Indonesian financial markets have been less than rosy in recent months. The Indonesian rupiah has depreciated to a historic low, while the stock market has fallen significantly from its peak reached in the summer of 2024.
This is due to the turbulent international environment and domestic decisions. However, the country's significant potential still justifies investing there.
Investor flight
In 1st quarter GDP growth was at its lowest level since the 3rd quarter of 2021, when the recovery from the "covid recession" was still in its infancy.
A drop in public spending explains this, but also a sharp slowdown in investment spending and less dynamic exports. Asian countries outside China, and Indonesia in particular, had been the big winners from the restructuring of global trade during Donald Trump's first term, which primarily targeted Chinese products at the time.
But today, the American President's trade war is targeting all countries, which has driven investors away. This concerns both productive investments, as companies suspend their development projects while awaiting further clarity, and portfolio investments.
Indonesian stocks are being neglected due to the deteriorating short-term economic outlook. They are also victims of the return to favour of Chinese stocks, which are once again attracting capital to the detriment of other Asian markets. And so, while Chinese stock markets have been in the green since the beginning of the year, the Jakarta market is in the red.
A harmful political shift
The decline in Indonesian financial markets is all the more pronounced because they are also being neglected for domestic reasons. The new Indonesian President, Prabowo Subianto, elected on February 14, 2024, with his predecessor's son as his running mate, was expected to continue the policies he had successfully implemented over the past ten years. But since taking office last October, he has taken a new direction.
To stimulate economic activity, he wants to support consumption among the most disadvantaged households through expansionary social policies. However, providing food aid to millions of families, lowering electricity bills, and even reducing transportation costs will be extremely costly. And since Indonesia has a golden budget rule that limits the public deficit to 3% of GDP, these new expenditures will come at the expense of other items.
For instance, The Ministry of Public Works has seen its budget cut by 66%. This will delay dozens of essential infrastructure projects, particularly in the transportation sector, and the country's economic development.
Investments, the key to development
To harness its economic potential, Indonesia needs to invest, particularly in infrastructure, which remains underdeveloped mainly despite efforts over the past decade.
According to the World Bank's latest Logistics Performance Index, Indonesia ranks 59th out of 139 countries, lagging behind countries like Thailand and Vietnam, which also aim to develop their industries and integrate into international trade flows.
Every Indonesian rupiah spent on smart investments can generate several rupiahs of additional economic activity. A combined public and private investment rate of 40% of GDP, compared to just over 30% today, would boost GDP growth to 7%, compared to 5% in the last decade, excluding the COVID crisis.
Unfortunately, the new president's policy is heading in the opposite direction, with a decline in public investment. Given the trade uncertainty, private investment is also likely to decline this year. But given the opportunities the country offers, international investors won't be turning their backs on Indonesia for long.
A country that is essential in the long term
With a population of more than 280 million, Indonesia is the fourth most populous country. The population is young and is expected to remain so for decades to come. The urbanization rate is low. Tens of millions of Indonesians will continue to migrate from the countryside to urban centres and seek more productive jobs in the coming decades. Indonesia is also home to nickel and other minerals essential to the energy transition.
With these assets, the country will continue to attract foreign investors seeking to diversify their manufacturing supply chains, which are currently too heavily reliant on China or driven solely by attractive financial returns.
While it restricts public investment capacity, the golden rule of the public deficit allows public debt to be contained at just 40% of GDP, one of the lowest levels in the region. This rules out a significant financial crisis, especially since an independent central bank is closely monitoring the situation.
Specifically, the new president's social policy is delaying infrastructure improvements, but it does not undermine the country's significant economic potential. Once the trade fog created by Trump's actions has dissipated, there is no doubt that investors will return to Indonesia.
From a long-term perspective, Indonesian stocks are a compelling investment option. However, given their high volatility, they don't have a place in a defensive portfolio. Buy 5% of Indonesian stocks as part of a balanced or dynamic portfolio.
See below our investment portfolio recommendation:
