- The potential for Indonesia to be one of the better-performing economies and markets in the next decade is growing.
- If President Jokowi wins again in the 2019 election, a growth and anti-corruption agenda could spark change.
- Technology may weaken the control of vested interests, breaking barriers to entry, lowering prices and creating jobs.
- The lapsing of negative short-term cyclical impacts (cuts to fuel and electricity subsidies, tax amnesty and falling commodity markets) suggests an economic rebound in 2019.*
*On a cyclical note, the economy was weak in 2017 due to a number of factors:
– The general weakness in commodity markets;
– The removal of fuel and electricity subsidies which has hurt the poor significantly;
– The tax amnesty. The government is moving to a system where anyone unable to provide proof of sufficient income to purchase assets they own will be subject to punitive tax. The tax amnesty allowed all assets, regardless of providence, to be declared and 2% tax paid, scaling with time. The tax amnesty has temporally reduced spending and property transactions as cash flow was diverted to pay tax, but making tens of billions of dollars legal, of mostly offshore assets, may have a positive long-term effect, if and when these monies are directed into greater domestic investment opportunities.
“The Jakarta skyline is different now; a few more glass buildings dot the urban sprawl.”
This was my third trip to Indonesia. The last was in 2005 and back then I left feeling that, for various reasons, as a long-term stock picker the country was a dangerous arena for foreign investors. Indonesia suffered, and still does, from the hallmarks of a failing democracy; a model rentier society driven by policy paralysis and embedded competitive corruption at all levels of the state. It seemed to me back then that vested interests ensured that the currency was to be devalued, debt was to be defaulted and equity was an avenue to monetise assets for vested interests. Still, it was trading around with a commodity boom ahead, so there was money to be made.
The Jakarta skyline is different now; a few more glass buildings dot the urban sprawl. At the ageing airport, the ‘Visa on Arrival’ counter used by immigration officials to extract additional payments from tourists has gone. However, unlike elsewhere in ASEAN, there is no airport express or MRT (mass rapid transit). The 30 kilometres to the city centre still take one-and-a-half hours on weekdays. There has been less infrastructure change in Jakarta over the past 20 years than in any other Asian economy; 10% annual car growth over the last few years has been matched with 0.2% road building. Something, however, is changing. Many new projects are under construction, driven by the current government. They are scheduled to complete by 2018/19 and, despite my initial scepticism, most people on the ground think this will be achieved. Anecdotes suggest that, historically, road building plans would be fully funded at the outset, 30% of the funds would then be taken by vested interests, leaving the project short of funding and unfinished waiting for the next government to bankroll it again. Hence the unwillingness of the private sector or the banks to fund and build infrastructure.
Jakarta is not an international city. For many, Indonesia has not been welcoming to either foreigners or, surprisingly, their money (at least not in the sense that it will be allowed to make a return). There are fewer foreign expatriate licenses now than in 1983 and a recent ruling trying to tax foreigners on all their worldwide income, an excuse for a shake-down, is unlikely to help the situation. The Chinese, however, are coming. Unlike western companies, they seem to be able to ‘play the game’. A smelter is being built with Chinese materials and labour (which I’m told is illegal). Country Garden, a Chinese property developer, is constructing apartments at twice the speed of competitors, despite denials surrounding the use of Chinese labour. Rumours suggest that the Chinese are being treated preferentially over Westerners. Freeport-McMoRan was concerned it would not be granted an extension to its copper licence expiring in 2023, despite demands by the government to undertake significant investments. Vale built a nickel smelter on the government's orders, local peers dragged their feet on their own investment and the export ban on nickel ore was rescinded.
The rise of Joko Widodo
Megawati Sukarnoputri, the leader of the Indonesian Democratic Party of Struggle (PDI-P) and daughter of the founding president of Indonesia, having twice failed to win the presidential nomination due to perceived unpopularity, approached Joko Widodo (also known as ‘Jokowi’), the mayor of a small provincial town, who had achieved significant success in infrastructure building and reducing corruption, to stand for mayor of Jakarta (a position he was to hold from 2012 to 2014).
In 2014, he was elected president of Indonesia, becoming the first non-military or political ‘outsider’ elected to the post.
It is assumed that Megawati had hoped that Jokowi would be her puppet. However, his anti-corruption stance led to the PDI-P withdrawing its support and Megawati openly trying to undermine him. This led to the president not having the full support of any major party within the government. The recent imprisoning of the ex-mayor of Jakarta, a former running mate and friend of Jokowi, on blasphemy grounds (he is Chinese and Christian), was seemingly driven to undermine Jokowi and indicates that the president’s influence is still constrained (seemingly, religion in Indonesia is increasingly being used as a political tool).
So far, Jokowi has instigated $22 billion of spending on infrastructure programmes, including a restarted light rail transport and MRT system for Jakarta and numerous toll roads across the country. According to Bank Negara, its infrastructure book is on schedule to complete in 2018/19. However, Jokowi has been hampered in his efforts by a political system not willing to forego its traditional emoluments.
On my trip, there was overwhelming support and expectation that Jokowi would win the 2019 presidential election, but he has lost the support of the PDI-P and cannot run unless he has a party backing him. With the nomination of Jusuf Kalla as vice president, Golkar (his political party) is the obvious choice. However, the current Golkar party chairman, Novanto, is being investigated for tax fraud, potentially leaving an opening for a pro-Jokowi supporter to take the helm. The recent appointment of Air Chief Marshall Hadi Tjahjanto as the new armed forces commander – he is both a Jokowi loyalist and a religious moderate, as is the president – is a strong positive sign. Although politics here is uncertain, at October 2017, Jowkowi’s poll numbers show 60% support versus his rival, Prabowo Subianto, in a head-to-head, and a 76% approval rating.
Jokowi is not a strongman reformer, unlike Modi in India, and he also does not seem to be an idealist. He does, however, have a strong track record of building infrastructure, popularity, pragmatism and a can-do approach, coupled with a clean image and no family patronage. This makes it possible that a strong showing in 2019 could usher in a period of strong reforms and growth for the country.
Furthermore, the potential impact of technological change should not be forgotten. Indonesia has only partly participated in the global disinflationary boom. As evidenced by other emerging countries in recent years, the potential for technology to replicate or bypass infrastructure bottlenecks, vested interests and create wealth amongst the larger population is extremely high. For interest, since 2016, $2.8 billion was raised in just four transactions by Indonesian technology private equity companies.
Grab, Uber and Go-Jek (motorbike transportation and delivery) have already revolutionised the transportation market in the country; Go-Jek itself has created 900,000 new jobs. E-commerce is pushing down consumer prices, giving access to a wider population and creating new small businesses. In addition, electronic wallets will challenge incumbent banks’ dominance and margins.
Both the Baillie Gifford Pacific Fund and the Pacific Horizon Investment Trust currently* hold the fourth largest government bank, Bank Tabungan Negara, which is the dominant lender in the mortgage housing market and benefiting from the increased housing growth targets and the rise of the middle class. Pacific Horizon also holds Vale Indonesia and Aneka Tambang, where we hope to see upside driven by the increased use of nickel in electric vehicles and, further out, a possibility of a more benign regularity framework for foreign investors in commodities.
We recently invested in Sea Limited, which currently runs Shopee, a leading third-party marketplace in South-East Asia. The platform has grown rapidly since its launch in 2015 and its gross merchandise value reached $1.1 billion at the end of 2017. Its Indonesian arm, where e-commerce penetration is only 0.4% versus 3.5% in the US or 3.1% in Taiwan, is where we see significant potential upside. The consultants, Frost & Sullivan, estimate that the market will see a five-year compound annual growth rate of 57.7% and will emerge as the region’s largest online market, worth $22 billion by 2021 from $3.6 billion today. We visited one of the sellers on the Shopee platform. Around 12 months ago it set up its Shopee store by listing products currently held in its three offline stores. The business has grown 10x over the year and is now a multiple of the size of the offline stores. The growth of the online model is creating demand from areas which traditionally had no access to these products or services, or where the cost of getting them was too high. Shopee is allowing small businesses like this to flourish by connecting them to willing consumers who have not been serviced by the existing infrastructure.
* As at 31 January 2018
I went to Indonesia sceptical about a country whose dollar GDP per capita has fallen since 2010 and is now close to half that of Thailand, and a stock market which in dollar terms has gone sideways for seven years. However, I feel that there is a possibility that Indonesia may emerge in the next few years as one of the most exciting growth stories globally. To achieve this, the stars have to align. An infrastructure and technology led disinflationary boom would create jobs and increase disposable incomes dramatically for a very young and growing population, a scenario not dissimilar to India in early 2013.
Ewan Markson-Brown, Investment Manager - First Quarter 2018
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The following article has been written by Ewan Markson-Brown, manager of the Pacific Horizon Investment Trust and co-manager of the Pacific Fund. Both Pacific Horizon and the Pacific Fund invest in Indonesia, although it should be noted that these holdings only make up a portion of the funds’ total investments.
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