Economy of Indonesia: Regional Election Bill and US Economic Data

After incumbent President Susilo Bambang Yudhoyono’s Democratic Party walked out from the plenary session in the early hours of Friday after its proposed amendments for stricter control of direct elections were rejected, it meant that the Merah-Putih coalition (the political party coalition that supported Prabowo Subianto in the July presidential election) formed the majority. It is suspected that the Merah-Putih coalition approved the bill as an act of revenge for Subianto’s loss in the presidential election. President-elect Joko Widodo (Jokowi), who narrowly defeated Subianto in the election, was able to rise through the political ranks of the country by these direct elections.

This situation - parliament’s large Merah Putih coalition that opposes Jokowi - is not healthy for economic and social development of Indonesia ahead as the coalition is expected to oppose reform plans of Jokowi for the sake of opposition only, and thus at the expense of people’s and nation’s welfare.

It is also interesting to note that one party within the Merah-Putih coalition, Golkar, was not 100 percent in favour of the new bill. Eleven people within Golkar were against the bill, indicating a small schism in the party brought on by pro-Aburizal Bakrie members and pro-Jusuf Kalla members. Bakrie is the current Chairman but has often been criticized for joining the Merah-Putih coalition and lack of good leadership. Jusuf Kalla, who has a long history in the Golkar party, joined Jokowi on his presidential bid and will become Indonesia’s next vice-president on 20 October 2014.

However, similar to the presidential election, we may see another Constitutional Court case to decide on the new bill. President Yudhoyono - who was in Washington at the time of the plenary session - said that he does not agree with the new bill and would therefore support a judicial review of the Court. Jokowi immediately reminded the people to remember which parties had supported the new bill and thus have robbed people from their fundamental democratic rights.

The passing of this new bill is an important (internal) reason why market sentiments turned negative at the end of the week. The Indonesian rupiah exchange rate depreciated 0.54 percent to IDR 12,048 per US dollar based on the Bloomberg Dollar Index, while the Jakarta Composite Index (Indonesia’s benchmark stock index) fell 1.32 percent to 5,132.56 points on Friday (26/09).

Bank Indonesia's benchmark rupiah rate (Jakarta Interbank Spot Dollar Rate, abbreviated JISDOR) depreciated 0.50 percent to IDR 12,007 per US dollar on Friday (26/09).

| Source: Bank Indonesia

Externally, developments in the US economy have a major impact on Indonesia. After a big plunge on Wall Street on Thursday (triggered by ‘Apple-gate’ and the possible seizure of foreign assets in Russia), US stocks rebounded on Friday on positive economic and corporate data. US GDP growth in the second quarter of 2014 was revised up from 4.2 percent to 4.6 percent, while September US consumer sentiment at 84.6 was at a 14-month high. Good corporate news and results also boosted indices on Wall Street (particularly Nike, Micron Technology, Yahoo and Janus Capital Group).

James Liu, global market strategist at JP Morgan Funds in New York said that despite short-term news that can derail the market temporarily, the underlying strength of the US market is structural and thus the upward momentum is sustained.

Economic reports on US employment and manufacturing and services industries output are due next week. If these data are also positive, then speculation may emerge that the US Federal Reserve will raise its key interest rate sooner than expected. At the FOMC meeting last week, the Fed announced to be committed to maintain interest rates near zero for a considerable time after the bond-buying program has ended (this program probably ends in October 2014). However, it also said that the timing could move forward if US economic data continue to exceed expectations.

An end of the bond-buying program and higher interest rates in the USA are expected to lead to capital outflows from emerging markets (including Indonesia) as it implies the end of cheap US dollars flowing to lucrative yet riskier assets in emerging markets. However, if the USA experiences a sudden big economic improvement it can lead to accelerated capital outflows from Indonesia as market participants are anticipating sooner-than-expected US interest rate hikes.

In the past week, it has also become clearer that Jokowi will raise prices of subsidized fuel prices by IDR 3,000 per liter in an attempt to combat the country’s wide current account deficit and spend the available funds on social and economic development. In the long term, this step will make the Indonesian economy healthier but in the short term it will lead to accelerated inflation and thus should be accompanied by well-organized government programs to support the poor. High inflation, in combination with looming interest rate hikes in the USA, means that Indonesia’s central bank will need to keep its benchmark interest rate (BI rate) at a relatively high level (currently 7.50 percent), and perhaps higher (which will come at the expense of economic growth).

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