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Has This 'Darling' of Investors Lost Its Mojo?

Tuesday, 7 May 2013 | 1:58 AM ET
Jakarta
Barry Kusuma | Photolibrary | Getty Images
Jakarta

There has been some discouraging news out of Indonesia in the past few days.

First the country's ratings outlook was downgraded by Standard & Poor's and then Southeast Asia's largest economy clocked its slowest quarterly growth in two years. This has once again led to concerns whether this "darling of investors" can deliver on its promise.

(Read More: Will Indonesia Replace India in the BRICs?)

Indonesia's gross domestic product growth was 6.02 percent year on year in the first quarter of 2013 below expectations of around 6.18 percent and down on 6.11 percent growth in the previous quarter.

Plus S&P last Thursday downgraded its outlook for the country's sovereign credit rating to stable from positive on concerns over stalling reforms.

"It is probably not the best time to invest in Indonesia right now," said Prakriti Sofat, regional economist at Barclays Capital. "This does not mean that the country's investment appeal will dissipate completely, but you would want to time your investment, as the next 18 to 24 months will not be the ideal time," added Sofat.

(Watch: Why You Should Be Bullish on Indonesia: Saratoga)

Strong economic growth coupled with a young population and a growing class of wealthy consumers has meant that Indonesia has been a hot destination for foreign investments in recent years. Its economy has grown at an average of 6 percent per year over the past five years and Jakarta's main stock index has surged some 350 percent from a low hit in late 2008.

But Indonesia's alluring investment appeal now appears to be under threat, as the country has recently been dogged by a plethora of economic headwinds. A weak mining sector, an ongoing struggle to push through regulatory reform, the impact of slowing external demand and political uncertainty in the run up to elections next year have all taken their toll on the economy.

"In the near-term there are a number of headwinds for investors including weak commodity prices which have weighed on the country's mining sector," said Sofat.

"Beyond that the political rhetoric leading up to the elections next year will have made investors cautious and led to some moderation in foreign direct investment. Especially as a more protectionist/nationalistic approach from the government has emerged," added Sofat.

Over the past year the government has introduced measures like tightening of import quotas, imposed duties on exports of raw minerals and restrictions on foreign ownership of local mining companies. This has deterred investors, for example growth of gross fixed-capital formation—a measure of public and private investment—slowed to 5.9 percent year on year in the first quarter of this year from 7.29 percent in the fourth quarter of 2012, according to Indonesia's Central Statistics Agency.

Luzo, Philippines
Laurie Noble | The Image Bank | Getty Images
Luzo, Philippines

Indonesia was upgraded to investment grade by both Fitch and Moody's in late 2011 and early 2012, respectively, but S&P has not given it an investment grade status and said last week that the upgrade may take at least another 12 months. But after below-expectation GDP numbers the upgrade seems more distant now, say some experts.

"At the margin this does further diminish the prospects for an upgrade to an investment grade rating in the near-term," said Vishnu Varathan, market economist at Mizuho Corporate Bank.

Losing Out to the Philippines?

Indonesia could be losing some of its appeal to another thriving Asian economy, the Philippines, which was upgraded to investment grade by S&P around the same time that it downgraded Indonesia's outlook.

(Read More: Fitch Upgrade of Philippines a 'Seal of Good Housekeeping')

"Last week's revision in the economic outlook and ratings by S&P marks a contrast between the Philippines and Indonesia," said Taimur Baig, chief economist at Deutsche Bank.

"The Philippines upgrade tells us how in the last few years the economy has been transformed from an outlier to a darling of investors in Asia. In recent years Philippine authorities have managed fiscal, monetary, and exchange rate policies prudently, leading to strong growth and sustained external inflows. In contrast, Indonesia, which also has a strong long-term macro story, has been less convincing in macro-management," added Taimur.

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