INDONESIA'S ECONOMY REMAINS STABLE AMID GLOBAL FINANCIAL CRISIS- May 2010

INDONESIAN COMMERCIAL NEWSLETTER

May2010

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INDONESIA'S ECONOMY REMAINS STABLE AMID GLOBAL FINANCIAL CRISIS

Amid fears of the spread of the European financial crisis, Indonesia managed to remain to be on target in its economic development. In the first quarter of 2010, the country's Gross Domestic Product (GDP) expanded 5.7% (y-o-y) or growing 1.9% from the last quarter of 2009. The transport and trade sectors led growth in the first three months of this year.

A significant growth of 3% was recorded in the country's manufacturing sector in the first quarter of this year as against a contraction of 1% in the last quarter of 2009.

Indonesian economic growth is quite high driven mainly by household consumption. In the first quarter of 2010, household spending contributed 57.7% to the country's GDP. In the first quarter of 2010, household consumption grew 2.9% from the same period last year.

Exports and imports grew strongly in the first quarter of 2010 signaling the revival of the manufacturing sector which depends much on exports.

Based on data from Bank Indonesia (BI), current account, exports which grew higher than imports resulted in surplus in the country's current account balance. Exports in the first four months of 2010 came close to the level of exports before the 2008 crisis despite a slow down in April, 2010.

The slowdown in exports in April, 2010 was recorded mainly in exports to Europe to which export fell 23%. Significant fall in exports to Europe was recorded mainly in exports of crude palm oil (CPO), as a result of negative campaigns against Indonesian crude palm oil launched by non governmental organizations. Greenpeace had succeeded persuading some buyers in Europe to boycott Indonesian CPO.

Capital and financial transactions, inflows of portfolio capital were affected by the European debt crisis. Bank Indonesia said the country's foreign exchange reserve by May 31, 2010 was recorded at US$ 74.6 billion or enough to cover imports and service foreign debt for 5.87 months.

In general, improvement of the country's economy until May 2010 followed the recovery of the global economy from the crisis in 2008 and 2009. The global economy was on a rising trend despite the setback suffered by Europe as a result of the Greek debt crisis. The U.S. and Japanese economies and the emerging markets are growing marked by growing domestic demand and imports.

The emerging markets led by China and India and Indonesia grew even when the crisis was at its peak in 2009. In 2009, the three economies grew by 7.7%, 6.5% and 4.5% respectively.

The three economies grew mainly on large domestic consumption. When the exports and import fell, Indonesia's economy continued to grow on large domestic spending.

This year Indonesia's exports and imports began to scale up that the economy is expected grow faster this year.

Inflation begins to cause concern

Inflation this year is still well under control. In May inflation was only 0.29% that the country's inflation in the whole of this year was expected to be lower than the government's target of 5.3%? However, inflation in 2010 was higher than in 2009.

The inflationary pressure in May 2010 was still manageable. The source of inflation is traceable mainly to group of volatile food (rice and spices) caused by problem in supply and distribution. Meanwhile core inflation and administered prices were relatively low as until May , 2010, there was no strategic government policy in price that could trigger inflation from administered prices. The consumer price index (IHK) in May recorded inflation of 0.29% (mtm) or 4.16% (yoy). Cumulatively, inflation in the January-May period was 1.44% (ytd).

In line with the increase in demand for goods and services in 2010, inflation this year tends to be higher than in 2009, but it is natural and the monthly inflation so far this year was still lower than in the past five years excepting in 2009.

However, in the remaining months of this year, there are a number of factors that could push up inflation beyond the government's target. In August, 2010, there will be Islamic fasting month and Idul Fitri celebrations to be followed with Christmas day and New Year celebrations that normally contribute to driving inflation higher.

The biggest driver of inflation might be the increase in the electricity rate set by the government effective as from July, 1 and general toll tariff hike also effective in July.

The increase in the prices of primary commodities especially energy in the world market would also contribute to driving inflation.

Flows of foreign funds

Apart from inflation, it is important to closely watch the strong inflows of foreign funds to the financial market in Indonesia as the hot money could anytime reverse the direction as happened in May 2010 when the Greek debt crisis came to its peak.

In May 2010, the flow of portfolio capital was hit by negative sentiment of the debt crisis in Europe. Data at Bank Indonesia showed that by end of May, foreign funds withdrawn from Bank Indonesia promissory notes (SBI) reached Rp 40 trillion resulting in falling value of the rupiah.

Deputy Governor of the central bank Hartadi A. Sarwono said the foreign fund flowing out until May 31 made up around 50% of the total foreign funds invested in SBI. The central bank, however, had no much difficulty in coping with any threat to instability as a result of the big outflows.

By May 31, the country's foreign exchange reserve reached US$ 74.6 billion enough to cover imports and foreign debt servicing for 5.87 months.

In May, uncertainty in global financial market as a result of the European debt crisis put greater pressure on the exchange rate in emerging Asia including Indonesia. The rupiah was weakened 1.52% to Rp 9,167 per US dollar from Rp 9,028 in the previous month.

However, the rupiah gained 2.53% compared with the month in 2009.

Indonesian economy stable

So far this year, despite the turbulence in Europe and domestic hulla baloo, Indonesia's economy remains stable.

Improved export performances boosted the manufacturing sector and contribute to improving the people's purchasing power. With huge population, the fourth largest in the world and growing consumption Indonesia's economic resilience is stronger.

Earlier fears of the impact of the Greek debt crisis turn out to be false. Under such condition, Indonesia gains greater confidence from foreign investors. Increase in foreign direct investment is expected to help accelerate the country's economic development especially the real sector.

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