A huge domestic market, an abundant labour force, sky-high growth rates and the rise of an economically empowered middle-class. For many Asia bulls, Indonesia is an economic powerhouse that bears a striking resemblance to the India of a few years ago.
Adding a sense of momentum to this pitch, on Wednesday, Moody’s raised the country’s foreign and local-currency credit rating by one notch to Baa3, its lowest investment grade and the same level as India, citing strong growth prospects and policymakers’ seemingly successful taming of inflation.
The move – seen as justified but earlier than many market participants expected – follows last month’s upgrade of the sovereign by Fitch Ratings to BBB- with a stable outlook. The investment-grade accolade will bolster demand for rupiah-denominated assets, boosting private sector leverage and the country’s infrastructure investment drive, said market players.
But here’s one contrarian message from Robert Prior-Wandesforde, South-east Asia economist at Credit Suisse in Singapore, who fears Bank Indonesia’s unexpected move to cut the overnight deposit rate by 50 basis points on Tuesday to 4% – and policy efforts to turbo-charge growth, more generally – will ignite fears of an economic hard-landing in the next two years. In other words, Indonesia is today’s India:
He told Emerging Markets:
| “Clearly, Indonesia’s public finances are extremely good – the fiscal deficit is just 1% of GDP and the private sector is underlevered. But what worries me is that Indonesia is effectively doing an India in the sense that monetary policy is being kept too loose, for too long. Just like we saw in India, there is now an attempt to push growth to unsustainable rates via loose policy. Analysts’ trend estimates are too cyclical. The country is set to grow 6.5% this year but attempts to keep the economy growing at a 6.5%-7% will lead to overheating in a 2-year horizon." |
On the disinflationary mirage:
| "Bank Indonesia genuinely believes that there has been a supply-side improvement to account for the lower inflation rate [with CPI at 3.5% year-on-year in January]. But the demand-side – capacity utilization rates and employment rates– is out-pacing the supply side. According to our estimates, inflation is lower due to the increase in FDI flows that have led to competitive measures and lower margins for goods and services but other structural forces for inflation are in place." |
On whether the ratings upgrade will reduce the incentive for further economic reforms:
| "I don’t think the credit ratings story in-and-of-itself will influence reform efforts. But it’s clear that some reforms – labour market reforms and financial sector liberalisation – are off the agenda for now, no matter what." |
In the next couple of years, then, Indonesia may endure a hard landing. But, for now, foreign investors are grappling with the challenge of upping their country exposures in a market where non-residents already own some two-thirds of public equities and where the yield curve is seen as too flat, with 20-year government bonds yielding just over 7% after central bank purchases.