015): Rp 11,541 trillion or US$ 859 billion

Population (2015): 255.5 million

Main exports (percent of total, 2015): Oil and gas (12.3), coal (10.6), palm oil (10.2), textile & textile products (8.2)

GDP per capita (2015): US$3,362

Unemployment rate (August 2016): 5.6 percent

Poverty headcount ratio at national poverty line (2016): 10.9 percent of population

201220132014201520162017
Est.Latest proj.Latest outturnLatest proj.
Real GDP (percent change)6.05.65.04.85.05.0Q1-Q35.1
Domestic demand7.34.75.04.44.74.6Q1-Q35.1
Of which:
Private consumption 1/5.55.55.34.85.05.0Q1-Q35.1
Government consumption4.56.71.25.40.92.0Q1-Q34.5
Gross fixed investment9.15.04.65.14.64.9Q1-Q35.4
Change in stocks 2/0.8−0.60.4−0.50.20.0Q1-Q30.0
Net exports 2/−1.50.6−0.30.90.0−0.1Q1-Q30.1
Saving and investment (in percent of GDP)
Gross investment 3/35.133.834.634.635.035.0
Gross national saving32.430.631.532.533.033.0
Prices (12-month percent change)
Consumer prices (end period)3.78.18.43.43.22.6Jan.-Nov.4.5
Consumer prices (period average)4.06.46.46.43.53.6Jan.-Nov.4.4
Public finances (in percent of GDP)
Central government revenue15.515.114.713.112.78.7Jan.-Sept.12.5
Central government expenditure17.317.316.815.715.310.5Jan.-Sept.14.9
Of which: Energy subsidies3.63.23.21.00.80.6Jan.-Sept.0.6
Central government balance−1.8−2.2−2.1−2.6−2.7−1.8Jan.-Sept.−2.4
Primary balance−0.6−1.0−0.9−1.2−1.2−0.6Jan.-Sept.−0.8
Central government debt23.024.824.726.828.028.4
Money and credit (12-month percent change; end of period)
Rupiah M214.49.413.59.06.510.2Oct.8.5
Base money14.916.711.63.03.14.4Oct.9.0
Private Sector Credit22.320.011.810.35.96.3Oct.8.8
One-month interbank rate (period average)4.45.87.57.26.1Nov.
Balance of payments (in billions of U.S. dollars, unless otherwise indicated)
Current account balance−24.4−29.1−27.5−17.6−18.1−14.3Q1-Q3−19.9
In percent of GDP−2.7−3.2−3.1−2.0−2.0−2.1Q1-Q3−2.0
Trade balance8.75.87.013.315.110.4Q1-Q316.3
Of which: Oil and gas (net)−5.2−9.7−11.8−6.5−5.6−3.6Q1-Q3−6.4
Inward direct investment19.118.821.817.114.210.6Q1-Q317.5
Overall balance0.2−7.315.2−1.111.87.6Q1-Q35.1
Terms of trade, percent change (excluding oil)−3.1−3.4−3.0−12.31.16.3
Gross reserves
In billions of U.S. dollars (end period)112.899.4111.9105.9117.8111.5Nov.122.9
In months of prospective imports of goods and services6.45.98.18.18.47.9Nov.8.3
As a percent of short-term debt 4/206177189191217206Nov.231
Total external debt 5/
In billions of U.S. dollars252.4266.1293.3310.1317.3325.1
In percent of GDP27.529.132.936.134.132.3
Exchange rate
Rupiah per U.S. dollar (period average)9,37510,41411,86213,39113,305Jan.-Dec. 12
Rupiah per U.S. dollar (end of period)9,63812,17112,43513,78813,328Dec. 12
Memorandum items:
Jakarta Stock Exchange (12-month percentage change, composite index)12.9−1.022.3−12.115.6Dec. 12 (ytd)
Oil production (thousands of barrels per day)860830794800820815
Nominal GDP (in trillions of rupiah)8,6169,54610,56611,54112,40113,612
Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

Includes NPISH consumption.

Contribution to GDP growth (percentage points).

Includes changes in stocks.

Short-term debt on a remaining maturity basis.

Public and private external debt.

Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

Includes NPISH consumption.

Contribution to GDP growth (percentage points).

Includes changes in stocks.

Short-term debt on a remaining maturity basis.

Public and private external debt.

Table 2.Indonesia: Selected Vulnerability Indicators, 2012–16
20122013201420152016
Prel.Proj. or latestObservation
Key economic and market indicators
Real GDP growth (in percent)6.05.65.04.85.0Proj.
CPI inflation (in percent, end of period, e.o.p.)3.78.18.43.43.2Proj.
Short-term (ST) interest rate (in percent, e.o.p.) 1/4.87.66.68.66.1Nov. 2016
Ten-year government bond yield (in percent, e.o.p.)5.38.57.88.78.1Nov. 2016
Indonesia EMBI spread (basis points (bps), e.o.p.)179292266329229Nov. 2016
Exchange rate (rupiah per U.S. dollar, e.o.p.)9,63812,17112,43513,788
External sector
Current account balance (in percent of GDP)−2.7−3.2−3.1−2.0−2.0Proj.
Net FDI inflows (in percent of GDP)1.51.31.71.31.5Proj.
Exports of goods and nonfactor services (GNFS) (percentage change, in US$ terms)−0.9−2.8−3.0−14.2−3.1Proj.
Real effective exchange rate (e.o.p.; 2010=100)94.483.492.291.294.0Sept. 2016
Gross international reserves (in US$ billion)112.899.4111.9105.9117.8Proj.
In percent of ST debt at remaining maturity (RM)206.4176.6188.8190.9217.3Proj.
Total gross external debt (in percent of exports of GNFS)119.6129.8147.5181.7192.0Proj.
Gross external financing requirement (in US$ billion) 2/71.283.883.876.873.6Proj.
Public sector (PS) 3/
Overall balance (in percent of GDP)−1.8−2.2−2.1−2.6−2.7Proj.
Prim ary balance (in percent of GDP)−0.6−1.0−0.9−1.2−1.2Proj.
Gross PS financing requirement (in percent of GDP) 4/3.74.04.44.24.6Proj.
Public sector gross debt (PSGD) (in percent of GDP)23.024.824.726.828.0Proj.
Of which: Exposed to rollover risk (in percent of total PSGD) 5/6.97.07.66.67.6Proj.
Exposed to exchange rate risk (in percent of total PSGD) 6/44.546.743.343.840.3Proj.
Exposed to interest rate risk (in percent of total PSGD) 7/7.45.24.02.82.0Proj.
Financial sector (FS)
Capital to risk-weighted assets (in percent) 8/17.319.818.720.221.2Jun. 2016
Nonperforming loans (in percent of total loans)1.81.72.22.73.1Sept. 2016
Foreign currency deposits at commercial banks (in percent of total deposits)14.317.015.916.514.5Oct. 2016
Foreign exchange loans at commercial banks (in percent of total loans)15.016.515.714.413.0Oct. 2016
Government debt held by financial system (percent of total financial system assets)5.75.96.07.58.4Oct. 2016
Total credit outstanding of banking system (annual percentage change)23.121.411.610.17.4Oct. 2016
Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

One-month Jakarta Interbank offered rate.

Defined as current account deficit, plus amortization on medium - and long-term debt and short-term debt at end of previous period.

Public sector covers central government only.

Overall balance plus debt amortization.

Short-term debt and maturing medium- and long-term debt.

Debt in foreign currency or linked to the exchange rate.

Government securities at variable interest rates.

Includes capital charge for operational risk.

Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

One-month Jakarta Interbank offered rate.

Defined as current account deficit, plus amortization on medium - and long-term debt and short-term debt at end of previous period.

Public sector covers central government only.

Overall balance plus debt amortization.

Short-term debt and maturing medium- and long-term debt.

Debt in foreign currency or linked to the exchange rate.

Government securities at variable interest rates.

Includes capital charge for operational risk.

Table 3.Indonesia: Balance of Payments, 2012–17(In billions of U.S. dollar, unless otherwise indicated)
201220132014201520162017
Est.Proj.Proj.
Current account−24.4−29.1−27.5−17.6−18.1−19.9
Goods, net (trade balance)8.75.87.013.315.116.3
Exports, f.o.b.187.3182.1175.3148.4142.2151.9
Oil and gas35.633.628.816.412.614.9
Non-oil and gas 1/151.8148.5146.5131.9129.5137.0
Of which: Manufacturing112.2109.3115.4104.8102.7107.3
Palm oil17.716.517.515.413.113.4
Rubber products10.49.37.05.85.87.4
Other manufacturing84.183.591.083.583.886.5
Mining31.430.421.819.519.522.2
Imports, f.o.b.−178.7−176.3−168.3−135.1−127.1−135.6
Oil and gas−40.8−43.3−40.6−22.9−18.2−21.3
Non-oil and gas−137.9−133.0−127.7−112.2−108.9−114.2
Services, net−10.6−12.1−10.0−8.3−7.1−8.9
Income, net−26.6−27.1−29.7−28.1−31.0−32.5
Current transfers, net4.14.25.25.54.95.2
Capital and financial account24.922.044.916.830.325.0
Capital account0.10.00.00.00.00.0
Financial account24.921.944.916.830.225.0
Direct investment, net13.712.214.710.813.616.5
Abroad, net−5.4−6.6−7.1−6.3−0.5−0.9
In Indonesia (FDI), net19.118.821.817.114.217.5
Portfolio investment, net9.210.926.116.418.811.3
Assets, net−5.5−1.32.6−1.32.10.4
Liabilities14.712.123.517.716.710.9
Equity securities1.7−1.93.3−1.51.40.5
Debt securities13.014.020.219.215.310.4
Other investment1.9−0.84.3−10.5−2.2−2.9
Assets−5.4−3.4−3.4−11.85.30.3
Public sector0.00.00.00.0−0.30.0
Private sector−5.4−3.4−3.4−11.85.30.3
Liabilities7.32.67.71.4−7.5−3.2
Public sector2.5−1.4−4.2−0.5−2.3−1.3
Private sector4.84.011.91.8−5.2−1.9
Total0.5−7.117.4−0.812.15.1
Errors and omissions−0.3−0.2−2.2−0.30.00.0
Overall balance0.2−7.315.2−1.112.15.1
Valuation changes2.4−6.1−2.8−4.8−0.30.0
Change in reserve assets (- = increase)−2.713.4−12.55.9−11.8−5.1
Memorandum items:
Reserve assets position (eop)112.899.4111.9105.9117.8122.9
In months of prospective imports of goods and services6.45.98.18.18.48.3
In percent of short-term (ST) debt at remaining maturity (RM)206177189191217231
In percent of ST debt at RM plus the current account deficit135119146144159161
Current account (- deficit, percent of GDP)−2.7−3.2−3.1−2.0−2.0−2.0
Non-oil and gas exports, volume growth7.14.25.10.7−14.3−1.4
Non-oil and gas imports, volume growth17.1−1.2−0.82.2−0.62.5
Terms of trade, percent change (excluding oil)−3.1−3.4−3.0−12.31.16.3
Terms of trade, percent change (including oil)−3.1−3.7−2.2−0.63.92.7
Gross external financing requirement (in US$ billion) 2/71.283.883.876.873.674.1
Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

Includes “other exports” category.

Defined as current account deficit, plus amortization on medium- and long-term debt and short-term debt at end of previous period.

Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

Includes “other exports” category.

Defined as current account deficit, plus amortization on medium- and long-term debt and short-term debt at end of previous period.

Table 4.Indonesia: Medium-Term Macroeconomic Framework, 2014–21
20142015201620172018201920202021
Est.Proj.
Real GDP (percent change)5.04.85.05.15.35.45.55.5
Domestic demand5.04.44.75.15.25.45.45.4
Of which:
Private consumption 1/5.34.85.05.15.25.35.35.3
Gross fixed investment4.65.14.65.45.76.06.26.2
C hange in stocks 2/0.4−0.50.20.00.00.00.00.0
Net exports 2/−0.30.90.00.10.20.20.20.2
Statistical discrepancy 2/0.4−0.40.40.00.00.00.00.0
Output gap0.1−0.1−0.4−0.2−0.1−0.10.00.0
Saving and investment (in percent of GDP)
Gross investment 3/34.634.635.035.035.135.235.335.5
Gross national saving31.532.533.033.032.933.033.133.2
Foreign saving (external current account balance)3.12.02.02.02.12.22.22.3
Prices (12-month percent change)
Consumer prices (end period)8.43.43.24.54.44.24.04.0
Consumer prices (period average)6.46.43.54.44.54.34.14.0
Public finances (in percent of GDP)
General governemnt revenue16.514.914.514.314.214.214.214.3
General governemnt expenditure18.617.417.216.716.716.716.816.8
General government balance−2.1−2.5−2.7−2.4−2.5−2.5−2.5−2.5
General governemnt primary balance−0.9−1.1−1.2−0.8−0.8−0.8−0.8−0.8
General government debt24.726.828.028.428.729.229.229.4
Central government revenue14.713.112.712.512.412.412.412.5
Of which: Non-oil and gas tax revenues10.010.310.510.210.210.310.310.4
Central government expenditure16.815.715.314.914.914.915.015.0
Of which: Energy subsidies3.21.00.80.60.50.50.40.4
Development expenditure2.32.72.31.51.51.51.61.6
Central government balance−2.1−2.6−2.7−2.4−2.5−2.5−2.5−2.5
Balance of payments (in billions of U.S. dollars)
Current account balance−27.5−17.6−18.1−19.9−23.4−25.8−29.1−33.1
In percent of GDP−3.1−2.0−2.0−2.0−2.1−2.2−2.2−2.3
Trade balance7.013.315.116.317.518.018.518.3
In percent of GDP0.81.51.61.61.61.51.41.2
Of which: Oil and gas (net)−11.8−6.5−5.6−6.4−6.4−6.2−6.3−6.2
Service balance (in percent of GDP)−1.1−1.0−0.8−0.9−0.9−0.8−0.9−0.8
Overall balance15.2−1.111.85.14.75.26.85.8
Gross reserves
In billions of U.S. dollars (end period)111.9105.9117.8122.9127.6132.8139.6145.4
In months of prospective imports8.18.18.48.38.17.87.67.4
As a percent of short-term debt 4/188.8190.9217.3231.3244.5259.7279.2298.9
Total external debt
In billions of U.S. dollars293.3310.1317.3325.1337.7351.0364.7378.3
In percent of GDP32.936.134.132.330.629.327.725.8
Credit
Private Sector Credit11.810.35.98.89.610.511.512.6
Memorandum items:
Oil production (thousands of barrels per day)794800820815770740710710
Indonesian oil price (period average, in U.S. dollars per barrel)96.549.241.350.251.752.153.354.5
Nominal GDP (in trillions of rupiah)10,56611,54112,40113,61214,97116,45618,06919,820
Nominal GDP (in billions of U.S. dollars)891859
Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

Includes NPISH consumption.

Contribution to GDP growth.

Includes changes in stocks.

Short-term debt on a remaining maturity basis.

Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

Includes NPISH consumption.

Contribution to GDP growth.

Includes changes in stocks.

Short-term debt on a remaining maturity basis.

Table 5.Indonesia: Summary of Central Government Operations, 2012–17(In trillions of rupiah)
201220132014201520162017
Latest proj.Latest proj.Budget
Revenues and grants1,3381,4391,5501,5081,5811,7011,750
Of which: tax revenues9811,0771,1471,2401,3581,4411,499
Oil and gas revenues28929230412885119100
Tax revenues83898750464636
Nontax revenues20620421778407364
Non-oil and gas revenues1,0431,1401,2411,3681,4941,5811,649
Tax revenues8979891,0591,1911,3131,3951,463
Income tax382418459553679706752
Of which: tax amnesty1105
VAT338385409424424474494
Other178186192214209215217
Nontax revenues146151182177181186186
Grants67512211
Expenditure and net lending1,4911,6511,7771,8081,9132,0242,080
Current expenditure7908649588719091,0521,055
Personnel198222244281302345345
Subsidies346355392186162160160
Of which: energy subsidies306310342119957777
Fuel21221024061443232
Electricity9510010258514545
Interest101113133156187218221
Other145175189248257328329
Development expenditure221273245314297207260
Capital spending145181147217242148201
Social assistance spending 1/76929897556060
Transfers to local governments481513574623707765765
Of which: transfers for infrastructure 2/2631323988184184
Overall balance−153−212−227−300−332−323−330
Financing153212227300332323330
Net issuance of government securities160225274390400391400
Rupiah bond issuance227269353355458495
External bond issuance56598616010987
Amortization−123−103−165−124−168−191
Program loan (gross issuance)15181845361313
SOE recapitalization and land acquisition−65−75−55−55
Other−70−29−27−29
Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

Some social assistance spending was reclassified to other expenditure in 2016.

Special purpose transfers (DAK) for infrastructure and Village Fund transfers. Starting 2017, 25 percent of general transfer and revenue sharing is included.

Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

Some social assistance spending was reclassified to other expenditure in 2016.

Special purpose transfers (DAK) for infrastructure and Village Fund transfers. Starting 2017, 25 percent of general transfer and revenue sharing is included.

Table 6.Indonesia: Summary of Central Government Operations, 2012–17(In percent of GDP, unless otherwise indicated)
201220132014201520162017
Latest proj.Latest proj.Budget
Revenues and grants15.515.114.713.112.812.512.9
Of which: tax revenues11.411.310.910.711.010.611.0
Oil and gas revenues3.43.12.91.10.70.90.7
Tax revenues1.00.90.80.40.40.30.3
Nontax revenues2.42.12.10.70.30.50.5
Non-oil and gas revenues12.111.911.711.912.011.612.1
Tax revenues10.410.410.010.310.610.210.7
Income tax4.34.85.55.25.5
Of which: tax amnesty0.90.0
VAT3.93.73.43.53.6
Other1.81.91.71.61.6
Nontax revenues1.71.61.71.51.51.41.4
Grants0.10.10.00.10.00.00.0
Expenditure and net lending17.317.316.815.715.414.915.3
Current expenditure9.29.19.17.57.37.77.8
Personnel2.32.32.32.42.42.52.5
Subsidies4.03.73.71.61.31.21.2
Of which: energy subsidies3.63.23.21.00.80.60.6
Fuel2.52.22.30.50.40.20.2
Electricity1.11.01.00.50.40.30.3
Interest1.21.21.31.41.51.61.6
Other1.71.81.82.12.12.42.4
Development expenditure2.62.92.32.72.41.51.9
Capital spending1.71.91.41.92.01.11.5
Social assistance spending 1/0.91.00.90.80.40.40.4
Transfers to local governments5.65.45.45.45.75.65.6
Of which: transfers for infrastructure 2/0.30.30.30.30.71.31.3
Overall balance−1.8−2.2−2.1−2.6−2.7−2.4−2.4
Financing1.82.22.12.62.72.42.4
Memorandum items:
Net issuance of government securities (in trillions of rupiah)160225274390400391400
SOE recapitalization and land acquisition (in trillions of rupiah)65755555
Primary balance (percent of GDP)−0.6−1.0−0.9−1.2−1.2−0.8−0.8
Cyclically-adjusted primary balance (percent of GDP)−0.6−1.1−0.9−1.2−1.1−0.7
Capital spending and transfers (percent of GDP) 3/2.02.21.72.22.62.42.8
General government debt (percent of GDP)23.024.824.726.828.028.4
Indonesian crude oil price (US$ per barrel)112.7105.896.549.241.350.245.0
Oil production (thousands of barrels per day)860830794800820815815
Nominal GDP (in trillions of rupiah)8,6169,54610,56611,54112,40113,61213,612
Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

Some social assistance spending was reclassified to other expenditure in 2016.

Special purpose transfers (DAK) for infrastructure and Village Fund transfers. Starting 2017, 25 percent of general transfer and revenue sharing is included.

Sum of capital spending, special purpose transfers (DAK) for infrastructure and Village Fund transfers.

Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.

Some social assistance spending was reclassified to other expenditure in 2016.

Special purpose transfers (DAK) for infrastructure and Village Fund transfers. Starting 2017, 25 percent of general transfer and revenue sharing is included.

Sum of capital spending, special purpose transfers (DAK) for infrastructure and Village Fund transfers.

Table 7.Indonesia: Summary of General Government Operations, 2012–16
20122013201420152016
Prel. est.Latest proj.
(In trillions of rupiah)
Total revenue and grants1,4861,6101,7401,7151,804
Taxes1,0751,1921,2741,3791,507
Taxes on income, profits, and capital gains465506546602725
Taxes on goods and services433493527568562
VAT and luxury taxes338385409424424
Excise95108118145139
Taxes on international trade and transactions5047443533
Taxes not elsewhere classified127145156173186
Grants675122
Other revenue406411461324295
Total expenditure1,6231,8221,9672,0022,135
Expense1,3431,4811,6421,5921,636
Of which:
Compensation of employees465511564631678
Purchases/use of goods and services141170177233242
Interest101113133156187
Energy subsidies30631034211995
Social benefit8810311011274
Net acquisition of nonfinancial assets280341324410499
Net lending/borrowing−137−212−227−288−332
Net acquisition of financial assets−173512672
Of which: policy lending44300
Net incurrence of liabilities136219262414403
(In percent of GDP)
Total revenue and grants17.216.916.514.914.5
Taxes12.512.512.111.912.2
Taxes on income, profits, and capital gains5.45.35.25.25.8
Taxes on goods and services5.05.25.04.94.5
VAT and luxury taxes3.94.03.93.73.4
Excise1.11.11.11.31.1
Taxes on international trade and transactions0.60.50.40.30.3
Taxes not elsewhere classified1.51.51.51.51.5
Grants0.10.10.00.10.0
Other revenue4.74.34.42.82.4
Total expenditure18.819.118.617.417.2
Expense15.615.515.513.813.2
Of which:
Compensation of employees5.45.45.35.55.5
Purchases/use of goods and services1.61.81.72.02.0
Interest1.21.21.31.41.5
Energy subsidies3.63.23.21.00.8
Social benefit1.01.11.01.00.6
Net acquisition of nonfinancial assets3.23.63.13.64.0
Net lending/borrowing−1.6−2.2−2.1−2.5−2.7
Net acquisition of financial assets0.00.10.31.10.6
Of which: policy lending0.00.00.00.00.0
Net incurrence of liabilities1.62.32.53.63.3
Memorandum items:
General government debt (In percent of GDP)23.024.824.726.828.0
Nominal GDP (In trillions of rupiah)8,6169,54610,56611,54112,401
Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.
Sources: Data provided by the Indonesian authorities; and IMF staff estimates and projections.
Table 8.Indonesia: Monetary Survey, 2012–2017(In trillions of rupiah, unless otherwise indicated, end of period)
201220132014201520162017
Est.Proj.Proj.
Bank Indonesia
Net foreign assets1,0561,1661,3491,3851,5351,581
Net domestic assets−351−343−431−439−560−518
Monetary base7058239189469761,063
Monetary survey
Net foreign assets9651,0081,1081,1391,0041,044
Net domestic assets2,3432,7233,0723,4103,8044,139
Net claims on central government471493625571796812
Claims on other nonfinancial public sector161211241224233244
Private sector credit2,5813,0983,4653,8224,0494,405
Other items, net−871−1,079−1,258−1,208−1,273−1,323
Broad money 1/3,3083,7304,1734,5494,8085,182
Rupiah M22,8743,1443,5683,8894,1424,494
Currency in circulation362400529587645710
Deposits2,5122,7443,1153,4203,6423,951
Foreign currency deposits423564592646651673
Annual percentage change:
Broad money15.012.811.99.05.77.8
Rupiah M214.49.413.59.06.58.5
Monetary base14.916.711.63.03.19.0
Private sector credit22.320.011.810.35.98.8
Memorandum items:
Money multiplier (rupiah M2)4.13.83.94.14.24.2
Base money velocity 2/12.211.611.512.212.912.9
Rupiah M2 velocity 2/3.03.03.03.03.03.1
Credit by borrower (annual percentage change)
Corporate27.925.812.111.8
Non-corporate18.817.010.98.4
Credit by sector (annual percentage change)
Agriculture29.423.919.119.8
Mining18.922.811.7−8.0
Manufacturing29.529.314.014.3
Services22.823.09.59.3
Household19.914.111.89.1
Sources: Bank Indonesia; and IMF, International Financial Statistics; and staff projections.

Includes securities classified as broad money.

Calculated using end-period quarterly GDP, annualized.

Sources: Bank Indonesia; and IMF, International Financial Statistics; and staff projections.

Includes securities classified as broad money.

Calculated using end-period quarterly GDP, annualized.

Table 9.Indonesia: Financial Soundness Indicators, 2012–2016(In percent; unless otherwise indicated)
20122013201420152016:Q2
Depository institutions
Capital adequacy
Regulatory capital to risk-weighted assets17.319.818.721.321.2
Regulatory Tier-1 capital to risk-weighted assets15.718.317.818.819.8
Capital to assets12.212.512.813.614.7
Nonperforming loans, net of provisions to capital4.74.65.55.96.6
Large exposures to capital0.50.81.00.40.6
Net open position in foreign exchange to capital3.31.72.40.91.8
Gross asset position in financial derivatives to capital1.64.22.42.51.9
Gross liability position in financial derivatives to capital1.54.92.63.32.1
Asset quality
Nonperforming loans to total gross loans1.81.72.12.43.0
Specific provisions to nonperforming loans52.050.946.851.551.8
Earning and profitability
Return on assets3.13.12.72.22.2
Return on equity25.324.521.317.315.4
Interest margin to gross income65.068.869.070.368.4
Trading income to gross income3.23.22.72.84.0
Noninterest expenses to gross income48.849.250.350.046.3
Personnel expenses to noninterest expenses40.541.340.440.744.4
Liquidity and funding
Liquid assets to total assets25.723.522.923.922.1
Liquid assets to short-term liabilities36.430.533.335.032.6
Non-interbank loans to customer deposits93.299.699.2100.798.2
Sensitivity to market risk
Foreign currency denominated loans to total loans15.217.016.315.614.2
Foreign currency denominated liabilities to total liabilities18.624.422.924.120.5
Nonfinancial corporates
Leverage
Total liabilities to total assets44.944.944.944.947.2
Profitability 1/
Return on assets17.014.814.113.914.2
Liquidity 1/
Current assets to current liabilities212.1249.0280.1261.9261.9
Liquid assets to current liabilities124.6171.8204.7125.3119.1
Debt servicing capacity
Companies with negative equity (in percent of total assets)1.45.75.41.20.7
Companies with financial distress (in percent of total debt) 2/5.15.05.54.23.8
Households
Household debt (in percent of GDP)16.417.117.116.816.8
Real estate markets
Residential real estate prices (year-on-year percentage change)6.811.56.34.63.4
Residential real estate loans to total loans7.88.08.28.28.3
Commercial real estate loans to total loans6.06.36.87.48.0
Sources: Bloomberg Data LP.; IMF, Financial Soundness Indicators ; Bank for International Settlements; and IMF staff estimates.

Based on capitalization-weighted average of listed companies.

Companies with financial distress are those with earnings before interest, tax, depreciation and amortization (EBIT) less than interest payments.

Sources: Bloomberg Data LP.; IMF, Financial Soundness Indicators ; Bank for International Settlements; and IMF staff estimates.

Based on capitalization-weighted average of listed companies.

Companies with financial distress are those with earnings before interest, tax, depreciation and amortization (EBIT) less than interest payments.

Table 10.Indonesia: Key Poverty and Social Indicators
Population258.7millions2016
Life expectancy at birth, total68.9years(2014)
Mortality rate, under 527.2per 1,000 live births(2015)
Secondary school enrollment:
Total82.5percent(2014)
Female82.2percent(2014)
Male82.8percent(2014)
GINI index41(2013)
Income share held by highest 20%47.4percent(2013)
Income share held by lowest 20%7.2percent(2013)
Poverty rate11.3percent(2014)
CO2 emissions1.9metric tons per capita(2013)
Population with access to improved water87.4percent(2015)
Population with access to sanitation60.8percent(2015)
Human development index0.68(2014)
Rank110
Gender inequality index0.49(2014)
Rank110
Sources: World Bank; and United Nations Development Programme.
Sources: World Bank; and United Nations Development Programme.
Appendix I. Indonesia—Risk Assessment Matrix 1/
Source of RisksRelative LikelihoodExpected ImpactsRecommended Policy Responses
GlobalTighter and more volatile global financial conditions:

Sharp rise in risk premia with flight to safety: Investors withdraw from specific risk asset classes as they reassess underlying economic and financial risks in large economies, or respond to unanticipated Fed tightening, and increases in U.S. term premia, with poor market liquidity amplifying volatility. Safe haven currencies surge—especially the U.S. dollar—creating balance sheet strains for FX debtors.
MediumHighMaintain exchange rate flexibility and market-determined bond yields. Preserve a sound fiscal position, while allowing automatic stabilizers to work in case of an extreme economic slowdown and using contingent financing if market access is restricted. Monetary policy tightening would need to be combined with targeted measures to alleviate funding pressures faced by some segments of the banking system and preserve financial stability to avoid reinforcing financial stresses brought on by market volatility and capital outflows. These should be combined with heightened monitoring of corporate sector vulnerabilities and firm implementation of measures to encourage hedging of corporate external debt. Maintain vigilance on exchange rate pass-through to inflation.
Combined with uncertainties regarding the policies of the incoming U.S. administration, portfolio and other capital inflows could be curtailed by weaker investor appetite for emerging market (EM) assets. Tighter funding conditions put additional pressure on the balance of payments (BOP), government financing, and the financial and corporate sectors. Bank funding could become constrained, raising domestic borrowing costs. Rollover risks rise for corporate external debt. A severe crunch in credit growth or spike in lending rates could hit corporate and household balance sheets (including property) and reinforce negative growth dynamics through asset price corrections and confidence losses.
Significant China slowdown and its spillovers: A loss of investor confidence, disorderly corporate defaults, a sharp fall in asset prices, and a quicker fading of the stimulus impact. Weak Chinese domestic demand further suppresses commodity prices, roils global financial markets, and reduces global growth.Low in the short term/ Medium thereafterHighMaintain exchange rate flexibility to help reduce the current account deficit and limit FX reserve losses. More stringent fiscal measures to contain the budget deficit might be necessary if the slowdown in EMs were accompanied by protracted financial market volatility that restricts funding. Accelerate infrastructure spending and structural reforms to boost productivity and employment in non-resource sectors, and export diversification.
Lower export volume and prices (particularly those of commodities) could widen the current account deficit, putting FX reserves and the exchange rate under pressure. The fiscal balance would deteriorate on weaker resource revenues and knock-on effects to domestic demand, with the financial sector exposed to losses from loans to the commodity sector and a broader economic slowdown. Corporate profits would decline from weak commodity related activities.
Persistently lower energy prices, triggered by supply factors reversing more gradually than expected.Low into the medium termMediumImplement upfront revenue reforms to raise non-oil revenues, and accelerate structural reforms to boost private investment and productivity.
Fiscal position would weaken further on lower oil related revenues, with adverse spillovers to growth if space for public investment is curbed.
Rise in populism and nationalism in large economies, leading to rising trade protectionism, and weighing on global growth.HighLow-MediumResist protectionism while deepening regional trade integration and seek new opportunities to enhance position in global value chains. Strengthen domestic drivers of growth, notably private investment.
Trade protectionism and reversal of globalization affects external demand, while suppressing FDI flows.
DomesticRevenue shortfalls constraining fiscal space, with adverse spillovers to growth.

To keep the budget deficit within the fiscal rule amidst deepening revenue shortfalls and spending trends, large ad-hoc cuts in public spending are undertaken.
MediumMediumImplement growth-friendly revenue measures to raise tax collection. Prioritize expenditures to growth-critical areas and minimize disruptions to project execution. Accelerate structural reforms to the trade and investment regime to boost productivity, private investment, and exports. Assuming inflation is well anchored and the external sector remains stable, ease monetary policy. Supervisory actions to preserve banking system soundness and close monitoring of at-risk corporate borrowers.
The fiscal impulse supporting growth over the past year would reverse abruptly, precipitating a growth slowdown which could damage investor confidence, curb capital inflows, raise bank NPLs, increase the country risk premium, and raise costs for corporate external borrowing. The consequent layoffs could further weaken domestic demand.
Improved sentiment on reforms bolster private investment. This is catalyzed by progress on structural reforms, the strengthening of the economic cabinet, and stronger-than-expected performance of the tax amnesty. However, domestic political risks could intensify in the run-up to the Jakarta election, making reforms more difficult.MediumMediumReinforce the positive reform momentum by implementing a coherent inclusive growth-enhancing fiscal framework within a medium-term strategy, deepen investment climate reforms, and accelerate trade integration and labor market reforms.
Stronger business and investor confidence translates into higher private investment activity. Economic growth outperforms expectations and reinforces the favorable dynamics.
Appendix II. Indonesia—External Sector Report
IndonesiaOverall Assessment
Foreign asset and liability position and trajectoryBackground. At end-June 2016, Indonesia’s net international investment position (NIIP) stood at -46 percent of GDP, compared to -43¼ percent of GDP at end-2015. A majority of the widening in the first half of 2016 was due to strong net portfolio inflows (mainly government debt). At end-June 2016, gross external liabilities stood at 71 percent of GDP. Indonesia’s gross external debt was moderate at 35¾ percent of GDP, with about 6½ percent of GDP denominated in rupiah at end-September 2016.

Assessment. The level and composition of the NIIP and gross external debt indicate that Indonesia’s external position is sustainable, but nonresident holdings of rupiah denominated government bonds, with a share of 37 percent at end-November, could be affected by global volatility. Private external debt growth is expected to slow on the implementation of BI’s FX hedging regulations and expected tightening of global financial conditions.
Overall Assessment

In 2016, Indonesia’s external position is assessed to be broadly consistent with medium-term fundamentals and desirable policy settings. Lower commodity prices and weak trading partner demand for commodity exports have been compensated by import compression. External financing appears sustainable, but large share of new borrowing makes it vulnerable to domestic and external shocks.

Potential Policy Responses

Monetary policy should continue to focus on containing inflation within Bank Indonesia’s target band. Fiscal policy can help support external adjustment and contain vulnerability to funding pressures by aiming for a small primary deficit over the medium term. This could be led by reforms aimed at mobilizing revenues in a growth-friendly way to provide space for health and infrastructure spending to help ease supply bottlenecks and bolster exports over the medium term. Continued flexibility of the exchange rate and use of market-determined interest rates would also help facilitate adjustment and absorb shocks. Easing trade and investment restrictions, deepening financial markets, and improving labor markets would help strengthen overall competitiveness over the medium term.
Current accountBackground. Indonesia’s current account deficit is projected at 2.0 percent of GDP in 2016, as the continued decline in commodity exports could be largely compensated by less imports due to low oil prices and cyclical weakness in investment. The contraction of exports and imports is moderating, as commodity prices have bottomed out. Over the medium term, a moderate increase in the current account deficit is expected from a rise in capital goods and raw material imports tied to infrastructure investment and a pickup in domestic demand. A gradual increase in manufacturing exports, stronger demand from trading partners, and relatively low projected world oil prices should help limit the increase in the CA deficit. External adjustment would be supported over time by continued exchange rate flexibility and a prudent monetary and fiscal stance, in keeping with a moderate increase in domestic saving.

Assessment. The EBA CA model suggests a gap of 0.2 percent of GDP for 2016 (based on an estimated cyclically-adjusted CA balance of -1.4 percent of GDP and a norm of -1.6 percent of GDP), same as the gap of 0.2 percent for 2015. Taking into account the uncertainties of the EBA-regression estimates and Indonesia’s investment needs, staff assesses that a norm of -0.6 percent to -2.6 percent of GDP is appropriate.1/ This suggests a CA gap range of about -0.8 percent to 1.2 percent of GDP for 2016, which reflects domestic gaps including in social spending and policy gaps in partner countries (particularly fiscal deficits).
Real exchange rateBackground. Compared to the 2015 average, the REER appreciated by 3.1 percent in the first ten months of 2016.

Assessment. EBA index and level REER results suggest the REER gap to be about -3.4 percent to 3.2 percent, respectively, in line with staff’s REER gap assessment in the range of -6 percent to 4 percent in 2016 based on the CA assessment.
Capital and financial accounts: flows and policy measuresBackground. Indonesia’s gross external financing requirement is expected to be about 9.2 percent of GDP in 2016, with amortization at about 6 percent of GDP. Net FDI and new borrowing are projected at 1.5 percent and 7.6 percent of GDP, respectively.

Assessment. Net and gross financial flows have been steady since the global financial crisis despite some short periods of volatility. The narrower current account deficit and strengthened policy framework including exchange rate flexibility since mid-2013 have also helped reduce capital flow volatility. For 2016, financial flows have been supported by attractive bond yields and assets repatriation related to the tax amnesty but could become weaker or reverse in the event of large domestic or external shocks as seen in November 2016. Continued strong policies focused on strengthening the fiscal position, keeping inflation in check, and easing supply bottlenecks would help sustain capital inflows in the medium term.
FX intervention and reserves levelBackground. Since mid-2013, Indonesia has had a more flexible exchange rate policy framework. Its floating regime has better facilitated adjustments in exchange rates to market conditions. At end-November 2016, reserves were US$111.5 billion (equal to 122 percent of IMF’s reserve adequacy metric—and about 8 months of prospective imports of goods and services). In addition, the authorities have in place contingencies and swap lines amounting to about US$83 billion.

Assessment. Volatile capital flows could cause reserves to decline significantly. While the composite metric may not adequately account for commodity price volatility, the current level of reserves should be sufficient to absorb most shocks, with predetermined drains also manageable. Intervention should aim primarily at preventing disorderly market conditions, while allowing the exchange rate to adjust to external shocks.
Technical Background Notes1/ A range of +/- 1 percent is added to reflect the fact that the EBA-regression estimates are subject to high uncertainty given the large residual.
Appendix III. Indonesia—Debt Sustainability Analysis

Indonesia’s external debt remains at a moderate level and is projected to be sustainable over the medium-term. Growth in private external debt is expected to remain slow, partly contained by the BI’s FX hedging regulations and less favorable global financial conditions. Public debt remains low, but contingent liabilities arising from borrowing by state-owned enterprises (SOEs) and public-private partnerships (PPPs) in infrastructure development may pose some fiscal risk, which should continue to be carefully monitored. Reliance on foreign investors remains sizable, which could leave Indonesia susceptible to external shocks and funding stops.

External Debt Sustainability

Indonesia’s external debt-to-GDP ratio has stabilized after a steady increase in recent years, and total external debt remains at a moderate level. As a share of GDP, external debt was 36 percent at end-2015, up from 25 percent at end-2011, reflecting a rise in general government borrowing, through internationally issued bonds and holdings of nonresidents of domestic bonds, and private external borrowing, mainly through loans and debt securities, including by SOEs. As growth in external borrowing has slowed and pressures on the exchange rate have reduced, external debt is expected to decline to 34 percent of GDP at end-2016 (Figure 1 and Table 1).

Figure 1.Indonesia: External Debt and Debt Service

Table 1.Indonesia: External Debt Sustainability Framework, 2011-2021(In percent of GDP, unless otherwise indicated)
ActualProjections
20112012201320142015201620172018201920202021Debt-stabilizing non-interest current account 6/
1Baseline: External debt25.227.529.132.936.134.132.330.629.327.725.8−3.9
2Change in external debt−1.62.21.63.83.2−2.0−1.8−1.7−1.3−1.6−1.9
3Identified external debt-creating flows (4+8+9)−5.50.11.91.51.7−1.3−1.3−1.2−1.2−1.2−1.1
4Current account deficit, excluding interest payments−0.72.12.62.41.21.01.01.21.31.41.5
5Deficit in balance of goods and services−45.0−46.1−45.5−45.0−39.1−34.7−34.2−32.9−32.3−31.5−30.4
6Exports23.923.022.422.319.917.817.516.816.516.015.4
7Imports−21.2−23.2−23.1−22.7−19.3−16.9−16.7−16.1−15.8−15.5−15.0
8Net nondebt creating capital inflows (negative)−1.3−1.7−1.1−2.0−1.1−1.6−1.7−1.8−1.9−1.9−2.0
9Automatic debt dynamics 1/−3.5−0.30.41.11.6−0.7−0.7−0.7−0.7−0.7−0.6
10Contribution from nominal interest rate0.50.60.60.70.90.90.90.90.80.80.7
11Contribution from real GDP growth−1.4−1.5−1.5−1.5−1.6−1.7−1.6−1.6−1.5−1.5−1.4
12Contribution from price and exchange rate changes 2/−2.60.61.31.92.3&&&&&&
13Residual, including change in gross foreign assets (2-3) 3/3.92.1−0.22.41.5−0.6−0.5−0.4−0.1−0.4−0.7
External debt-to-exports ratio (in percent)105.8119.6129.8147.5181.7192.0185.0182.2177.8172.6167.2
Gross external financing need (in billions of U.S. dollars) 4/41.271.283.883.876.873.674.176.578.080.383.1
In percent of GDP4.67.79.29.48.97.97.46.96.56.15.7
Scenario with key variables at their historical averages 5/10-Year10-Year34.130.427.324.421.719.1−2.6
HistoricalStandard
Key Macroeconomic Assumptions Underlying BaselineAverageDeviation
Real GDP growth (in percent)6.26.05.65.04.85.80.85.05.15.35.45.55.5
GDP deflator in U.S. dollars (change in percent)11.3−2.9−5.7−7.3−8.05.211.73.13.14.03.14.45.5
Nominal external interest rate (in percent)2.22.32.02.42.62.80.72.83.03.03.03.03.0
Growth of exports (U.S. dollar terms, in percent)27.8−0.9−2.8−3.0−14.26.415.7−3.16.35.56.57.07.1
Growth of imports (U.S. dollar terms, in percent)30.112.7−0.8−4.5−18.07.819.8−5.07.05.56.77.77.8
Current account balance, excluding interest payments0.7−2.1−2.6−2.4−1.20.32.3−1.0−1.0−1.2−1.3−1.4−1.5
Net nondebt creating capital inflows1.31.71.12.01.11.20.51.61.71.81.91.92.0

Derived as [r - g - r(1+g) + ea(1+r)]/(1+g + r+gr) times previous period debt stock, with r = nominal effective interest rate on external debt; r = change in domestic GDP deflator in U.S. dollar terms, g = real GDP growth rate, e = nominal appreciation (increase in dollar value of domestic currency), and a = share of domestic-currency denominated debt in total external debt.

The contribution from price and exchange rate changes is defined as [-r(1+g) + ea(1+r)]/(1+g + r+gr) times previous period debt stock. r increases with an appreciating domestic currency (e > 0) and rising inflation (based on GDP deflator).

For projection, line includes the impact of price and exchange rate changes.

Defined as current account deficit, plus amortization on medium- and long-term debt, plus short-term debt at end of previous period.

The key variables include real GDP growth; nominal interest rate; dollar deflator growth; and both non-interest current account and non-debt inflows in percent of GDP.

Long-run, constant balance that stabilizes the debt ratio assuming that key variables (real GDP growth, nominal interest rate, dollar deflator growth, and non-debt inflows in percent of GDP) remain at their levels of the last projection year.

Derived as [r - g - r(1+g) + ea(1+r)]/(1+g + r+gr) times previous period debt stock, with r = nominal effective interest rate on external debt; r = change in domestic GDP deflator in U.S. dollar terms, g = real GDP growth rate, e = nominal appreciation (increase in dollar value of domestic currency), and a = share of domestic-currency denominated debt in total external debt.

The contribution from price and exchange rate changes is defined as [-r(1+g) + ea(1+r)]/(1+g + r+gr) times previous period debt stock. r increases with an appreciating domestic currency (e > 0) and rising inflation (based on GDP deflator).

For projection, line includes the impact of price and exchange rate changes.

Defined as current account deficit, plus amortization on medium- and long-term debt, plus short-term debt at end of previous period.

The key variables include real GDP growth; nominal interest rate; dollar deflator growth; and both non-interest current account and non-debt inflows in percent of GDP.

Long-run, constant balance that stabilizes the debt ratio assuming that key variables (real GDP growth, nominal interest rate, dollar deflator growth, and non-debt inflows in percent of GDP) remain at their levels of the last projection year.

Looking ahead, the external debt is projected to gradually decline in the medium term. Under the baseline, debt would decline to 25¾percent by end-2021 in line with favorable real GDP growth and a slower buildup in nonbank private sector debt due to BI’s FX hedging requirements and less favorable global financial conditions. Public external debt is expected to remain at low levels, as external borrowing of the public sector is tightly regulated by an inter-ministerial committee. Real GDP growth is projected to average about 5½ percent over the medium term.

As in the last Article IV, external sustainability is robust to interest rate and GDP shocks, but is more sensitive to current account and exchange rate shocks (Figure 2). A further deterioration in the current account balance from the current level would cause the external debt ratio to rise moderately (a one-standard deviation shock would raise the external debt to GDP ratio to 30¾ percent by 2021). Exchange rate depreciation would have the largest impact—a 30 percent depreciation in 2017 would raise the external debt-to-GDP ratio to about 46¼ percent in 2017 followed by a gradual decline to 37 percent of GDP by 2021.

Figure 2.Indonesia: External Debt Sustainability: Bound Tests 1/2/

(External debt in percent of GDP)

Sources: International Monetary Fund, Country desk data; and staff estimates.

1/ Shaded areas represent actual data, Individual shocks are permanent one-half standard deviation shocks, Figures in the boxes represent average projections for the respective variables in the baseline and scenario being presented. Ten-year historical average for the variable is also shown.

2/ For historical scenarios, the historical averages are calculated over theten-year period, and the information is used to project debt dynamicsfive years ahead.

3/Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and current account balance.

4/ One-time real depreciation of 30 percent occurs in 2017.

Public Debt Sustainability

Public sector debt remains low in Indonesia. General government debt as a percent of GDP declined steadily from 87 percent in 2000 to 27 percent in 2015, owing to a prudent fiscal stance, which has been anchored by the fiscal rule since 2003. The rule caps the annual general government deficit at 3 percent of GDP. The debt dynamics have been also favorable, with strong GDP growth and moderate real interest rates. In 2016, the debt-to-GDP ratio is estimated to increase to 28 percent of GDP (from 26.8 percent of GDP in 2015), reflecting slightly larger primary deficit than in the past and higher real interest rate. At the same time, foreign-currency denominated debt has fallen to less than half of total public sector debt, as issuance in the domestic rupiah bond market has grown and attracted strong foreign interests. Notwithstanding, dependence on foreign investors remains sizable, with nonresidents holding about 60 percent of general government debt. Moreover, the share of foreign ownership of rupiah-denominated government bonds rose from about 20 percent in 2009 to about 37 percent as of end-November 2016.

Under the baseline scenario, public sector debt is expected to increase gradually over the medium term (Figure 3). The baseline envisages the general government deficit to remain constant at 2.5 percent of GDP over the medium term, resulting in the primary deficit at ¾ percent of GDP through 2021. Favorable debt dynamics, with a negative interest rate-growth differential (about 5 percent over the medium term), would limit the increase in the debt-to-GDP ratio, which is expected to reach 29.4 percent by 2021. Gross financing needs are also expected to remain at around 5 percent of GDP over the medium term.

Figure 3.Indonesia: Public Sector Debt Sustainability Analysis (DSA)—Baseline Scenario

(In percent of GDP unless otherwise indicated)

Source: IMF staff.

1/ Public sector is defined as general government.

2/ Based on available data.

3/ EMBIG.

4/ Defined as interest payments divided by debt stock (excluding guarantees) at the end of previous year.

5/ Derived as [(r − π(1 + g) − g + ae(1 + r)]/(1 +g+π+gπ)) times previous period debt ratio, with r = interest rate: π = growth rate of GDP deflator; g = real GDP growth rate; a = share of foreign-currency denominated debt; and e = nominal exchange rate depreciation (measured by increase in local currency value of U.S. dollar).

6/ The real interest rate contribution is derived from the numerator in footnote 5 as r − π (1 + g) and the real growth contribution as −g.

7/ The exchange rate contribution is derived from the numerator in footnote 5 as ae(1+ r).

8/ Includes asset changes and interest revenues (if any). For projections, includes exchange rate changes during the projection period.

9/ Assumes that key variables {real GDP growth, real interest rate, and other identified debt-creating flows) remain at the level of the last projection year.

Public debt dynamics are robust to both standard shocks and stress tests (Figures 4 and 5). Even under the most severe scenario with a combined macro-fiscal shock, total government debt would stabilize at 35 percent of GDP or 250 percent of revenue, with gross financing needs below 7 percent of GDP. Nevertheless, fiscal risks, in particular those arising from expanding balance sheets of key SOEs and PPPs, will need to be managed carefully. These modalities of investment are tasked with the bulk of infrastructure development, and strengthening public investment management will limit contingent liabilities arising from such entities and activities.

Figure 4.Indonesia: Public DSA—Composition of Public Debt and Alternative Scenarios

Source: IMF staff.

Figure 5.Indonesia: Public DSA—Stress Tests

Source: IMF staff.

For further information, see accompanying selected issues paper on “Capital Inflows to Indonesia Since the Global Financial Crisis.”

The tax amnesty program, which runs from July 2016 to March 2017, aims at boosting tax revenues, repatriating capital held by Indonesians abroad, and improving relations of taxpayers with the tax office.

For further information, see the accompanying selected issues on “Deepening the Growth-Enhancing Fiscal Strategy.”

IMF, 2015, “Fiscal Policy and Long-Term Growth,” IMF Policy Paper (Washington).

For further information, see the accompanying selected issues on “International Tax Reform in Indonesia.”

For further information, see the accompanying selected issues on “Reforming the Social Safety Net.”

The Financial Sector Assessment Program (FSAP) Report will be discussed separately at the Board later in 2017.

NPLs rose to 3.1 percent of total loans in September 2016 (end-2015: 2.4 percent), SMLs at 5.4 percent (end-2015: 4.9 percent); and the share of restructured loans in total loans more than doubled to 5.1 percent between April 2015 and September 2016.

The hedging regulations consist of (i) the minimum hedging ratio, which requires 25 percent of the net foreign currency liabilities with a maturity period up to three months, and those that mature between three and six months; (ii) the minimum liquidity ratio, requiring 70 percent of short-term foreign currency assets and short-term foreign currency liabilities; and (iii) a credit rating of no less than BB or equivalent issued by an authorized rating agency.

The tightening in 2012–13 aimed to address systemic financial stability risks from rapid credit growth, which peaked at almost 30 percent in 2012.

This is the second round of unwinding since 2015, and in order to maintain prudence and macro-financial stability, the relaxation is only applied to banks with NPL ratios under 5 percent.

Current supervisory guidance includes on deposit rate caps for large banks, informal guidance for single-digit lending rates, and maximum interest rates allowed for guaranteed deposits.

In 2015, a minimum wage formula for provinces was established, which is defined as Minimum Wage t+1 = Minimum Wage t × (1 + National Inflation Rate t + National GDP Growth Rate t)

For further information, see the accompanying selected issues on “Drivers for Private investment in Indonesia.”

The Risk Assessment Matrix (RAM) shows events that could materially alter the baseline path (the scenario most likely to materialize in the view of IMF staff). The relative likelihood of risks listed is the staff’s subjective assessment of the risks surrounding the baseline (“low” is meant to indicate a probability below 10 percent, “medium” a probability between 10 percent and 30 percent, and “high” a probability between 30 percent and 50 percent). The RAM reflects staff views on the source of risks and overall level of concern as of the time of discussions with the authorities. Non-mutually exclusive risks may interact and materialize jointly. “Short term” and “medium term” are meant to indicate that the risk could materialize within 1 year and 3 years, respectively.

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