Antibiotics for Purchasing Power
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The Islamic fasting month of Ramadhan and the Idul Fitri celebration, also known as Lebaran in Indonesia¸ are commonly known as a blessed and joyful time for all. Production and consumption usually spike at this time of year.
Economic prosperity and ramped-up production are a common sight, and inflation tends to rise due to rapidly increasing consumption. This year, however, we were presented with a somewhat different and unusual occurrence, said to be an anomaly. Most business players complained about their sales plummeting compared to last year’s Ramadhan period. People did not flock to modern and traditional markets, shops and malls like they used to.
In line with dropping sales, company profits should have plunged. However, big and well-established companies in fact recorded profits in the first half this year. For a unique and interesting perspective, just take a look at the profits of the companies listed on the Indonesian Stock Exchange (IDX). Most of them recorded higher profits in the first semester this year compared to the same period last year.
Both the banking and the non-banking financial industry registered profit growth of 28.8 percent, with total profits of Rp 38.2 trillion (US$2.87 billion), followed by the consumer goods and pharmaceuticals industry at 6.7 percent (Rp 19.6 trillion). The automotive and heavy equipment industry saw profits grow at 37.3 percent (Rp 13.2 trillion), retail at 25.7 percent (Rp 2.4 trillion), telecommunication at 12.8 percent (Rp. 14.1 trillion), construction at 82.2 percent (Rp 2.5 trillion), infrastructure at 126.4 percent (Rp 1.1 trillion) and energy and mining at 117.8 percent (Rp 2.2 trillion).
There were only two sectors with a poor performance, namely property with a 1.4-percent drop in profits (Rp 1.7 trillion) and, more severely, services, with losses increasing from Rp 0.8 trillion to Rp 3.7 trillion.
With relatively flat economic growth in Indonesia compared to 2016, I assume that the companies’ improving profit is the result of successful cost efficiency efforts. A sample of four companies, namely Ramayana (45.3 percent), Matahari (15.5 percent), Indofood (1.8 percent) and Unilever (10.0 percent), shows increasing profits yet slowing sales growth compared to 2016.
Ramayana’s increase in sales this year was lower than in 2016. Sales increased by 9.8 percent in the first semester of 2017 compared to 24.5 percent in 2016. Matahari only booked profit growth of 10.8 percent, a significant drop from 31.0 percent. Indofood enjoyed a minor increase of 1.6 percent, compared to profit growth of 9.8 percent in 2016. Unilever also had a lower increase of 2.5 percent in the first half of this year, compared to 10.3 percent last year.
As a matter of fact, lower sales do not necessarily mean lower purchasing power. Perhaps, people were just delaying their consumption to anticipate greater government certainty and regulations in the future.
Debates surrounding decreasing purchasing power currently dominate the national economic discourse. Is it true that people’s purchasing power is decreasing? If it is not true, is it instead a delay in spending? Or is it both? Or, on the contrary, is people’s purchasing power still strong but there is a change of spending behavior from conventional (offline) to online retail?
At first, I hoped it was only a spending delay. This year’s Lebaran was a little close to the start of the new school year. People might have used their money to buy school needs and, therefore, might have been more stringent with their Lebaran spending. However, if we take a closer look, there was indeed a decrease in purchasing power. It did not occur suddenly, but rather in a slow process that eroded people’s spending power.
Signs of this decrease in purchasing power were evident at first in the decreasing prices of Indonesian primary export commodities (especially coal and palm oil) since 2011. The decrease in commodity prices resulted in lower gross domestic saving (GDS). The GDS peaked in 2011, when it reached 35.5 percent of the gross domestic product (GDP). With a trend of GDS decreasing to 32.9 percent in 2016, it is expected that the GDS would decrease to 32.5 percent in 2017.
It is this condition that triggered the decrease in people’s purchasing power, as reflected in the significant decrease in the growth of real M1 (narrow money) circulation from 16.2 percent in 2012 to 1.0 percent in 2014. People’s purchasing power has rebounded since 2015, as reflected in the average growth of real M1 money circulation of 5.3 percent in 2015, which increased to 11.5 percent in the first half of this year.
Not as bad as expected
Thus, it is clear here that the decrease of purchasing power was not as severe as what many were expecting. Purchasing power has improved, especially in the last two years. However, it may not be strong enough to support Indonesia’s economic growth. A five-percent rate of economic growth is not enough to support the existing economic burden. Growth of at least 5.5 percent is necessary for this. As a result, domestic consumption growth tends to be slow and stagnant. It was only 4.95 percent in the second quarter of this year, a marginal increase from the 4.94 percent in the first quarter.
Therefore, a slowdown in demand is inevitable, and this leads to a significant drop in sales in almost all economic sectors. The pressure on sales is exacerbated when the upper class tends to delay spending due to psychological reasons rather than purchasing power.
Just take a look. For the upper class with savings of more than Rp 5 billion, their rupiah savings grew from 11.5 percent last year to 15.3 percent in May 2017. For those with savings between Rp 2 billion and Rp 5 billion, their rupiah savings grew from 7.8 percent to 8.6 percent in May 2017. On the other hand, those with savings of less than Rp 2 billion, their rupiah savings decreased from 8.8 percent last year to 7.7 percent in May 2017.
I assume that the lack of spark in the real sector of the economy was mainly triggered by the lack of preparedness of the Indonesian economy for structural change. Household consumption that has been a mainstay in driving the domestic economy for more than half a century (for 56 years since 1960) is seemingly saturated.
Low household consumption is evident from the increasing portion of food and beverage consumption from 26.2 percent in the first half of 2012 to 38.7 percent in the first half of 2017. Clothes consumption (from 4.8 percent to 2.7 percent), transportation and communication consumption (from 29.5 percent to 26.7 percent), hotel and restaurant consumption (from 12.5 percent to 10.6 percent) and other consumption (from 5.3 percent to 2.0 percent) are all on a downward trend.
Shifting the source of Indonesian growth from consumption to investment is surely not a walk in the park. Inadequate and poor infrastructure legacy is a huge burden for the current administration. As a result, the path to decrease dependency on consumption and make a switch to investment is not smooth.
Demands to improve infrastructure and achieve instant positive results seem unfair to the Joko Widodo-Jusuf Kalla administration. Nevertheless, the government has attempted massive infrastructure projects with budget limitations in the past two years. As a result, there is an increasingly large state budget deficit burden for infrastructure funding. This forces the government to increase its tax receipt target at a time when the economy is still not strong.
In stagnant economic conditions, the infrastructure development budget can perhaps be cut by 15 or 20 percent of the current infrastructure budget of around Rp 368 trillion. This will at least reduce the pressure on the government’s revenue target. If possible, a part of this infrastructure budget cut can add to short-term stimulus, especially to boost the poor’s purchasing power.
Short-term solutions
In the short term, we need to be wary of the crowding-out effect that disrupts purchasing power, delays consumption and investment and eventually reduces the economic growth potential. I think only the government will be able to move fast enough to inject antibiotics in the form of fiscal stimulus to prevent a crowding-out effect spreading uncontrollably in the economy.
There are two economic groups for which antidotes must be found soon.
First, there are the poor, or the lower class, whose purchasing power is eroded by increasing inflation this year. The implementation of the Family Hope Program (PKH) and distribution of rice for welfare must be accelerated. The effectiveness of the village fund implementation, involving a budget of Rp 59 trillion, should be increased, so that it can boost the economy in villages.
If possible, a direct cash aid (BLT) scheme a la Jokowi-Kalla that properly targets those who need it the most must be implemented. In relation to prices, the government must stay focused on maintaining the level of inflation in this year’s second half, especially with regard to fluctuating food prices and government-regulated prices.
Second, there is the middle-to upper class that is delaying spending and investment. The government should be able to convince them that its economic policy packages, which are deemed to be a source of discomfort, would in fact be good for them. Related to the upper-middle class, individual and corporate income tax cuts can be explored. This may boost people’s consumption even if it may decrease the government’s tax revenue in the short run.
The economy needs mutually beneficial government policies and people’s behavior. Harmonization between the two is important to maintain a good economy. Smooth communication between the government and the people is needed to assuage public fears.
We should contemplate the words of Indian philosopher Jiddu Krishnamurti: “If we truly understand the problem, the answer will come by itself, as the answer is never separated from the problem.” Let us wait for the recovery of the purchasing power and an increase in consumption and investment in the second half of this year. William Shakespeare once said, “There is nothing either good or bad but thinking makes it so.”
ANTON HENDRANATA
Chief Economist, PT Bank Danamon Indonesia Tbk
