1. Indonesia Economic Quarterly Back on track? William E. Wallace Lead Economist World Bank 16 December 2009 Jakarta Indonesia

2. Indonesia’s economy, back on track?  Indonesia’s real economy has returned to solid growth  But financial markets remain volatile  And longer-term reform is needed to maintain the momentum

3. Indonesia’s economy in late 2009 Back on track 1.Indonesia’s real economy has continued the gradual recovery trend evident mid-year 2.Growth has been far less volatile than elsewhere 3.But financial markets have been more volatile, strengthening by more than most others 4.Inflows of capital in search of Indonesia’s higher yields has driven much of this strength, and present a future risk

4. Indonesia’s economy in late 2009 Growth has returned to pre-crisis averages  Growth picked up further in Q3, continuing the earlier trend  Growth remained broad-based: consumption was robust, investment picked up and net exports contributed positively  Industrial GDP while down year on year picked up in the 3 rd quarter in seasonally adjusted terms as compared to services, which were down (aggregate GDP growth) Sources: BPS via CEIC, World Bank

5. Indonesia’s economy in late 2009 …trade flows are recovering…  Unlike the domestic economy, trade flows were significantly disrupted by the global economic downturn  Export values fell by 43%; imports by 56%  The collapse in commodity prices explain most of this decline  Flows have since partially recovered, with the recovery in commodity prices and external demand Sources: CEIC, Haver Analytics, BPS, JP Morgan, World Bank (monthly merchandise trade flows)(global commodity prices, 100=June 2007)

6. Indonesia’s economy in late 2009 …and other indicators remain solid  Other indicators show conditions have stabilized at relatively high levels (abstracting from the volatility around the Idul Fitri holidays) Sources: BPS, GAI, PLN, ICA and Astra via CEIC, Danarakesa, World Bank

7. Indonesia’s economy in late 2009 Inflation paused in Q4  After building momentum in Q3, inflation was unexpectedly weak in October and November  2.4% inflation, is a decade low  The appreciating rupiah, and improved food supply conditions, are allowing retailers to reverse their Ramadan- and Idul Fitri related price rises Sources: BPS, CEIC, World Bank estimates of poverty basket inflation

8. Indonesia’s economy in late 2009 …and credit is picking up  New loans bounced back in September to 2008 levels  …despite lending rates remaining high Sources: BI via CEIC (Q-o-Q credit growth and credit approvals)(interest rates)

9. 8500 9500 10500 11500 12500 100 150 200 250 06 - Oct - 0806 - Jan - 06 - Apr - 06 - Jul - 06 - Oct - IDR trillionIDR per USD IDR/USD spot (RHS) Total Foreign Capital Stock (LHS) IDR Appreciation Financial markets remain unstable While significant capital inflows…  Large flow of offshore funds into Indonesian financial assets recently  USD 6.5 bn since March; USD 2.5 bn in September and October alone  Invested in government bonds (SUNs), SBIs, and the stock market  Supported rupiah’s appreciation against the weakening USD  22% since March, stabilizing around 9.500 per USD from early October  Despite BI allowing reserves to accumulate (to USD 65.8 bn by end November) Sources: BI, CEIC, and World Bank

10. Financial markets remain volatile …have supported financial asset prices  This has supported a rally on equity and bond markets to early October  Since then, markets have since tracked sideways  Unlike elsewhere in the region, these flows have not affected other asset prices (eg, urban property) Sources: CEIC, World Bank Sources: BI, CEIC, and World Bank (Regional stock market indices)(local currency bond yields)

11. Indonesia’s economy in late 2009 Back on track?  Outlook remains for gradual pick-up in growth  Outlook slightly stronger than September: better domestic performance in Q3, improved outlook for trading partners, and higher commodity prices  Support gradual reduction in poverty rates  But significant risks to the outlook remain  Unwinding of global fiscal and monetary stimulus/imbalances could trigger risk aversion once again international capital markets  While domestic developments also risk creating uncertainty for investors Sources: BPS, BI, CEIC, and World Bank projections

12. Staying on track into the medium term The demographic window of opportunity  Indonesia has been enjoying a demographic dividend  But the share of the population at working age is nearing its peak  Between 2020 and 2025 Indonesia’s dependency ratio will begin to rise again, with a growing share of elderly citizens  …making the next decade critical to make the most of the demographic dividend and prepare for an aging population Sources: BPS and UN statistics

13. Staying on track into the medium term …demands many new good quality jobs  The expanding working age population will need new, good quality jobs  The employment rate, after falling for 6 years, trended upward since 2006. Employment rate rose from 61.5% in August 2008 to 62.1% in August 2009.  But most of the labor force…and new jobs are informal  Around 60% of the labor force is informal  And informal jobs generally offer poorer pay and conditions  But the distinction is not sharp: many formal sector workers are little better off than those working informally Sources: BPS and World Bank (mean log monthly wages) (Employment % of working age)

14. Staying on track into the medium term Indonesia can afford to spend more on development  Government finances remain in good shape after the crisis  In our view, and in the medium run, larger deficits, supporting investment in social welfare and infrastructure, are sustainable  And more spending on desirable infrastructure and social goods could be achieved through the reallocation of distortionary energy subsidies  But to ensure the quality of spending in a democratic and decentralized Indonesia, government effectiveness has to be enhanced Source: World Bank projections

15. Indonesia Economic Quarterly Back on track? William E. Wallace Lead Economist World Bank 16 December 2009 Jakarta Indonesia