The Author : Fithra Faisal Hastiadi
(Senior Economist, Samuel Sekuritas Indonesia)
In a recent interview, President-elect Prabowo Subianto told Bloomberg of his goal of achieving an 8 percent growth rate within the next three to five years. While ambitious, escaping the middle-income trap requires a growth rate of at least 6 percent within a very narrow window until 2045. However, aiming for growth above 5 percent comes with its own set of challenges.
Using the Hodrick-Prescott filter method, we find that the gap between actual and potential output is only about 1 percent. This means that pushing growth to 6 percent or higher risks overheating the economy. Over the past decade, Indonesia’s average growth has been just 5.07 percent (excluding the pandemic). Can we try to push it higher than that? Well, hold on; as we enter the second quarter of 2024, we expect the economy to grow by only 4.94 percent, reflecting a slight deceleration from the 5.11 percent achieved in the first quarter. This anticipated slowdown can be attributed to several interrelated factors that collectively temper the pace of economic expansion. Bank Indonesia (BI) raised its benchmark interest rate to 6.25 percent in May 2024 to maintain parity with the Federal Reserve’s fund rate and counter the ongoing depletion of foreign exchange reserves amid mounting tensions. However, this move, while essential for maintaining parity, could dampen domestic borrowing and investment, thereby slowing economic growth.
The slowing demand can be seen in Indonesia’s annual inflation rate, which fell to 2.84 percent in May, lower than expected. This decline reflects slower demand post-Lebaran and a delayed harvest period. While lower inflation typically boosts purchasing power, the current scenario points to lagging consumption. The subdued inflation figures, driven by reduced price pressures in communication, financial services, and food, indicate a broader economic slowdown. This softer inflation environment, while beneficial in some respects, highlights underlying weaknesses in consumer demand that could impede achieving higher growth targets.
The slowing growth contributor can also be reflected from the tapering trade surplus. In May 2024, Indonesia’s trade surplus stood at USD 2.93 billion, lower than the forecasted USD 3.7 billion. While exports showed growth, the steep 8.83 percent year-on-year decline in imports signals weakened domestic demand. This decline, exacerbated by a fragile rupiah and the post-festive season slump, indicates potential constraints on future industrial expansion. A persistent slowdown in imports may not only reduce the trade surplus but also reflect underlying weaknesses in the domestic economy, contributing to slower GDP growth.
Retail sales add to the pressure. In April 2024, retail sales contracted by 2.7 percent year-on-year, a stark contrast to the 9.3 percent increase in March driven by the Ramadan effect. This decline, coupled with falling consumer confidence—from 127.7 in April to 125.2 in May—suggests tapering consumption. Reduced spending on essential goods and a drop in car sales underscore a normalization in consumer behavior post-Ramadan. With the Lebaran momentum dissipated, consumer demand is expected to remain subdued, adversely affecting overall economic growth in the second quarter.
From the supply side, we saw the S&P Global Indonesia Manufacturing PMI decrease to 52.1 in May from 52.9 in April, marking the slowest expansion since November. This deceleration in output growth and new orders, compounded by rising input prices due to adverse exchange rates, indicates weakening industrial demand. The anticipated further tapering of the PMI to 51 points by the end of this quarter aligns with our downward revision of economic growth projections to 4.8 percent this year. The manufacturing sector’s slowdown, driven by both domestic and global demand constraints, is a key factor in the anticipated reduction in GDP growth.
The convergence of these factors underscores the delicate balance needed to maintain robust economic growth in the future, let alone breaching the 5 percent mark. In an overheating economy, several things can happen simultaneously: the value of the rupiah drops (depreciates), high inflation, and a trade balance deficit. Therefore, our research suggests that at least three strong pillars are needed: 1. Infrastructure, 2. Superior human resources, and 3. Resilient institutions. Economist William Easterly, in his book “The Elusive Quest for Growth,” highlights the importance of combating corruption and creating incentives for local innovation and business. Without these, the 8 percent economic growth target could cause the economy to overheat too quickly in the short term, resulting in a budget deficit widening above 3 percent, double-digit inflation, and a further pressured rupiah.
In summary, Indonesia’s economic future hinges on balancing ambitious growth targets with the practical realities of institutional reforms, consumer behavior, and external economic pressures. The path to sustainable prosperity is narrow, requiring strategic foresight and robust policy measures to ensure that Indonesia not only grows but thrives in the coming decades
Faculty member, Faculty of Economics and Business, Universitas Indonesia
Source : Jakarta Post
