Lead Story: A daunting year for Malaysia and Indonesia

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IT is a testing time for Malaysia and Indonesia, two of Southeast Asia’s economic powerhouses. Amid a worsening outlook for the world economy, a half-decade of prosperity slowed down last year for the two countries, which are particularly exposed to volatile commodity prices and the flight of foreign funds accustomed to high yields.

However, at a media briefing on the sidelines of Credit Suisse’s 4th annual macro conference and 6th annual Asean conference earlier this month, its heads of research from Malaysia and Indonesia were sanguine about the prospects for the two neighbours and optimistic that important changes could be instituted.

Jahanzeb Naseer, Credit Suisse’s head of research for Indonesia, noted that the republic will be grappling with a multitude of institutional and political reforms and Malaysia with economic and fiscal reforms.

He said President Joko Widodo, or Jokowi as he is popularly known, has proved his reformist credentials by making and implementing tough decisions.

“For example, Jokowi chose to cut fuel subsidies even when crude oil prices were at US$80 per barrel and he changed the board of (state-owned oil company) Pertamina, which not many had expected. That’s a sign of his commitment to executing reforms. Over the past 15 years, none of the previous governments touched this because it was a very difficult thing to do.”

To encourage growth, Jokowi is redirecting the close to US$30 billion (RM108 billion) in savings from the fuel subsidy cut to infrastructure development. New land reforms are expected to be announced. 

“After US$30 billion in savings following the fuel subsidy cut, spending it to boost infrastructure will be challenging as Jokowi now needs to cope with land reforms and ensure ease of investment,” observed Jahanzeb.

According to him, new land reforms are expected to be announced by the end of this month, which would smooth the way for land acquisitions that are dedicated to infrastructure projects, such as highways.

“However, this will be Jokowi’s next big challenge as he now has to deal with various departments and stakeholders to make it happen. This is more difficult than a single policy decision.”

It is worth noting that last Tuesday, the Indonesian Parliament voted unanimously to reinstate direct elections that were scrapped last October. This means direct elections will be held for mayors, regents and governors.

Malaysia faces a different set of challenges, said Credit Suisse’s head of equity research Tan Ting Min, including dealing with the reality of low oil prices and the economic ramifications for the country going forward.

“Malaysia was the worst-performing market in Asean last year partly due to the weak crude oil prices and ringgit, which continued to decline at the start of 2015. But every cloud has a silver lining: the second half of this year should be better for the equity market as all the negative elements would have been factored in,” she pointed out.

Tan highlighted the implementation of the Goods and Services Tax (GST) as a key theme this year. She said she sees a spike in consumption just before April and a slump thereafter before gradually normalising.

“It would take about 6 to 12 months for domestic consumption to normalise after factoring in GST. There will also be problems when it comes to the tax’s implementation and it may take up to a year to sort everything out. Even the highly efficient Singaporeans had problems [with their implementation] for a year.”

Both heads of research agreed that Indonesia and Malaysia’s exposure to “hot money” or foreign capital outflow remains a looming problem.

Jahanzeb pointed out that foreign holding of Indonesia’s sovereign debt is at an all-time high.

“The risk of hot money outflow is on the bond side instead of equities, similar to what Malaysia is currently facing. If people worry about a scenario where the interest rate [for the US dollar] is headed upwards, the outflow from bonds will put more pressure on the local currency, which in turn will negatively affect the current account balance,” he said.

The external pressures notwithstanding, Credit Suisse remains optimistic about Indonesia’s growth prospects but not so much about Malaysia’s. In a Jan 20 note, Tan explains that the group’s 2015 gross domestic product (GDP) forecast of 4.8% for Malaysia is below consensus expectations.

Last Tuesday, Prime Minister Datuk Seri Najib Razak announced revisions to Budget 2015 and lowered the country’s GDP growth target to between 4.5% and 5.5% this year from between 5% and 6%.

Economic growth in Indonesia, on the other hand, could surprise on the upside.

“I think the expectation of 5% GDP growth right now is probably underestimated. The investment needed for infrastructure over the next five years is US$300 billion. Instead of a 43% year-on-year increase in infrastructure expenditure, we may be looking at a 200% increase, thanks to the reduced fuel subsidies,” Jahanzeb said.

Indonesia will remain a top investment destination in the region if reforms are speedily executed, he added.

Both experts concur that corporate earnings growth in Indonesia will outpace Malaysia’s this year due to the respective economic factors.

While Tan said earnings growth for Malaysia will be underwhelming at below 8%, Jahanzeb believes that the focus on infrastructure growth and the corresponding investment inflow will result in around 12% to 13% earnings growth for Indonesia.

“With the upcoming GST and expected weak economic and earnings numbers, I think the first half of the year will be quite tricky for Malaysia,” Tan concluded.

Indonesia’s recent fuel subsidy cut has resulted in savings of US$30 billion for the government

This article first appeared in The Edge Malaysia Weekly, on January 26 - February 1, 2015.