Business risk in Indonesia amidst upcoming uncertainty

The forthcoming local and national elections in Indonesia will see the end of a period of relative calm. Political risk, institutional weakness and market volatility will almost certainly increase. However, investors should not over-react to such turbulence. A nuanced response is necessary to ensure long-term businesses continuity.

Looming Uncertainties

Indonesia’s local polls on 27 June will command little international media heed, but will have significant implications for foreign business.

The elections may lead to the replacement of 17 Governors, 39 Mayors and 115 Regents, all of whom have had significant clout over important decisions, such as those on land allocation, or on permit approvals.

Hitherto, these decisions had faced little effective scrutiny, because of the decentralisation of administration in Indonesia after 1998. However, a significant change in senior personnel will prompt reappraisal, perhaps even leading to new corruption investigations, and arrests.

Institutional frailty only adds to uncertainties. Some pundits argue that decentralisation simply shifted corruption from Jakarta to many different regions – an exaggeration, but one containing a nub of truth. Moreover, even the best intentioned local authorities lack the capacity to handle complex, commercial issues.

Political and Market Worries

The national level, with presidential and parliamentary polls in April 2019, proffers similar doubts. In recent years, incumbent President Joko Widodo (“Jokowi”) has streamlined investment rules, encouraged infrastructure projects, and maintained a stable regulatory environment. Consequently, Indonesia’s economy has grown at 5% per annum, or so.

However, Jokowi must now defeat Prabowo Subianto, a former Special Forces general and son-in-law of former President Suharto, in elections. Jokowi is well ahead in the polls, but Prabowo’s success in ousting former Governor of Jakarta Basuki Tjahaja Purnama (“Ahok”) highlighted how use of religion to rally the disaffected could yet dilute Jokowi’s ‘everyman’ charm. Thus, much will ride on Jokowi’s selection of a running mate with solid, Muslim credentials, albeit grafted to reformism.

In the interim, the lure of populism, religious or otherwise, will intensify, somewhat eroding the government’s overt adherence to solid pro-business policies. Jokowi is reinstating popular fuel subsidies, at the cost of an (underestimated) IDR94.5 trillion (USD6.8 billion) per annum, to the detriment of infrastructure spending. Prabowo has portrayed lighter regulations on expatriate workers as being a sell out to foreigners. Appeals to sordid nativism will multiply, perhaps fomenting religious intolerance in the short term.

Market queasiness is a related risk; and it could worsen. The strengthening US dollar has provoked a fall in the Indonesian rupiah, and a spike in debt yields, to 7.85% in late May. Bank Indonesia has raised rates, but some investors fear a repeat of the 2013 ‘Taper Tantrum’, when the rupiah plunged from IDR8,000 to IDR13,000 against the USD, in short order.

No Need for Panic

Investors should not despair, though. After all, the overall trend is one of gradual improvement. The Election Commission’s banning of candidates with a corruption conviction may root out some local barons, for one thing. At the national level, the election is Jokowi’s to lose; Prabowo now seems to be yesterday’s man, although one still with considerable clout.

Moreover, the economy is much more resilient than in 2013. The current account deficit fell from 3.2% of GDP in 2013 to 1.7% in 2017, and inflation slid from 6.4% in 2013 to 3.8% in 2017. Foreign direct investment rose 11.8% in the first quarter of 2018, and the budget deficit, at about 2.1% of GDP, appears manageable. The appeal of Indonesia’s vibrant consumer market remains strong.

Even the tragic multiple bombings in Surabaya in East Java on 13 and 14 May 2018 should be seen in context. The attacks, which killed 28 people, focused as usual on minorities and the police. However, the use of family groups (including children) as bombers was a shocking, new tactic, perhaps inspired by the conflict in Syria.

Indeed, the head of one family had strong ties to Jamaah Ansharuud Daulah (“JAD”), which has declared loyalty to Islamic State (“IS”), and may have received support from jihadist returnees; the bombs recalled those in use in Syria. For now, though, Indonesia’s security forces have responded in strength, and show signs of adapting to the new threat.

Foreign Investors need to be nimble, be quick

These challenges could prove damaging to investors, then, but none of these are insurmountable, and could even present opportunities – if businesses respond nimbly.

Those businesses considering investment in Indonesia should:

Gather early business intelligence on political and regulatory changes. Key considerations might be: assessments of new leaders; changes to regulations; treatment of permit applications; and taxation decisions.

Commission comprehensive, investigative due diligence assessments of prospective partners. The focus should be on the reality of political and business risks, not just on a reassuring paper trail.

Identify probable winners of such changes. A cheap rupiah may present buying opportunities.

Those businesses already operating in Indonesia should:

Carry out a “real world” audit of vulnerabilities. Businesses should ensure oversight of local operations is sound, and must respond to issues such as corruption investigations, discriminatory regulatory actions, or staff defections.

Commission “refresh” investigative due diligence into partners. Doing so is especially important in locales that will see transfers of political power.

Examine efforts to restructure businesses closely. Such measures may be a means to disguise ownership, or to minimise liabilities.

How SVA can help

SVA [url=http://www.stevevickersassociates.com]http://www.stevevickersassociates.com[/url] has carried out a large number of business intelligence, investigative and special risk projects in Indonesia. The team has many years of experience assessing business risk and carrying out investigations and due diligence assignments across the country.

As such, SVA is in a strong position to help investors understand the nature of the risks in doing business in Indonesia, and in Asia as a whole. Please do not hesitate to contact us by telephone, or via email to [email protected]