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Is Indonesia Losing Its Edge With Investors?

In recent years Indonesia, Southeast Asia’s largest economy, has emerged as a darling of foreign investors, but that privileged status may be under threat as its economy shows signs of weakness amid policy changes that are being viewed as protectionist.

Pedestrians cross a street in Jakarta's modern business district.
Romeo Gacad | AFP | Getty Images
Pedestrians cross a street in Jakarta's modern business district.

“The string of recent policy changes marks a shift in the regulatory regime in Indonesia. We think there is a high risk that similar measures will be introduced in the run-up to the 2014 elections,” Euben Paracuelles an economist at Nomura said in a report.

In July, Indonesia's central bank announced a cap of 40 percent on the single ownership of domestic banks. This followed a mining law put in place in March limiting foreign ownership in the industry to 49 percent from 80 percent previously.

In addition to restrictions on investment, the government in May imposed a 20 percent export tax on 65 categories of mineral ore. This could further widen its trade deficit, which expanded for the third straight month in June to a record $1.3 billion.

“A worrisome aspect of these announcements is the impact on sentiment and perceptions of the overall policy environment in the near-term. This provides downside risks to investment growth this year and in 2013,” Paracuelles added.

Barclays' regional economist Prakriti Sofat agrees that the pace of foreign direct investment (FDI) into Indonesia is likely to slow as a result of policy uncertainty.

In 2011, Indonesia attracted a record 175.3 trillion rupiah ($18.4 billion) in FDI and over April to June this year the resource-rich nation saw foreign inflows jump 30 percent year on year.

But economists warn that restrictive investment policies coupled with a lack of reform may come in the way of further investor interest.

“The political noise will rise as the 2014 presidential elections approach, limiting the possibility of further reform in the near-term,” Sofat said.

“This was evident during the fuel price hike, when coalition partners, who initially supported the plan, backed away from supporting the president’s party in the parliament when public dissatisfaction increased,” she added.

Nomura has scaled back its growth estimate for Indonesia to 6.5 percent from 7 percent for 2014-19. This year, the bank forecasts Indonesia’s gross domestic product (GDP) growth will slow to 5.8 percent from 6.5 percent in 2011, when its economy grew at its fastest pace in 15 years.

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