TCS Daily

A Bomb and a Wake-Up Call

By Rowan Callick - September 27, 2004 12:00 AM

The September 9 bomb attack on the Australian embassy in Jakarta, killing ten Indonesians, has blown a gaping hole in Indonesia's already stuttering economy.

Indonesia had begun to celebrate its trouble-free parliamentary and presidential elections this year as signs of maturity and security, with the sharemarket recording solid gains until the latest bombing.

The blast not only undermines hopes that Indonesia's consumption revival -- led by rising spending on homes and cars by the country's 20 million middle class -- can broaden into a more general recovery, but it could also damage that crucial middle-class sense of confidence.

The economy grew at 4.1 per cent in 2003. In the second quarter of 2004, Indonesia grew at 4.3 per cent, the lowest rate of Asia's 12 biggest countries. But it needs to step up to 6 or 7 per cent if it is to absorb the 2.5 million young people joining the labour market annually, let alone the 10.5 million already unemployed. This requires an estimated $50 billion worth of new investment next year, and more in the ensuing years, but Indonesia has been suffering net divestment. This is not a concern of Jemaah Islamiyah and other terrorist groups, however, as their vision of a future south east Asian Taliban-style emirate does not encompass capitalism.

Under President Megawati Soekarnoputri, Indonesia's macro-economic indicators have steadied to a point where the country is sufficiently confident to end International Monetary Fund support, and the informal sector continues to bustle along. But little new activity is occurring in the formal sector where jobs are created, and this is reflected in one of today's most potent regional indicators. Indonesia, unlike its neighbours, has failed to find bilateral partners to join it in free-trade agreements.

Tourism in Bali has picked up substantially since the bombing two years ago. And Western business people in Jakarta had been urging their countries to relax their travel advisories warning of dangers in Indonesia, claiming they were deterring potential investors. That view no longer holds much currency.

Anton Gunawan, the chief Indonesia economist for Citigroup, says: "The bomb may be a wake-up call for investors, who have turned more cautious, but will not necessarily have much of an impact on foreign investment in Indonesia... because the bombing was once again directed at Western countries' interests in Indonesia, while new foreign investment coming in is mainly from Asia."

But some asset sales may be delayed by the government, he says. And "as with the two previous bombings [Bali and the Marriott Hotel, Jakarta] the impact is likely to be more on the tourism industry, which has just recovered this year. Visitor arrivals and hotel occupancy, especially in Jakarta, are likely to decline in coming months."

Japan, Malaysia, South Korea and Singapore today comprise four of the five leading investors in Indonesia -- Britain is the other, substantially because of BP's gas investments. But the overall totals are meagre, producing the lowest investment approvals figure, just over $US 3 billion for the first half of 2004, for more than a decade. In 1997, investment was running at more than five times that rate.

The Australian government owned Export Finance and Insurance Corp says: "Financial markets seem to be absorbing last Thursday's bomb blast well, as they did the previous Bali and Marriott Hotel blasts. But there will be a price to pay for the real economy. The threat is not immediate financial instability, but a prolonged drag on growth."

This is probably, Efic says, "because traders already recognise the threat of sporadic attacks... That said, the blast could create a variety of headwinds for the real economy to battle -- lower tourism, higher risk premiums in borrowing costs, higher hurdle rates of return for investments, higher insurance premiums, higher security costs, lower consumer confidence, higher precautionary savings etc. And if there is one economy that needs to go forward quickly to avoid going backward, it is Indonesia."

The blast will also, it says, be a test of Jakarta's decision to withdraw from its International Monetary Fund program last December. Indonesia still has large fiscal and external financing requirements -- $US 3 billion per year has been repaid over the last four years, but "Paris Club" debt relief is no longer available. Instead, says Efic, the government is having to place greater reliance on domestic and international bond markets. "With appetite for emerging market risk among international institutional investors running high until recently, this wasn't a problem. But with the global interest rate cycle now entering an upswing, there could be a future problem."

Rowan Callick is Asia Pacific Editor of the Australian Financial Review.


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