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Why a stronger Indonesia is still Asia's most fragile market
[SINGAPORE] Notwithstanding solid economic growth, low inflation and a proactive central bank, Indonesia finds itself in the same uncomfortable position it had during the 2013 emerging markets sell-off - Asia's worst-hit market.
Five years ago, it was one of the "fragile five", alongside India, Brazil, Turkey and South Africa, hit by "taper-tantrum" triggered by US policy tightening. This time, Jakarta has been battered by contagion from collapsing markets in two of those, Turkey and South Africa, plus Argentina.
Indonesia's current fragility comes from a mix of longstanding and new factors. It has long had huge amounts of foreign money invested in its high-yielding bond market. Now it does not have trade surpluses, and the current-account deficit has worryingly widened.
While India, Malaysia and the Philippines share some of Indonesia's domestic problems around foreign ownership of markets, their currencies are less accessible to speculators. Indonesia has had a basically free foreign exchange regime since the late 1960s.
The rupiah has shed nearly 9 per cent this year, while India's rupee has had a double-digit fall, making them Asia's biggest losers against a broadly strong dollar. The Jakarta stock market is Asia's worst performer in 2018 after China, with losses of more than 10 per cent.
Indonesia ran up a current account deficit of about US$8 billion in the second quarter. In addition to fuel, the import bill was inflated by inflows of capital and consumer goods, which bore out the resilience of domestic demand and investment.
While the current account deficit is the rupiah's Achilles' heel and has grown since 2013, the current level is far smaller than those of other fragile emerging market peers. The country also has a history of volatile inflation and currency moves.
But the ability to fund that wide current account deficit is what is causing investors to worry. The government has imposed tariffs on consumer imports, tried to rein in capital goods imports and raised interest rates, all of which could have negative implications on now-shakier consumer demand and growth.
Foreigners own about 37 per cent of the Indonesian government bond market and have pulled out very little this year, comforted by the commitment of new Bank Indonesia Governor Perry Warjiyo to be proactive and the 125 basis points of quick policy tightening since May.
The equity market has however seen outflows of US$3.68 billion so far this year, compared with an exit of US$2.96 billion in all of 2017. Indonesia has less foreign debt, close to about 20 per cent of GDP, than some of the more vulnerable emerging markets.
Still, if all the foreign money in its bond market were to leave, that would equal the loss of half of FX reserves, totalling US$118 billion, leaving Indonesia and the rupiah in a precarious position.