The Storm has Begun to Subside

KOMPAS/PRIYOMBODO

Finance Minister Sri Mulyani delivered her report at the Parliament complex, Senayan, Jakarta, Wednesday (10/31/2018).

There was some good news last week. For a start, the government and the House of Representatives (DPR) have approved to the 2019 state budget. Based on credible projections and assumptions, the budget can improve market confidence.

On the monetary side, Bank Indonesia (BI) has introduced a domestic non-deliverable forward, a hedging facility that will make investors more comfortable depositing their foreign exchange funds in Indonesia. From the external side, meanwhile, there have been positive developments in trade negotiations between the United States and China, which could ease the tension of the trade war.

Since US President Donald Trump began the trade war, the Chinese currency, the yuan, has weakened, which only deteriorated the US trade balance with China, in contrast to the intention to reduce the deficit.

Perhaps, President Trump has begun to realize that the trade war will be counterproductive. Meanwhile, world oil prices began to decline. The price of Brent crude oil is now hovering around US$72 per barrel, while the WTI crude oil price has dropped by $10 to $62 per barrel, even though the northern hemisphere is preparing to enter the winter.

There is one more factor that has the potential to alleviate pressure on the world economy. Inflation in the US is now starting to weaken. It was "only" 2.3 percent in September. Should it fall further to 2 percent (the ideal level for the US), the US central bank, the Federal Reserve, would not need to further raise the interest rate aggressively. Now, the benchmark interest rate is 2.25 percent, while the original plan is 2.50 percent by the end of this year and 3.25 percent next year.

With the latest developments in inflation, the Fed may end the benchmark interest rate below 3 percent, such as 2.5 percent or 2.75 percent. The decision is now in the hands of Fed Governor Jerome Powell: Will he stick with the original plan or change his mind to suit the latest conditions?

All of these factors have led to positive sentiment and contributed to the strengthening of the rupiah to Rp 14,972 per US dollar. This situation certainly gives great hope for the Indonesian economy, especially given that the 2019 state budget assumes an average exchange rate of Rp 15,000 per US dollar next year.

The most important thing about the 2019 state budget is that there is a strong will to reduce the government\'s budget deficit, which usually amounts to 2.5 percent of the gross domestic product (GDP), to 1.84 percent of GDP, the lowest since 2013. The reduction of the deficit also has a positive effect on the primary balance, which will be further reduced to close to zero. The primary balance will reach about Rp 20 trillion in 2019, down from the previous level of Rp 125 trillion in 2017 and the projected Rp 65 trillion in 2018.

The primary balance is the difference between total state revenue and state expenditure excluding debt interest payments. If state revenue is greater than state expenditure — excluding debt interest payments — the primary balance is positive, which means there will be still enough funds to pay the debt interest.

The state budget also reflects the government’s strong commitment to further improve the debt structure. At present, the government’s debt totals Rp 4.40 quadrillion, or about 30 percent of GDP, far from the threshold of 60 percent of GDP. Foreign debts of both the government and the private sector is about $360 billion (about Rp 5.40 quadrillion), or 36 percent of GDP.

This government’s projected exchange rate of Rp 15,000 per US dollar next year is the right assumption. Indeed, there is a risk of a deterioration in the global economy next year, if the interest rate increases continue, the US-China trade war intensifies and oil prices rise further.

However, things may go in the opposite direction. The Fed may not raise the interest rates as aggressively as planned. The US-China trade negotiations may run smoothly, and oil prices may fall to a more rational equilibrium. Don\'t forget, the US continues to actively increase the production of non-conventional oil (shale oil), and it could reach peak production in 2020. In the future, world oil supply will be abundant.

The Indonesian government targets economic growth of 5.3 percent next year, which is quite realistic and credible. On the one hand, the government has the desire to push economic growth higher, for example to 6 percent. However, the world economy has not shown any indication of recovery. The International Monetary Fund (IMF) has lowered the world economic growth forecast from 3.9 percent to 3.7 percent this year and in 2019, because of the lack of incentives.

We should not lose hope. If the US can refrain from further raising the interest rate and from waging the trade war, and there is an increase in oil supply, the future will look even brighter.

If global economic growth reaches 3.9 percent, it is not impossible that we can achieve growth above 5.3 percent in 2019. The most important thing for Indonesia is to stick to its agenda: (1) Improve the competitiveness to cut the current account deficit, (2) reduce the fiscal deficit by

improving the structure of tax revenue and (3) encourage exports of manufactured goods. It will be an uphill struggle to realize all these plans, but we should never give up reaching them. A TONY PRASETIANTONO, Head of the Center for Economics and Public Policy Studies, Gadjah Mada University)