Indonesia poised for next phase of structural transformation

Jakarta

AS Indonesia seeks to reboot its economy following the sharp downturn in 2020, three key trends have emerged as potential drivers for the next phase of the country's structural transformation.

A recent report by Morgan Stanley Research notes that further deregulatory reform via the country's Omnibus Law, the emerging digital economy, and leveraging cooperation with China will drive growth in 2021 and beyond. These trends will likely push gross domestic product (GDP) growth in 2021 to 5.6 per cent, putting South-east Asia's largest economy on a firm footing.

"We should categorise the recovery as one of the fastest in the region together with India and the Philippines," said Mulya Chandra, an equity strategist at Morgan Stanley Securities and a co-author of the report. "This year, Indonesia's economy will contract by 1.5 per cent - which is not as bad as some other countries."

The structural transformation of Indonesia's economy began following the end of the commodities boom in 2014 as President Joko Widodo started to push aggressively for infrastructure development while promoting foreign direct investment (FDI).

Indonesia is resuming its second phase of reform initiatives, following the first phase which was focused on infrastructure over the past five years, the report said.

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The second phase will focus on attracting investments through coordinated deregulation and relaxation in investment eco-systems, taxation, labour, and land procurement.

The deregulation efforts were packaged under the Omnibus Law that was passed by Parliament on Oct 5.

The Morgan Stanley report said that Indonesia can continue to develop its strong relationship with China to "catalyse the reforms' execution". The countries are close trading partners, and the areas of cooperation include infrastructure projects, tech startups, and the development of Indonesia's largest nickel mine facility in Sulawesi. Recently, Indonesia and China agreed on the use of the rupiah and yuan for bilateral trade and direct investment.

After the commodities boom ended, Chinese companies invested heavily in Indonesia's infrastructure projects, the digital economy and natural resources. China's FDI into Indonesia has accelerated in the last five years to a 43 per cent compound annual growth rate, now the fastest-growing among Indonesia's FDI investors. Chinese strategic investors have also aided the rise of Indonesian tech unicorns, by facilitating capital and technology transfers.

Chinese companies have invested heavily in nickel smelting facilities in Morowali, driving Indonesia's nickel production to become the world's largest. Recently, China and Indonesia have begun to cooperate in healthcare with China's Sinovac and Indonesian state-owned enterprise Bio Farma working on Covid-19 vaccine trials and the production of up to 300 million doses for deployment as early as by the end of this year.

The country's emerging digital economy is also one of the fastest growing in Asia, said Mr Mulya. "Indonesia is fertile ground for tech start-ups. It has a large young population which loves digital platforms," he said. "It will take time for the digital sector to fully integrate into the overall economy but we are starting to see its impact."

He added that e-commerce platforms have enabled and empowered micro small and medium-sized enterprises (MSMEs) that are the backbone of the economy. "The threshold for entrepreneurship is much lower, and individuals can set up shop with very little capital," he said.

E-commerce has expanded market reach for millions of MSMEs who were previously handicapped by logistical constraints. "The function of the digital economy is to empower and improve efficiency by improving financial inclusion, especially for the 70 per cent of population that is unbanked," said Mr Mulya.

He added that the digital sector had attracted US$10 billion in investments between 2016 and 2019, according to a report by Google, Temasek Holdings and Bain.

"The valuations of some tech start-ups are higher than established blue chip companies; and we have seen the same trend in North Asian markets, and this has become a mainstay of investment thesis," he said.

Supported by robust tech platforms, fast adoption by society, availability of affordable gadgets and improving infrastructure, Indonesia has produced several tech unicorns, including one decacorn.

They have come from logistics (Gojek), payments (Ovo/Gopay), e-commerce (Bukalapak, JD.ID), and travel (Traveloka). Their gross transaction values have as much as tripled in a year, according to the companies. Gojek's latest market cap, according to Pitchbook, now approaches key blue chip Astra International's at US$12 billion.

"We think that Indonesia is set to become one of the largest digital economies in the world, thanks to its high smartphone penetration and its huge but under-banked population," the Morgan Stanley report noted. "Within Asean, it has received the second-largest amount of investment for startups in the past four years, behind only Singapore, and it has had the highest number of unicorn startups."

The report by Google, Temasek, and Bain also estimates that Indonesia's Internet economy will reach US$133 billion in terms of gross merchandise value in 2025, making up 43 per cent of Asean's total.

The Morgan Stanley report, meanwhile, believes that the current cyclical headwinds have not impaired Indonesia's structural upside.

Beyond the Covid-19 pandemic, Indonesia is resuming its reform initiatives - spearheaded by the Omnibus Law - and by leveraging on its relations with China. It is thus poised for a strong rebound in the coming year, the report said.

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