Wednesday, December 23, 2009

Economic rise snags on political turbulence

Vincent Lingga , Jakarta Mon, 12/21/2009 11:28 AM Review & Outlook

It is impossible to chart the economic outlook for 2010 without factoring the Bank Century debacle into the equation.

The nationwide controversy over the Nov. 21, 2008, bank bailout is not simply a temporary distraction, as several analysts say, insofar as the economic prospects for next year are concerned.

The manner and speed in which the parliamentary inquiry committee will complete its investigation will determine the magnitude of the political and financial market turbulence facing the nation within the next few weeks or even months.

Even more worrisome is that whatever the conclusions and recommendations from the committee, they will have an adverse impact on the economy, the government’s economic team and its policymaking credibility.

What an unfortunate development it was. Instead of riding on his landslide re-election with stronger confidence, President Susilo Bambang Yudhoyono has remained a diffident and indecisive president unwilling to take firm action.

He allowed his administration to be besieged by the tussle between the police and the Corruption Eradication Commission (KPK) for nearly 50 days before he finally decided to intervene with some recommendations, however weak they seemed.

The public’s attention and the national media will again be consumed by the parliamentary investigation over the next six weeks when vice president Boediono several ministers, the central bank governor and scores of other senior central bank and government officials and expert witnesses will be summoned to testify.

This political furor and the intermittent wave of street demonstrations set off by the findings of the political inquiry will continue until February, when the committee is scheduled to submit its conclusions and recommendations to the President.

This means Yudhoyono’s government has virtually lost or wasted the golden chance during what was supposed to have been the political honeymoon period for his second administration to take painful reform measures that are badly needed to kick-start new investment and the construction of badly needed infrastructure.

Put another way, the government simply did not take any benefit early on from the almost 61 percent of votes garnered by Yudhoyono in his re-election last July.

The President instead came out weaker from the legal tussle between the corruption busters and the police. His position could become even more beleaguered by the bank debacle, and his coalition government much weaker.

The worst impact on the economy is the huge erosion of the government’s policymaking capacity and credibility, resulting in a very slow pace of reform sorely needed to overcome obstacles to investment, without which the economy will never be able grow robustly.

Due to the impact of the two big cases, the Yudhoyono administration now has neither the mandate nor the capacity to fix quickly the problems caused by corruption, regulatory risks and weak legal framework (civil service and legal reforms).

The government is scheduled to launch several bold programs during its first 100 days, including a stronger legal framework for expediting land acquisition for infrastructure, streamlining investment licensing and comprehensive bureaucratic and legal structural reforms.

But all these top-priority programs will likely fall behind schedule because it is now extremely difficult to have the Yudhoyono Cabinet, dominated by political representatives from his coalition partners, to work strongly in a united and well-coordinated manner.
Likewise, the government coalition in parliament seems in disarray now due to different stances regarding the legal and policy issues related to the bank bailout.

True, the controversy over the Century bailout is the only cloud looming over political and macroeconomic stability next year, but this cloud could turn into a devastating storm.
Putting aside what is now often referred to as “Century gate” and its adverse impact on the economy next year, Indonesia’s medium- and long-term economic outlook is bright.

The country posted a fast, strong recovery this year, and is internationally praised as the third-highest growing economy after China and India, with an estimated expansion of 4.3 percent.
The US$500 billion economy, supported by the steady improvement in the financial and banking system and the green shoots in the world economy, could accelerate to a growth of 5.5 to 6 percent next year.

The country has a sound fiscal policy, strong balance of payments and sharply declining government debt to as low as 30 percent of gross domestic product.
But again all the estimates for next year will depend on the magnitude of the political and financial turbulence caused by the political process of resolving the bank debacle, notably the fate of Finance Minister Sri Mulyani Indrawati and Vice President Boediono, both nationally and internationally respected as icons of reform.

Barring any immediate devastating fallout from the parliamentary inquiry into the bank debacle, the Jakarta stock exchange will likely end the year with growth of more than 85 percent, the rupiah gaining an appreciation of 15 percent and inflation staying below 3 percent.

The low inflation rate will enable Bank Indonesia to keep its benchmark interest rate low, currently at 6.5 percent, and this in turn will bring down borrowing costs for businesses and consumers.

But whether the central bank will be able to check inflation next year will depend on the rupiah’s stability and improvements in infrastructure.
Significant improvements in infrastructure are essential because unusually high logistics costs — caused by inadequate infrastructure, regulatory barriers, bureaucratic inertia and corruption — are one of the main causes of the economic inefficiency.

Inflation will be manageable next year, within the target range of 4 to 6 percent, if the expansion on the demand side of the economy is accompanied by adequate expansion in the domestic capacity on the supply side.

Domestic consumption will continue to be the main driver of growth, as investment and exports are expected to expand only modestly at 5 percent.

Direct investment, which this year remains cautious despite the resilience of the overall economy, is expected to accelerate next year, but a slower-than-expected pace of reforms to remove major barriers to businesses may stand in the way of robust investment.

Foreign capital turned in big inflows, increasing the foreign reserve holding of the central bank to more than $65 billion or more than five months of imports.

But instead of helping bolster the economy’s real sector, this short-term hot money makes the country vulnerable to sudden shocks as capital flight could happen at the slightest hint of trouble.

This vulnerability should cause great concern in view of the political turbulence likely to be set off by the finding of the parliamentary inquiry into the bank bailout.
Given the downside, at best the economy will likely muddle through the political turbulence with growth of 5 percent next year.

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