Indonesia is flirting with the wrong foreign money

This article first appeared in The Edge Financial Daily, on September 14, 2018.
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PRESIDENT Joko Widodo could learn an important lesson from the Indonesian rupiah’s slide this year: He is attracting the wrong kind of foreign money.

The rupiah is among the world’s worst-performing currencies this year, down almost 9%, even though the country seems to be doing the right things. Bank Indonesia has raised benchmark interest rates by an aggressive 1.25 percentage points to counter the strong dollar, while in a show of fiscal discipline, the government recently shrank its deficit to 1.85% of gross domestic product, from a previous estimate of 2.1%.

Jokowi, as the president is popularly known, may well feel he is getting a raw deal. Indonesia’s current account deficit has improved from the 2013 taper tantrum days, and the nation is out of the so-called Fragile Five emerging markets seen most at risk of a currency crisis, according to analysis by Bloomberg economists.

But the value of a currency is determined ultimately by a country’s attractiveness as a destination for long-term investment. On that gauge, Indonesia has a terrible score.

In the second quarter, foreign direct investment (FDI) into the country contracted 12.9% from a year earlier, the first decline since at least 2011, placing Indonesia last in a ranking of Southeast Asian neighbours relative to the size of their economies.

Part of this is down to Jokowi’s show of independence from Beijing. Indonesia practically closed the door to the sort of Chinese investment that fuelled Vietnam’s manufacturing boom, and hardly participated in president Xi Jinping’s signature Belt and Road Initiative. The US$5.9 billion (RM24.49 billion), 142km Jakarta-Bandung high-speed rail connection is the only meaningful infrastructure project involving China.

To be sure, the president’s caution is understandable. From Malaysia to Pakistan, governments along China’s belt and road are now asking if they’re getting a fair deal.

It’s not as if Jokowi is self-reliant, however. His 4,800 trillion rupiah (RM1.35 trillion) infrastructure drive has to be financed somehow. According to the World Bank, Indonesia’s logistics performance index is among the lowest in Asia.

Since Jokowi took office in October 2014, the amount of local government bonds outstanding almost doubled to 2,274 trillion rupiah, and close to 40% of that was owned by foreigners. When emerging markets are in turmoil, global fund managers either sell their holdings or hedge their currency risk with forwards — both of which pressure the rupiah. In spurning more stable FDI, the country is flirting with hot portfolio money.

It may be too late to turn back. The window for China’s overseas construction boom appears to be closing. In the second quarter, growth in the nation’s outbound infrastructure construction revenue slowed to just 0.3%, from 5.8% last year. Recent debt crises among Beijing’s old friends in Argentina, Venezuela and Pakistan may further sap Chinese money. 

In addition, China has not had a particularly good experience in Indonesia. The Jakarta-Bandung rail project, awarded in 2015, has barely started, because of land ownership delays. Beijing is not used to such sluggishness. 

As Indonesia approaches an April general election, the opposition has started attacking the government’s debt binge. The real problem may be less the size of the debt and more the nature of the creditors. Jokowi chose backers who can head for the exits at any signs of greater distress. — by Shuli Ren, Bloomberg

Shuli Ren is a Bloomberg Opinion columnist covering Asian markets. She previously wrote on markets for Barron’s, following a career as an investment banker, and is a CFA charterholder.