## cr1737 ## Source details **Canonical URL:** [cr1737](https://www.imf.org/-/media/files/publications/cr/2017/cr1737.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2017/cr1737.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2017/cr1737.pdf.json) --- ### Overview and policy priorities - Indonesia has maintained macroeconomic stability while adjusting to recent shifts in the external environment through a prudent mix of macroeconomic policies and structural reforms. - Key achievements: - Growth has slowed slightly but remained robust. - Inflation has eased. - The external position has improved. - A gradual fiscal consolidation has begun. - Major progress on the financial stability framework, including passage of the FSCPM Law in March. - Structural reforms since 2015 improved the business environment and supported positive sentiment and capital inflows in 2016. - Policy challenge: deepen structural reforms to boost productivity and growth while maintaining and improving policy buffers to boost resilience in an uncertain and volatile external environment. - Staff policy priorities: - Strengthen the medium-term fiscal framework with a growth-friendly revenue strategy and improve public spending effectiveness and efficiency. - Stand ready to adjust monetary policy to changes in the external environment, while maintaining exchange rate and bond yield flexibility. - Implement the enhanced financial stability framework, improve inter-agency coordination to respond to shocks, and sustain vigilance on pockets of macro-financial vulnerabilities in bank and corporate sectors. - Deepen structural reforms to improve the business environment and support private investment. ### Recent developments (selected findings and statistics) - Growth and demand: - Growth remained robust at 5.0 percent in 2016:Q3, driven by resilient private consumption despite modest fiscal consolidation and weak private investment and external demand. - Private consumption is the main driver of growth; investment remains subdued. - Inflation: - Headline inflation dropped to the bottom of the official target band (3−5 percent)—the lowest since end-2009. - Output gap estimated at ½ percent of GDP (small negative). - Core inflation also moderated. - External sector and reserves: - Current account (CA) deficit was 2.1 percent of GDP in Q1–Q3:2016, driven by lower imports that more than offset lower exports. - Official reserve assets rose to US$111.5 billion at end-November 2016 (around 8 months of prospective imports). - Financial markets and credit: - Credit growth slowed to the lowest over the past few years on weak corporate demand, before slightly picking up recently. - In the period November 8–December 16, 2016: equities fell by 4 percent, benchmark 10-year bond yields rose 70 bps, and the rupiah weakened 2.3 percent, with portfolio outflows. - Corporate external borrowing began to decline after rapid rises in previous years; credit growth remains tepid. - Corporate debt-at-risk with interest coverage ratio less than 1 picked up somewhat in 2016. - Banks’ nonperforming loans (NPLs) have risen from a low level; liquidity remains tight in some smaller banks; deposit growth slowed. - Fiscal financing: - Fiscal financing remains reliant on nonresident investment in local currency government bonds and in global bond issues. - The government placed international bonds amounting to US$3.5 billion in December 2016. ### Outlook and scenarios - Near-term projections: - Growth in 2016 projected at 5 percent; 2017 growth expected to rise modestly to 5.1 percent, led by a gradual pickup in private investment due to stronger commodity prices, low interest rates, and recovery in external demand. - Inflation expected to rise from 3.2 percent at end-2016 to around 4.5 percent at end-2017, largely due to lower electricity subsidies and some recovery in commodity prices. - The CA deficit expected to remain at around 2 percent of GDP in 2017. - Medium-term projections: - Growth projected to increase to 5½ percent by 2020, supported by a gradual recovery in fixed investment and ongoing structural reforms, with the output gap closing by 2018. - International reserves projected to gradually increase; the reserve adequacy metric broadly stable. - Illustrative enhanced reform scenario: - Under staff's illustrative enhanced reform scenario with a more growth-friendly fiscal policy, growth would rise to 6 percent by 2021, mainly from higher infrastructure and social spending and some productivity gains from capital accumulation and reforms. ### External assessment and risks - External position assessment (2016): - Staff estimates the current account gap to be between -0.8 and 1.2 percent of GDP. - The REER gap estimated in the range of -6 percent to 4 percent. - External debt at end-September 2016: 35.8 percent of GDP (about half public). - Reserves at about 130 percent of IMF’s reserve adequacy metric (projected for end-2016). - Conclusion: external position remains broadly consistent with medium-term fundamentals and desirable policy settings; external financing sustainable but sensitive to volatility. - Main downside risks (largely external): - Uncertainties around policies of the incoming U.S. administration, tighter and more volatile global conditions, spillovers from a significant China slowdown, and lower commodity prices. - Sovereign and corporates could face higher funding costs, exchange rate depreciation, and capital outflows if U.S. interest rates rise further. - Domestic risks: smaller fiscal buffer from tax revenue shortfalls or higher domestic interest rates; domestic political tensions associated with regional elections. - A confluence of external and domestic factors could intensify pockets of macro-financial vulnerabilities in banking and corporate sectors. - Policy response under severe external pressures: - Tighter aggregate demand management and continued exchange rate flexibility could help contain risks. - International reserves should be used primarily to prevent disorderly market conditions, provided reserves remain adequate. - If international financial markets were closed to EMs for a protracted period, targeted measures to alleviate funding pressures for banks and corporates would help preserve financial stability. - Contingent financing available totals about US$83 billion, inclusive of the Chiang Mai Initiative Multilateralization and bilateral swap arrangements. ### Authorities’ views and stance - Authorities broadly agreed with staff on the macroeconomic outlook and reaffirmed commitment to: - Maintain macroeconomic and financial stability. - Enhance the medium-term framework to raise growth potential. - Authorities’ outlook specifics: - Growth projected to strengthen in 2017, underpinned by recovery in private investment and higher coal and palm oil prices. - Inflation and expectations remain at multiyear lows. - CA deficit expected to remain well contained; reserve buffers have risen considerably. - With a flexible policy framework, contingency plans, and available contingent financing, authorities view Indonesia as well positioned to manage downside risks emanating primarily from abroad. ### Fiscal policy, revenue mobilization, and reform recommendations - Government strategy and targets: - Fiscal strategy centers on broadening the revenue base, expanding priority expenditures, and improving efficiency, within the statutory fiscal deficit limit of 3 percent of GDP. - Objectives include strengthening tax collection, simplifying exemptions, broadening the tax base, reallocating unproductive spending, and improving spending efficiency (infrastructure, social programs, transfers to local governments). - Government aims to gradually lower the fiscal deficit to 2¼ percent of GDP over the medium term. - 2016 fiscal developments: - Fiscal deficit of 1.8 percent of annual GDP in 2016:H1 due to weak revenues; revised financial plan (August 2016) projected a fiscal deficit of about 2.7 percent of GDP for 2016. - Tax amnesty collections: Rp 99.2 trillion or 0.8 percent of GDP as of November 30, 2016; for 2016 as a whole, tax amnesty collections projected to reach 0.9 percent of GDP. - 2017 budget and targets: - 2017 budget targets higher revenue (nominal tax collections up around 13 percent), more efficient spending in priority areas, and a fiscal deficit target of 2.4 percent of GDP. - Plans to upgrade main tax laws in 2017, including VAT and income tax laws, using tax amnesty information and external databases for audits. - Budget reallocations: more spending on infrastructure, education, and health; reduction and better targeting of electricity subsidies for the poor; increased transfers to local governments for infrastructure. - Staff recommendations: - Continue improving subsidy targeting and reduce operational spending while protecting priority spending. - Carry out expenditure reviews in agriculture, health, and education to improve efficiency. - Rebuild fiscal buffers by lowering the fiscal deficit target and rationalizing spending to achieve a sustained lower primary deficit. - Strengthen medium-term fiscal framework to support productivity gains and growth via public investment in infrastructure and expansion of social spending, supplemented by improved expenditure efficiency and additional revenue measures from tax policy and administration reforms. - Move to more frequent adjustments of retail fuel prices through a transparent fuel pricing mechanism to protect the budget from international oil price increases. - Caveat: Meeting 2017 revenue targets will be challenging; if revenue shortfalls persist, additional revenue actions will be needed to maintain planned spending and meet the deficit target. - Illustrative fiscal reform impact: - In a staff illustrative reform scenario where revenue and expenditure each increase by around 3 percentage points of GDP by 2021, potential growth would increase to 6 percent by 2021. ### Revenue mobilization rationale, priorities, and key statistics - Rationale: - Since 2012, total general government revenue has fallen by 2.5 percentage points of GDP, mainly due to lower production and prices of petroleum products, and more recently import contraction affecting VAT receipts. - Non-oil revenue in percent of GDP remains weak at around its 2004 level. - The most growth-friendly tax to mobilize is the property tax, followed by indirect taxes (including excise taxes and VAT), Personal Income Tax (PIT), and Corporate Income Tax (CIT). - Key statistics (values preserved exactly): - General government revenue: 2015 14.9; 2016 14.5; 2017 14.3; 2021 14.3; 2017 14.8; 2021 17.3 - Central government revenues and grants: 13.1; 12.8; 12.5; 12.5; 13.0; 15.3 - Of which : tax revenues: 10.7; 11.0; 10.6; 10.7; 11.1; 13.5 - Oil and gas revenues: 1.1; 0.7; 0.9; 0.7; 0.9; 0.7 - Non-oil and gas revenues: 11.9; 12.0; 11.6; 11.7; 12.1; 14.5 - Tax revenues: 10.3; 10.6; 10.2; 10.4; 10.7; 13.2 - Income tax: 4.8; 5.5; 5.2; 5.4; 5.2; 5.4 - VAT: 3.7; 3.4; 3.5; 3.4; 3.8; 5.2 - Excise: 1.3; 1.1; 1.1; 1.2; 1.3; 2.2 - Other: 0.6; 0.6; 0.5; 0.4; 0.5; 0.4 - Nontax revenues: 1.5; 1.5; 1.4; 1.4; 1.4; 1.4 - Local government revenue net of transfer: 1.8; 1.8; 1.8; 1.8; 1.8; 2.0 - General government expenditure: 17.4; 17.2; 16.7; 16.8; 17.2; 19.5 - Health: 1.3; 1.5; 1.5; 1.5; 1.6; 2.1 - Education: 3.5; 3.3; 3.3; 3.3; 3.5; 4.1 - Social Assistance: 1.5; 1.7; 1.7; 1.7; 1.7; 1.8 - Infrastructure: 2.2; 2.7; 2.4; 2.5; 2.7; 3.8 - Other expenditure: 8.8; 8.1; 7.7; 7.8; 7.7; 7.7 - General government deficit: -2.5; -2.7; -2.4; -2.5; -2.4; -2.2 - General government debt: 26.8; 28.0; 28.4; 29.4; 28.3; 28.4 - Real GDP Growth: 4.8; 5.0; 5.1; 5.5; 5.2; 6.0 - Menu of policy options and estimated fiscal impact by 2021 (In percent of GDP): - Total revenue policy: 3.0 - Value-added tax: 1.8 — Increase rate from 10 percent to 15 percent while removing exemptions. - Excise taxes: 1.0 — Increase vehicle and tobacco excise rates and impose environmental tax on fuel. - Personal income tax: 0.0 — Remove exemptions and lower top rate in a revenue-neutral manner. - Corporate income tax: 0.0 — Remove exemptions and lower statutory rate in a revenue-neutral manner. - Property tax: 0.2 — Increase rate and gradually replace transaction tax with recurrent property tax. - Total expenditure policy: 2.7 - Health: 0.6 — Implement universal health coverage while improving efficiency. - Education: 0.8 — Increase education expenditure toward EM average (4.8 percent of GDP) while improving efficiency. - Social Assistance: 0.1 — Consolidate poorly-targeted programs. - Infrastructure: 1.3 — Increase investment expenditure toward 5 percent of GDP while improving efficiency. - Other expenditure: -0.1 — Cut nonpriority expenditure. - Specific tax policy recommendations: - Increase excise tax rates on vehicle and tobacco in the near term; simplify tobacco excise structure over the medium term. - Impose a new environmental tax on fuel products. - Gradually raise the VAT rate from 10 percent to 15 percent while removing exemptions and simplify VAT administration. - Broaden the PIT base by lowering the threshold for the top rate and capitalize on asset declarations under the amnesty. - Remove untargeted tax incentives and unify low-rate regimes into one single CIT rate; do not lower the statutory CIT rate significantly (statutory CIT rate is 25 percent). - Explore higher real property tax rates in the near term and gradually replace local stamp duty with a recurrent real property tax. - Review international aspects of taxation and strengthen anti-tax avoidance regulations; adapt implementation of OECD-G20 BEPS to Indonesia’s circumstances. - Tax administration reforms: - Aim to lower compliance costs and make tax administration more business-friendly by removing ambiguities and inconsistencies in tax law interpretation and simplifying VAT filing and refund requirements. - Continue focus on incremental strengthening of tax administration rather than establishing a Semi-Autonomous Revenue Authority (SARA). - Improve tax collection efficiency via enhanced risk management, extended audit coverage through more specific-issue audits, and reorient the Extensification program toward a more targeted campaign. ### Financial deepening, corporate sector, and banking vulnerabilities - Status and constraints: - Financial deepening has been slower than in peer EMs, constrained by a segmented banking system, shallowness of financial markets, and low financial inclusion. - The local currency government bond market has grown in depth and investor participation, including foreign investors. - Authorities established a high-level coordinating committee to intensify coordination on financial deepening. - Staff positions and recommendations: - Monitor macro-financial linkages: banks’ soundness and liquidity; corporates’ NPLs and FX debt, including conglomerates. - Continue full implementation of corporate FX hedging regulations and proper loan classification and provisioning. - Remove various bank deposit and lending rate caps to improve resilience and monetary transmission. - Make FSCPM Law fully operational; follow with coordinated revisions of BI, OJK, and LPS laws and issuing implementing regulations. - Corporate and banking vulnerabilities: - Corporate risks elevated by FX debt exposure, elevated share of distressed debt, and reduced cash buffers; FX risk mitigated somewhat by lower external borrowing and BI regulation on FX hedging. - Banking sector overall sound but pockets of vulnerabilities: smaller banks vulnerable to liquidity shocks; increased NPLs, SMLs, and restructured loans. - Recommendation: close monitoring of banks’ soundness and liquidity, including loan classification and provisioning, while enhancing inter-agency coordination. ### Monetary operations reforms (Box 2 highlights) - Backdrop: - Since 2010, divergence up to 200 basis points between O/N interbank rates and the stated policy rate; weak interbank market and limited short-term yield curve development. - Reforms launched by Bank Indonesia: - Shift policy rate to the BI 7-day reverse repo rate. - Narrow interest rate corridor to ±75 bps around the new policy rate (mid-corridor). - BI absorbed more liquidity at longer tenors, strengthened JIBOR, and published term structure of monetary operations since May 2016. - Announced reserve requirement averaging to be implemented in the second half of 2017. - Further recommended reforms: - Shift from fixed-rate to variable-rate auctions for 3 to 12 month tenors. - Remove ceilings for large banks and maximum guaranteed deposit rates to ease deposit-rate transmission. - Expand issuance of short-tenor treasury bills to complete the short-term risk-free yield curve and underpin repo markets. ### Debt sustainability and external financing (Appendix III highlights) - External debt sustainability: - External debt-to-GDP ratio was 36 percent at end-2015; expected to decline to 34 percent at end-2016. - External debt projected to gradually decline to 25¾percent by end-2021. - Real GDP growth projected to average about 5½ percent over the medium term. - Sensitivities: a one-standard deviation deterioration in the current account balance would raise external debt-to-GDP ratio to 30¾ percent by 2021; a 30 percent exchange rate depreciation in 2017 would raise the external debt-to-GDP ratio to about 46¼ percent in 2017. - Public debt sustainability: - General government debt: 26.8 percent in 2015; 28 percent in 2016 (estimate); baseline projects debt-to-GDP to reach 29.4 percent by 2021 assuming a general government deficit of 2.5 percent of GDP. - Foreign-currency debt has fallen to less than half of total public sector debt. - Nonresidents hold about 60 percent of general government debt; foreign ownership of rupiah bonds about 37 percent as of end-November 2016. - Gross financing needs expected to remain around 5 percent of GDP over the medium term. - Policy implications: - Monitor contingent liabilities from SOEs and PPPs. - Continue regulation of public external borrowing via inter-ministerial committee. - Strengthen public investment management to limit contingent liabilities. ### External sector report — key metrics and technical assessments - NIIP and external liabilities: - NIIP at end-June 2016: -46 percent of GDP (compared to -43¼ percent at end-2015). - Gross external liabilities at end-June 2016: 71 percent of GDP. - Gross external debt at end-September 2016: 35¾ percent of GDP, with about 6½ percent of GDP denominated in rupiah. - Nonresident holdings of rupiah-denominated government bonds: 37 percent at end-November 2016. - External financing flows and projections for 2016: - Gross external financing requirement expected: 9.2 percent of GDP; amortization about 6 percent of GDP. - Net FDI projected at 1.5 percent of GDP and new borrowing at 7.6 percent of GDP. - Current account and REER: - Actual CA: -2.0 (percent of GDP) - CA norm: -0.6 to -2.6 (percent of GDP) - Estimated CA gap: -0.8 to 1.2 (percent of GDP) - Cyclically-adjusted CA: -1.4 (percent of GDP) - EBA REER index and level gaps: -3.4 and 3.2 percent - Staff-assessed CA REER gap: -6 to 4 percent - FX intervention and reserves: - At end-November 2016, reserves were US$111.5 billion (122 percent of IMF’s reserve adequacy metric—and about 8 months of prospective imports). - Authorities’ contingencies and swap lines amount to about US$83 billion. - Recommended approach: intervene primarily to prevent disorderly market conditions while allowing the exchange rate to adjust. ### Risk Assessment Matrix — selected entries and recommended responses - Global: Tighter and more volatile global financial conditions - Relative likelihood: Medium; Expected impacts: High. - Recommended responses: maintain exchange rate flexibility; preserve sound fiscal position; combine monetary tightening with targeted measures to alleviate funding pressures; encourage corporate hedging. - Global: Significant China slowdown and its spillovers - Relative likelihood: Low in the short term/ Medium thereafter; Expected impacts: High. - Recommended responses: maintain exchange rate flexibility; consider stricter fiscal measures if funding restricted; accelerate infrastructure spending and structural reforms; export diversification. - Global: Persistently lower energy prices - Relative likelihood: Low into the medium term; Expected impacts: Medium. - Recommended responses: implement upfront revenue reforms; accelerate structural reforms. - Domestic: Revenue shortfalls constraining fiscal space - Relative likelihood: Medium; Expected impacts: Medium. - Recommended responses: implement growth-friendly revenue measures; prioritize expenditures to growth-critical areas; accelerate structural reforms; ease monetary policy if inflation anchored and external sector stable. - Domestic: Improved sentiment on reforms bolstering private investment - Relative likelihood: Medium; Expected impacts: Medium. - Recommended responses: reinforce reform momentum; implement coherent inclusive growth-enhancing fiscal framework; deepen investment climate reforms. ### Latest data snapshot (selected latest indicators) - Headline inflation: 3.0 percent (y/y) in December 2016; core inflation: 3.1 percent (y/y). - Central government deficit for 2016 (preliminary): 2.5 percent of GDP; government revenue: 12.4 percent of GDP; expenditure: 14.9 percent of GDP. - Tax amnesty collections for 2016: Rp 107 trillion (0.9 percent of GDP). - International reserves: US$116.4 billion at end-December 2016. - Market moves since mid-December: rupiah appreciated by around 0.1 percent vis-à-vis the U.S. dollar; 10-year government bond yields fell about 25 bps; equities rose 1.8 percent. - Credit rating development: December 21, Fitch upgraded Indonesia’s sovereign rating outlook from “stable” to “positive” and affirmed rating at BBB-. - Banking system metrics (end-November 2016): capital adequacy ratio 23 percent; ratio of liquid assets to third party fund 20.5 percent. - Key macro/financial projections and indicators (selected from Box 4 and DSA): - Real GDP Growth: 2016: 5.0 (Proj.). - CPI inflation (end period): 2016: 3.2 (Proj.). - Short-term interest rate (e.o.p.): 2016: 6.1 (Nov. 2016). - Ten-year government bond yield (e.o.p.): 2016: 8.1 (Nov. 2016). - Indonesia EMBI spread (bps, e.o.p.): 2016: 229 (Nov. 2016). - Current account balance (in percent of GDP): 2016: -2.0 (Proj.). - Net FDI inflows (in percent of GDP): 2016: 1.5 (Proj.). - Gross international reserves (US$ billion): 2016: 117.8 (Proj.); Latest Nov.: 122.9. - Public sector gross debt (in percent of GDP): 2016: 28.0 (Proj.). - Nonperforming loans (in percent of total loans): 2016: 3.1 (Sept. 2016). - Total credit outstanding (annual % change): 2016: 7.4 (Oct. 2016). ### Structural reforms and private investment support - Progress: - 2015 fuel subsidy reform and 14 economic policy packages since September 2015. - Partial liberalization of the FDI regime; improved Doing Business ranking by 15 positions to 91st in 2016. - Remaining challenges and staff recommendations: - Accelerate infrastructure development and PPPs; enhance inter-agency coordination; accelerate land acquisition processes. - Comprehensive review of SOEs’ role to establish a level playing field and open sectors to private investment. - Further liberalize FDI to attract inflows; participate in regional trade arrangements while mitigating social impacts. - Improve labor market flexibility and narrow skills gaps: align wage growth with productivity, rationalize dismissal procedures, expand vocational training, improve education quality, and consider more open immigration policy for skilled workers. - Minimum wage formula (2015): Minimum Wage t+1 = Minimum Wage t × (1+National Inflation Rate t + National GDP Growth Rate t) ### Conclusion - IMF staff assessment: Indonesia’s external position and macroeconomic framework are broadly consistent with medium-term fundamentals and desirable policy settings, with external financing sustainable but sensitive to global volatility. - Policy priorities emphasize strengthening the medium-term fiscal framework via growth-friendly revenue mobilization and spending efficiency, completing monetary and financial sector reforms to strengthen resilience and transmission, and deepening structural reforms to boost private investment and productivity. - Next Article IV consultation recommended on the standard 12-month cycle. *Source: cr1737 - 1. External Sector Assessment (excerpt).* ### 1. External Sector Assessment ___________________________________________________________________ 25 ### 1. External Sector Assessment ### Overview and policy priorities - Indonesia has maintained macroeconomic stability while adjusting to recent shifts in the external environment through a prudent mix of macroeconomic policies and structural reforms. - Key achievements to date: - Growth has slowed slightly but remained robust. - Inflation has eased. - The external position has improved. - A gradual fiscal consolidation has begun. - Major progress on the financial stability framework, including passage of the FSCPM Law in March. - Structural reforms since 2015 have improved the business environment and supported positive sentiment and capital inflows in 2016. - Policy challenge: deepen structural reforms to boost productivity and growth while maintaining and improving policy buffers to boost resilience in an uncertain and volatile external environment. - Policy priorities highlighted by staff: - Strengthen the medium-term fiscal framework with a growth-friendly revenue strategy and improve public spending effectiveness and efficiency. - Stand ready to adjust monetary policy to changes in the external environment, while maintaining exchange rate and bond yield flexibility. - Implement the enhanced financial stability framework, improve inter-agency coordination to respond to shocks, and sustain vigilance on pockets of macro-financial vulnerabilities in bank and corporate sectors. - Deepen structural reforms to improve the business environment and support private investment. ### Recent developments (selected findings and statistics) - Growth and demand: - Growth remained robust at 5.0 percent in 2016:Q3, driven by resilient private consumption despite modest fiscal consolidation and weak private investment and external demand. - Private consumption is the main driver of growth; investment remains subdued. - Inflation: - Headline inflation dropped to the bottom of the official target band (3−5 percent)—the lowest since end-2009. - Output gap estimated at ½ percent of GDP (small negative). - Core inflation also moderated. - External sector and reserves: - The current account (CA) deficit was 2.1 percent of GDP in Q1–Q3:2016, driven by lower imports that more than offset lower exports. - Official reserve assets rose to US$111.5 billion at end-November 2016 (around 8 months of prospective imports). - Financial markets and credit: - Credit growth slowed to the lowest over the past few years on weak corporate demand, before slightly picking up recently. - Financial markets rallied through Q3:2016, then corrected starting in October and intensified after the U.S. election and the FED rate increase in December: - In the period November 8–December 16, 2016: equities fell by 4 percent, benchmark 10-year bond yields rose 70 bps, and the rupiah weakened 2.3 percent, with portfolio outflows. - Corporate external borrowing began to decline after rapid rises in previous years; credit growth remains tepid. - Corporate debt-at-risk with interest coverage ratio less than 1 picked up somewhat in 2016. - Banks’ nonperforming loans (NPLs) have risen from a low level; liquidity remains tight in some smaller banks; deposit growth slowed. - Fiscal financing: - Fiscal financing remains reliant on nonresident investment in local currency government bonds and in global bond issues. - The government placed international bonds amounting to US$3.5 billion in December 2016. ### Outlook and scenarios - Near-term projections: - Growth in 2016 projected at 5 percent; 2017 growth expected to rise modestly to 5.1 percent, led by a gradual pickup in private investment due to stronger commodity prices, low interest rates, and recovery in external demand. - Inflation expected to rise from 3.2 percent at end-2016 to around 4.5 percent at end-2017, largely due to lower electricity subsidies and some recovery in commodity prices. - The CA deficit expected to remain at around 2 percent of GDP in 2017. - Medium-term projections: - Growth projected to increase to 5½ percent by 2020, supported by a gradual recovery in fixed investment and ongoing structural reforms, with the output gap closing by 2018. - International reserves projected to gradually increase; the reserve adequacy metric broadly stable. - Illustrative enhanced reform scenario: - Under staff's illustrative enhanced reform scenario with a more growth-friendly fiscal policy, growth would rise to 6 percent by 2021, mainly from higher infrastructure and social spending and some productivity gains from capital accumulation and reforms. ### External assessment and risks - External position assessment (2016): - Staff estimates the current account gap to be between -0.8 and 1.2 percent of GDP. - The REER gap estimated in the range of -6 percent to 4 percent. - External debt at end-September 2016: 35.8 percent of GDP (about half public). - Reserves at about 130 percent of IMF’s reserve adequacy metric (projected for end-2016). - Conclusion: external position remains broadly consistent with medium-term fundamentals and desirable policy settings; external financing sustainable but sensitive to volatility. - Main downside risks (largely external): - Uncertainties around policies of the incoming U.S. administration, tighter and more volatile global conditions, spillovers from a significant China slowdown, and lower commodity prices. - Sovereign and corporates could face higher funding costs, exchange rate depreciation, and capital outflows if U.S. interest rates rise further. - Domestic risks: smaller fiscal buffer from tax revenue shortfalls or higher domestic interest rates; domestic political tensions associated with regional elections. - A confluence of external and domestic factors could intensify pockets of macro-financial vulnerabilities in banking and corporate sectors. - Policy response under severe external pressures: - Tighter aggregate demand management and continued exchange rate flexibility could help contain risks. - International reserves should be used primarily to prevent disorderly market conditions, provided reserves remain adequate. - If international financial markets were closed to EMs for a protracted period, targeted measures to alleviate funding pressures for banks and corporates would help preserve financial stability. - Contingent financing available totals about US$83 billion, inclusive of the Chiang Mai Initiative Multilateralization and bilateral swap arrangements. ### Authorities’ views - Authorities broadly agreed with staff on the macroeconomic outlook and reaffirmed commitment to: - Maintain macroeconomic and financial stability. - Enhance the medium-term framework to raise growth potential. - Authorities’ outlook specifics: - Growth projected to strengthen in 2017, underpinned by recovery in private investment and higher coal and palm oil prices. - Inflation and expectations remain at multiyear lows. - CA deficit expected to remain well contained; reserve buffers have risen considerably. - With a flexible policy framework, contingency plans, and available contingent financing, authorities view Indonesia as well positioned to manage downside risks emanating primarily from abroad. ### Fiscal policy and reform recommendations (findings, targets, and staff advice) - Government strategy and targets: - Fiscal strategy centers on broadening the revenue base, expanding priority expenditures, and improving efficiency, within the statutory fiscal deficit limit of 3 percent of GDP. - Objectives: strengthen tax collection, simplify exemptions, broaden the tax base, reallocate unproductive spending, and improve spending efficiency (infrastructure, social programs, transfers to local governments). - Post-2015 reforms continued on energy subsidies; retail prices of diesel and other fuels adjusted quarterly. - Government aims to gradually lower the fiscal deficit to 2¼ percent of GDP over the medium term. - 2016 fiscal developments: - Fiscal deficit of 1.8 percent of annual GDP in 2016:H1 due to weak revenues; revised financial plan (August 2016) projected a fiscal deficit of about 2.7 percent of GDP for 2016. - Tax amnesty collections: Rp 99.2 trillion or 0.8 percent of GDP as of November 30, 2016; for 2016 as a whole, tax amnesty collections projected to reach 0.9 percent of GDP. - Government intent to expand the tax base and strengthen relations between private sector and tax administration. - 2017 budget and targets: - 2017 budget targets higher revenue (nominal tax collections up around 13 percent), more efficient spending in priority areas, and a fiscal deficit target of 2.4 percent of GDP. - Plans to upgrade main tax laws in 2017, including VAT and income tax laws, using tax amnesty information and external databases for audits. - Budget reallocations: more spending on infrastructure, education, and health; reduction and better targeting of electricity subsidies for the poor; increased transfers to local governments for infrastructure. - Staff position and recommendations: - Staff welcomes the overall fiscal strategy and the August 2016 revised financial plan given weak revenues and higher external volatility. - Recommended actions: - Continue improving subsidy targeting and reduce operational spending while protecting priority spending. - Carry out expenditure reviews in agriculture, health, and education to improve efficiency. - Rebuild fiscal buffers by lowering the fiscal deficit target and rationalizing spending to achieve a sustained lower primary deficit. - Strengthen medium-term fiscal framework to support productivity gains and growth via public investment in infrastructure and expansion of social spending, supplemented by improved expenditure efficiency and additional revenue measures from tax policy and administration reforms. - Move to more frequent adjustments of retail fuel prices through a transparent fuel pricing mechanism to protect the budget from international oil price increases. - Caveat: Meeting 2017 revenue targets will be challenging; if revenue shortfalls persist, additional revenue actions will be needed to maintain planned spending and meet the deficit target. - Illustrative fiscal reform impact: - In a staff illustrative reform scenario where revenue and expenditure each increase by around 3 percentage points of GDP by 2021, potential growth would increase to 6 percent by 2021. *Source: cr1737 - 1. External Sector Assessment (excerpt).* ### 21. There is scope to mobilize non-oil revenues through growth-friendly tax policy and ### 21. There is scope to mobilize non-oil revenues through growth-friendly tax policy and ### Revenue mobilization rationale and priorities - Since 2012, total general government revenue has fallen by 2.5 percentage points of GDP, mainly due to lower production and prices of petroleum products, and more recently import contraction affecting VAT receipts. - Non-oil revenue in percent of GDP remains weak at around its 2004 level. - The most growth-friendly tax to mobilize is the property tax, followed by indirect taxes (including excise taxes and VAT), Personal Income Tax (PIT), and Corporate Income Tax (CIT). - Illustrative near- to medium-term revenue mobilization strategy is proposed. ### Key statistics (table entries preserved exactly) - 2015 2016 2017 2021 2017 2021 - General government revenue 14.9 14.5 14.3 14.3 14.8 17.3 - Central government revenues and grants 13.1 12.8 12.5 12.5 13.0 15.3 - Of which : tax revenues 10.7 11.0 10.6 10.7 11.1 13.5 - Oil and gas revenues 1.1 0.7 0.9 0.7 0.9 0.7 - Non-oil and gas revenues 11.9 12.0 11.6 11.7 12.1 14.5 - Tax revenues 10.3 10.6 10.2 10.4 10.7 13.2 - Income tax 4.8 5.5 5.2 5.4 5.2 5.4 - VAT 3.7 3.4 3.5 3.4 3.8 5.2 - Excise 1.3 1.1 1.1 1.2 1.3 2.2 - Other 0.6 0.6 0.5 0.4 0.5 0.4 - Nontax revenues 1.5 1.5 1.4 1.4 1.4 1.4 - Local government revenue net of transfer 1.8 1.8 1.8 1.8 1.8 2.0 - General government expenditure 17.4 17.2 16.7 16.8 17.2 19.5 - Health 1.3 1.5 1.5 1.5 1.6 2.1 - Education 3.5 3.3 3.3 3.3 3.5 4.1 - Social Assistance 1.5 1.7 1.7 1.7 1.7 1.8 - Infrastructure 2.2 2.7 2.4 2.5 2.7 3.8 - Other expenditure 8.8 8.1 7.7 7.8 7.7 7.7 - General government deficit -2.5 -2.7 -2.4 -2.5 -2.4 -2.2 - General government debt 26.8 28.0 28.4 29.4 28.3 28.4 - Real GDP Growth 4.8 5.0 5.1 5.5 5.2 6.0 (Source: World Bank; Indonesian authorities; and IMF staff estimates.) ### Menu of policy options and estimated fiscal impact by 2021 (In percent of GDP) - Total revenue policy: 3.0 - Value-added tax: 1.8 — Increase rate from 10 percent to 15 percent while removing exemptions. - Excise taxes: 1.0 — Increase vehicle and tobacco excise rates and impose environmental tax on fuel. - Personal income tax: 0.0 — Remove exemptions and lower top rate in a revenue-neutral manner. - Corporate income tax: 0.0 — Remove exemptions and lower statutory rate in a revenue-neutral manner. - Property tax: 0.2 — Increase rate and gradually replace transaction tax with recurrent property tax. - Total expenditure policy: 2.7 - Health: 0.6 — Implement universal health coverage while improving efficiency. - Education: 0.8 — Increase education expenditure toward EM average (4.8 percent of GDP) while improving efficiency. - Social Assistance: 0.1 — Consolidate poorly-targeted programs. - Infrastructure: 1.3 — Increase investment expenditure toward 5 percent of GDP while improving efficiency. - Other expenditure: -0.1 — Cut nonpriority expenditure. - Notes: 1/ Positive sign means more revenue. 2/ Positive sign means more expenditure. ### Specific tax policy recommendations - Increase excise tax rates on vehicle and tobacco in the near term; simplify tobacco excise structure over the medium term. - Impose a new environmental tax on fuel products given relatively low retail price and net tax of gasoline and diesel. - Gradually raise the VAT rate from 10 percent to 15 percent while removing exemptions (including on intermediate services) and simplify VAT administration. - Broaden the PIT base by lowering the threshold for the top rate and capitalize on asset declarations under the amnesty. - Remove untargeted tax incentives and unify low-rate regimes into one single CIT rate; do not lower the statutory CIT rate significantly (statutory CIT rate is 25 percent). - Explore higher real property tax rates in the near term, strengthen property value assessment in the medium term, and gradually replace local stamp duty (transaction tax) with a recurrent real property tax. - Review international aspects of taxation and strengthen anti-tax avoidance regulations (permanent establishment, transfer pricing, thin capitalization, controlled foreign corporations); adapt implementation of OECD-G20 BEPS to Indonesia’s circumstances. ### Tax administration reforms - Aim to lower compliance costs and make tax administration more business-friendly by removing ambiguities and inconsistencies in tax law interpretation and simplifying VAT filing and refund requirements. - Continue focus on incremental strengthening of tax administration rather than establishing a Semi-Autonomous Revenue Authority (SARA). - Improve tax collection efficiency via enhanced risk management, extended audit coverage through more specific-issue audits, and reorient the Extensification program toward a more targeted campaign. ### Growth-enhancing expenditure strategy - Increase spending in selected areas to support inclusive growth, addressing current lag vs. ASEAN peers in infrastructure, health, and education. - Infrastructure: continue development with stronger coordination, close monitoring, improved investment framework, and enhanced regional government capacity; monitor SOE balance sheets and contingent liabilities from PPPs. - Health and education: expand spending from 1.3 percent and 3.5 percent of GDP in 2015 toward peer levels (EM Asia average: health 4.4 percent, education 4.8 percent of GDP), while improving efficiency and implementing recommendations from ongoing reviews. - Social protection: improve efficacy through consolidation and expansion of effective programs, reduce and consolidate various assistance and subsidy programs, and expand conditional cash transfers leveraging the updated integrated database. ### Public financial management and infrastructure financing - Continue PFM reforms to enhance efficiency and integrity of public spending, improve coordination with local governments, establish incentives for local infrastructure investment, and carry out comprehensive reviews of the public investment process. - Support the government's ambitious infrastructure program by mobilizing a broad base of investors, including domestic institutional investors and banks, introducing new financial instruments, and ensuring prudential standards are maintained to avoid excessive risk. ### Authorities’ views - Authorities broadly agreed with the staff assessment and described actions to support growth, including a sound financial plan for 2016 that enabled realistic revenue projections, streamlined expenditure, and focus on growth-enhancing areas. - Authorities noted tobacco excises were increased in the 2017 budget and planned formation of a tax reform group to upgrade main tax laws in 2017. - Authorities agreed that revenue mobilization will be challenging but expressed confidence 2017 targets will be met and emphasized the need for effective enforcement post-amnesty. *Source: IMF staff report excerpt.* ### 39. Financial deepening remains a priority of the government. Financial deepening in recent ### Financial deepening remains a priority of the government. ### Financial deepening: status and constraints - Recent financial deepening has been slower than in peer EMs, constrained by a segmented banking system, shallowness of the financial markets, and low financial inclusion. - Over the past decade the local currency government bond market has seen growth in depth and range of investor participation, including from foreign investors. - Authorities established a high-level coordinating committee comprising the key public agencies to intensify coordination on financial deepening. ### Staff position: financial and corporate sector vulnerabilities - Continue progress in assessing financial and corporate sector vulnerabilities: - Monitor macro-financial linkages with regards to banks’ soundness and liquidity, and corporates’ NPLs and developments in FX debt, including conglomerates. - Continue full implementation of the corporate FX hedging regulations and proper loan classification and provisioning against problem loans. - Removing various bank deposit and lending rate caps would improve the financial sector’s resilience to shocks and contribute to better transmission of monetary policy. - Current supervisory guidance includes deposit rate caps for large banks, informal guidance for single-digit lending rates, and maximum interest rates allowed for guaranteed deposits. ### FSCPM Law and legal/institutional framework - The FSCPM Law establishes a coordination mechanism to maintain financial stability; making it fully operational is a priority. - Approval of the FSCPM Law should be followed by closely coordinated revisions of the laws of BI, OJK, and LPS to ensure overall consistency of the legal framework and clarity on mandates and policy responsibilities. - Issuing implementing regulations for the FSCPM Law should be followed by coordinated revisions of BI, LPS, and OJK laws to reflect the new institutional landscape. ### Structural reforms to boost private investment - Progress to date: - Landmark 2015 fuel subsidy reform and 14 economic policy packages since September 2015 to streamline regulations and support private sector investment. - Partial liberalization of the Foreign Direct Investment (FDI) regime and increased clarity on minimum wage. - Indonesia improved its World Bank Doing Business ranking by 15 positions to the 91st position in 2016. - Remaining challenges: - Sharper decline in private investment than regional peers, affected by slump in commodity prices; investment growth in commodity sector stalled, manufacturing investment contracted, and linkages with global value chains weakened. - Infrastructure is below other EM peers; labor skills gap and rigid labor markets constrain investment. - Staff recommendations to bolster private investment: - Expanding infrastructure: - Accelerate infrastructure development to reduce logistics costs and improve competitiveness. - Expand PPP projects; recent start of construction of a large electricity generation plant under PPP, expected to be completed by early 2020. - Deeper financial deepening with a stronger institutional investor base to channel funds to infrastructure. - Continue policy packages and enhance inter-agency coordination: - Accelerate land acquisition processes, streamline complex regulations, reduce regulatory inconsistency, and coordinate with local governments. - Comprehensive review of the role of SOEs to establish a level playing field and open sectors to private investment. - Pursue trade integration and further modernize the FDI regime: - Further liberalization of FDI to attract inflows; open new sectors (energy, services including tourism) to private investment. - Participate in new regional trade arrangements while mitigating social impacts of integration. - Improve labor market and narrow skills gaps: - Align wage growth with productivity at enterprise or industry levels. - Rationalize rigid labor practices, especially worker dismissal procedures, and strengthen social safety nets. - Expand vocational training linked to economy’s needs, improve education quality with more qualified teachers, and adopt a more open immigration policy toward skilled workers. - Minimum wage formula (2015): Minimum Wage t+1 = Minimum Wage t × (1+National Inflation Rate t + National GDP Growth Rate t) ### Staff appraisal: macro outlook, fiscal, monetary, and sectoral risks - Macroeconomic outlook and performance: - Economy continues to perform well with robust growth and macroeconomic stability; near-term outlook positive with modestly rising growth, inflation within the official target band, and a manageable current account deficit. - Downside risks: - Largely external: reliance on external financing exposes Indonesia to global shocks and funding reversals; risks include uncertainties around incoming U.S. policies, tighter/volatile global conditions, spillovers from a significant China slowdown, and lower commodity prices. - Domestic risks: tax revenue shortfalls and higher interest rates that could curb fiscal space. - Fiscal framework: - Short-term fiscal framework strengthened; revised financial plan for 2016 includes prudent revenue projections and spending commitments. - Decision to rebuild buffers by targeting a lower fiscal deficit in the 2017 budget is appropriate. - Room to strengthen medium-term fiscal framework via tax reforms and improved infrastructure spending efficiency. - Authorities plan to upgrade main tax laws in 2017 and deepen tax administration reforms. - Tax reform priorities: - Near term: increase excise tax rates on vehicle and tobacco, introduce a new environmental (fuel) tax. - Medium term: simplify tobacco excises; VAT offers greatest revenue potential—gradually raise the VAT rate, remove VAT exemptions, and simplify administration. - Broaden PIT base by lowering threshold for the top rate; capitalize on asset declarations under the amnesty. - Business-friendly tax administration reforms: remove ambiguities in tax laws, simplify VAT filing and refund requirements, enhance risk management, extend audit coverage, use external taxpayer information, and move Extensification program toward targeted campaigns. - Monetary policy and operations: - Current stance appropriate: policy rates lowered in 2016 amid falling inflation and reduced external pressures; policy rate placed on hold thereafter. - Exchange rate flexibility helps adjustment to shocks; stand ready to adjust monetary stance if severe external pressures arise. - Reform of monetary operations should continue: introduction of the 7-day reverse repo rate as the policy rate has been smooth and improved transmission; introduction of reserve requirement averaging expected to improve banks’ liquidity management. - Removing various bank deposit and lending rate caps would improve financial sector resilience and monetary transmission. - Corporate sector risks: - Moderated slightly but remain elevated due to FX debt exposure, elevated share of distressed debt, and reduced cash buffers. - FX risk mitigated somewhat by lower external borrowing and deleveraging, supported by BI regulation on FX hedging; large portion of external debt of nonfinancial corporates is with parent or related loans. - Corporate performance varies; manufacturing particularly weak. - Continued full implementation of hedging regulation and a balanced financial deepening plan recommended to reduce reliance on external financing. - Banking sector risks: - Overall sound but pockets of vulnerabilities: smaller banks vulnerable to liquidity shocks due to reliance on short-term time deposits. - Increased NPLs, special mention loans (SMLs), and restructured loans are sources of vulnerability though signs of stabilization appear. - Authorities should continue close monitoring of banks’ soundness and liquidity, including loan classification and provisioning, while enhancing inter-agency coordination. - Recommendation: - Next Article IV consultation recommended on the standard 12-month cycle. ### External sector assessment: key statistics and assessments - Overall assessment for 2016: Indonesia’s external position assessed to be broadly consistent with medium-term fundamentals and desirable policy settings. - Net international investment position (NIIP): - At end-June 2016, NIIP stood at -46 percent of GDP, compared to -43¼ percent of GDP at end-2015. - Gross external liabilities and debt: - At end-June 2016, gross external liabilities stood at 71 percent of GDP. - At end-September 2016, gross external debt was 35¾ percent of GDP, with about 6½ percent of GDP denominated in rupiah. - Nonresident holdings of rupiah-denominated government bonds had a share of 37 percent at end-November 2016. - External financing flows and projections for 2016: - Gross external financing requirement expected to be about 9.2 percent of GDP, with amortization at about 6 percent of GDP. - Net FDI projected at 1.5 percent of GDP and new borrowing at 7.6 percent of GDP. - Current account and REER: - Actual CA: -2.0 (percent of GDP) - CA norm: -0.6 to -2.6 (percent of GDP) - Estimated CA gap: -0.8 to 1.2 (percent of GDP) - Cyclically-adjusted CA: -1.4 (percent of GDP) - EBA REER index and level gaps: -3.4 and 3.2 percent - Staff-assessed CA REER gap: -6 to 4 percent *Italicized source: IMF Staff report excerpt (cr1737).* ### Box 2. Indonesia: Monetary Operation Reforms ### Box 2. Indonesia: Monetary Operation Reforms ### Backdrop for reforms - Since 2010, transmission of the policy rate had weakened as the overnight (O/N) interbank interest rate hovered near the floor of the interest rate corridor represented by Bank Indonesia’s deposit facility rate (as a Standing Facility), reflecting ample liquidity arising from large capital inflows. - This opened up a divergence of as much as 200 basis points between O/N interbank rates and the stated policy rate. - Without a transacted anchor at the short-end of the yield curve, the interbank money market failed to develop a viable interest rate structure, notably for tenors of 3 months to 12 months. ### Reforms launched by Bank Indonesia - Shifting the policy rate to the BI 7-day reverse repo rate, a risk free rate actually transacted by the BI with the money market. The shift did not change the monetary policy stance. - Narrowing the interest rate corridor between the overnight Lending Facility and Deposit Facility, reverting to a mid-corridor system at ±75 bps around the new policy rate. - Managing the transition well, ably communicating to the markets: - BI absorbed more liquidity at the longer tenors of the term structure, helping keep excess liquidity in the overnight deposit facility contained. - Implemented measures to strengthen the interbank rate mechanism (JIBOR). - To further sensitize market participants to the impending shift, BI published the term structure of its monetary operations (up to one year) in its monetary policy statements since May 2016, to provide a reliable rate structure for market reference. - Announcing reserve requirement averaging: In November 2016, BI indicated that it was preparing for implementation of a reserve requirement averaging scheme in the second half of 2017, which would further incentivize banks’ liquidity management and strengthen policy transmission. ### Further recommended reforms to strengthen transmission and deepen money markets - Shift from fixed-rate to variable-rate auctions, for the 3 to 12 month tenors, to encourage market participants to transact for price discovery and shape the yield curve. - Remove transmission constraints to deposit rates, notably ceilings for large banks and maximum guaranteed deposit rates. - Complete the short-term risk-free yield curve by gradually expanding issuance of short-tenor treasury bills as instruments to underpin interbank money market transactions, including repos. *International Monetary Fund.* ### Box 4. Private Investment in Indonesia 1/ (Concluded) ### Box 4. Private Investment in Indonesia 1/ (Concluded) ### Macro-Financial Developments - Key commodity prices stabilized after having declined since 2012. - Terms of trade rebounded as Indonesia’s export commodity prices picked up, notably coal and palm oil. - Economic growth stabilized since 2015:Q3 after having slowed with a shrinking contribution of the commodity sector. - Falling commodity exports has been offset by a compression in imports. - The corporate sector has been impacted by the commodity down cycle, with reduced cash flows and slowing investment. - The commodity down-cycle also has led to a slowdown in loan growth, together with slowing deposit growth. - Corporates’ external borrowing has started to deleverage after rising fast over the past few years. - Corporate profitability has begun to recover recently, mainly reflecting cost-cutting efforts. - Monetary easing has been increasingly transmitted to lending rates, especially for corporate-related credit. - Property prices have been subdued, in tandem with slowing economic growth. - NPLs in the banking system have been creeping up, particularly in the manufacturing and mining sectors. - On balance, macro-financial risks remain manageable, with higher risk appetite and spillover risks. ### Recent Market Developments - Financial markets were buoyed in most of 2016, before undergoing some corrections following the U.S. election. - Portfolio inflows in 2016 were mostly supportive and currency volatility declined, although undergoing some reversals recently. - After having depreciated since 2013, the rupiah has started to appreciate in 2016. - Equity prices rallied in 2016 until recently. - Domestic bond yields declined significantly in most of 2016 before picking up recently, driven by substantial presence of foreign investors in rupiah government bonds and, very recently, the U.S. election results. ### Real Sector - Growth remained robust in 2016:Q3 on private consumption, despite fiscal consolidation and weak private investment. - Declines in potential growth reflect lower capital input growth and TFP growth likely related to the commodity down-cycle. - PMI and industrial production have gradually recovered but remain weak. - Consumption indicators, notably vehicle sales, suggest resilience in private consumption. - Capital goods imports have turned positive, reflecting the expansion of public investment. - Inflation has fallen to the lower limit of BI’s target band, on stable food and administered prices, and weak demand. ### External Sector - Despite a decline in exports, the current account deficit narrowed mainly on a compression in imports. - Improvement is reflected in the non-oil and gas trade balance. - A contraction in exports has seen some stabilization as the downturn in commodity prices has stabilized. - The weakness in imports appears to have bottomed out. - External financing needs are expected to remain stable in 2017 and risk will likely be contained, as Indonesia’s level of reserves is seen as sufficient to deal with most shocks and compares well against EM peers. ### Fiscal Sector - The fiscal deficit remains wide, mainly driven by a fall in oil and gas revenues, despite cuts in energy subsidies. - Gradual fiscal consolidation was initiated in August 2016. - Revenue relative to GDP declined due to a weakness in resource revenues, while nonresource revenues constrained; Indonesia’s tax-to-GDP ratio ranks the lowest among regional EM peers. - Energy subsidy reforms since 2015 freed up space for capital spending, which has increased substantially. - The public debt-to-GDP ratio has risen on weak revenues and rupiah depreciation, but remains at a comparatively low level. ### Monetary Sector and Bank Liquidity Developments - Credit growth has moderated significantly. - Loan-to-deposit ratios (LDR) remain elevated on slow deposit growth, though FX LDR has declined on weak FX loan demand. - Net available funding continues to be constrained due to slow deposit growth, although banks’ interest margins remain wide, as deposit rates declined more than lending rates. - BI reduced its policy rate by a cumulative 150 bps in 2016 on lower inflation and reduced pressure on the rupiah. - BI increased liquidity absorption since the announcement of a shift in policy rates, to firm up the short end of the yield curve. ### Financial Soundness and Vulnerabilities (selected indicators) - Real GDP (percent change): 2012: 6.0; 2013: 5.6; 2014: 5.0; 2015: 4.8; 2016: 5.0 (Proj.). - CPI inflation (end period): 2016: 3.2 (Proj.). - Short-term interest rate (e.o.p.): 2016: 6.1 (Nov. 2016). - Ten-year government bond yield (e.o.p.): 2016: 8.1 (Nov. 2016). - Indonesia EMBI spread (bps, e.o.p.): 2016: 229 (Nov. 2016). - Current account balance (in percent of GDP): 2016: -2.0 (Proj.). - Net FDI inflows (in percent of GDP): 2016: 1.5 (Proj.). - Gross international reserves (US$ billion): 2016: 117.8 (Proj.). - Total gross external debt (in percent of exports of GNFS): 2016: 192.0 (Proj.). - Public sector gross debt (in percent of GDP): 2016: 28.0 (Proj.). - Capital to risk-weighted assets (in percent): 2016: 21.2 (Jun. 2016). - Nonperforming loans (in percent of total loans): 2016: 3.1 (Sept. 2016). - Total credit outstanding (annual % change): 2016: 7.4 (Oct. 2016). ### Key Tables — Selected Figures and Projections (highlights) - Nominal GDP (2015): Rp 11,541 trillion or US$ 859 billion. - Population (2015): 255.5 million. - Main exports (percent of total, 2015): Oil and gas (12.3), coal (10.6), palm oil (10.2), textile & textile products (8.2). - GDP per capita (2015): US$3,362. - Unemployment rate (August 2016): 5.6 percent. - Poverty headcount ratio at national poverty line (2016): 10.9 percent of population. - Current account (in US$ billion): 2016 Q1–Q3: -14.3; Latest outturn Q1–Q3: -19.9. - Gross reserves (end period, US$ billion): 2016: 117.8; Latest Nov.: 122.9. - Public finances (central government revenue, percent of GDP): Jan.–Sept. 2016: 8.7; central government expenditure Jan.–Sept. 2016: 10.5. - Central government balance Jan.–Sept. 2016: -1.8 (percent of GDP reported in Table 1). - Bank statistics (Monetary Survey, end period): Broad money 2016: 4,808 (trillions of rupiah); Rupiah M2 2016: 4,142 (trillions of rupiah); Private sector credit 2016: 4,049 (trillions of rupiah). *Source: IMF staff compilation and tables in “Box 4. Private Investment in Indonesia 1/ (Concluded)” from the provided IMF country report content.* ### Appendix I. Indonesia—Risk Assessment Matrix 1/ ### Appendix I. Indonesia—Risk Assessment Matrix 1/ ### Global: Tighter and more volatile global financial conditions - Relative likelihood: Medium - Expected impacts: High - Sharp rise in risk premia with flight to safety; investors withdraw from specific risk asset classes. - Safe haven currencies surge—especially the U.S. dollar—creating balance sheet strains for FX debtors. - Portfolio and other capital inflows could be curtailed; tighter funding conditions put pressure on the balance of payments (BOP), government financing, and the financial and corporate sectors. - Bank funding could become constrained, raising domestic borrowing costs. Rollover risks rise for corporate external debt. - Severe crunch in credit growth or spike in lending rates could hit corporate and household balance sheets (including property) and reinforce negative growth dynamics through asset price corrections and confidence losses. - Recommended policy responses: - Maintain exchange rate flexibility and market-determined bond yields. - Preserve a sound fiscal position while allowing automatic stabilizers to work and use contingent financing if market access is restricted. - Combine monetary policy tightening with targeted measures to alleviate funding pressures in segments of the banking system and preserve financial stability. - Heightened monitoring of corporate sector vulnerabilities and firm implementation of measures to encourage hedging of corporate external debt. - Maintain vigilance on exchange rate pass-through to inflation. ### Global: Significant China slowdown and its spillovers - Relative likelihood: Low in the short term/ Medium thereafter - Expected impacts: High - Loss of investor confidence, disorderly corporate defaults, sharp asset price falls, and quicker fading of stimulus impact in China. - Weak Chinese domestic demand suppresses commodity prices, roils global financial markets, and reduces global growth. - Lower export volume and prices (particularly commodities) could widen the current account deficit, putting FX reserves and the exchange rate under pressure. - Fiscal balance would deteriorate on weaker resource revenues with knock-on effects to domestic demand; financial sector exposed to losses from loans to the commodity sector and broader slowdown. - Corporate profits decline from weak commodity related activities. - Recommended policy responses: - Maintain exchange rate flexibility to reduce the current account deficit and limit FX reserve losses. - Consider more stringent fiscal measures to contain the budget deficit if EM slowdown is accompanied by protracted financial market volatility restricting funding. - Accelerate infrastructure spending and structural reforms to boost productivity and employment in non-resource sectors, and export diversification. ### Global: Persistently lower energy prices - Relative likelihood: Low into the medium term - Expected impacts: Medium - Fiscal position weakens further on lower oil related revenues, with adverse spillovers to growth if space for public investment is curbed. - Recommended policy responses: - Implement upfront revenue reforms to raise non-oil revenues. - Accelerate structural reforms to boost private investment and productivity. ### Global: Rise in populism and nationalism / trade protectionism - Relative likelihood: High - Expected impacts: Low-Medium - Trade protectionism and reversal of globalization affects external demand and suppresses FDI flows. - Recommended policy responses: - Resist protectionism while deepening regional trade integration and seek new opportunities in global value chains. - Strengthen domestic drivers of growth, notably private investment. ### Domestic: Revenue shortfalls constraining fiscal space - Relative likelihood: Medium - Expected impacts: Medium - To keep the budget deficit within the fiscal rule amidst deepening revenue shortfalls and spending trends, large ad-hoc cuts in public spending are undertaken. - The fiscal impulse supporting growth would reverse abruptly, precipitating a growth slowdown, damaging investor confidence, curbing capital inflows, raising bank NPLs, increasing the country risk premium, and raising costs for corporate external borrowing. - Layoffs could further weaken domestic demand. - Recommended policy responses: - Implement growth-friendly revenue measures to raise tax collection. - Prioritize expenditures to growth-critical areas and minimize disruptions to project execution. - Accelerate structural reforms to the trade and investment regime to boost productivity, private investment, and exports. - Assuming inflation is well anchored and the external sector remains stable, ease monetary policy. - Supervisory actions to preserve banking system soundness and close monitoring of at-risk corporate borrowers. ### Domestic: Improved sentiment on reforms bolstering private investment - Relative likelihood: Medium - Expected impacts: Medium - Progress on structural reforms, strengthening of the economic cabinet, and stronger-than-expected performance of the tax amnesty could catalyze private investment. - Domestic political risks (e.g., run-up to the Jakarta election) could intensify and make reforms more difficult. - Stronger business and investor confidence translates into higher private investment activity and economic growth outperforms expectations. - Recommended policy responses: - Reinforce positive reform momentum by implementing a coherent inclusive growth-enhancing fiscal framework within a medium-term strategy. - Deepen investment climate reforms, and accelerate trade integration and labor market reforms. --- ### Indonesia—External Sector Report: Key Assessments and Policy Responses ### Foreign asset and liability position and trajectory - Background and key figures: - At end-June 2016, Indonesia’s net international investment position (NIIP) stood at -46 percent of GDP, compared to -43¼ percent of GDP at end-2015. - Majority of the widening in H1 2016 was due to strong net portfolio inflows (mainly government debt). - At end-June 2016, gross external liabilities stood at 71 percent of GDP. - Indonesia’s gross external debt was 35¾ percent of GDP, with about 6½ percent of GDP denominated in rupiah at end-September 2016. - Nonresident holdings of rupiah denominated government bonds had a share of 37 percent at end-November. - Assessment: - The level and composition of the NIIP and gross external debt indicate that Indonesia’s external position is sustainable, but vulnerable to global volatility due to nonresident holdings. - Private external debt growth is expected to slow on the implementation of BI’s FX hedging regulations and expected tightening of global financial conditions. - Potential policy responses: - Monetary policy should continue to focus on containing inflation within Bank Indonesia’s target band. - Fiscal policy can help support external adjustment and contain vulnerability to funding pressures by aiming for a small primary deficit over the medium term. - Reforms aimed at mobilizing revenues in a growth-friendly way to provide space for health and infrastructure spending. - Continued flexibility of the exchange rate and use of market-determined interest rates to facilitate adjustment and absorb shocks. - Easing trade and investment restrictions, deepening financial markets, and improving labor markets to strengthen competitiveness. ### Current account - Background and projections: - Current account deficit projected at 2.0 percent of GDP in 2016. - Continued decline in commodity exports could be largely compensated by less imports due to low oil prices and cyclical weakness in investment. - Contraction of exports and imports is moderating as commodity prices have bottomed out. - Over the medium term, a moderate increase in the current account deficit is expected from a rise in capital goods and raw material imports tied to infrastructure investment and a pickup in domestic demand. - Gradual increase in manufacturing exports, stronger demand from trading partners, and relatively low projected world oil prices should help limit the increase in the CA deficit. - Assessment and model estimates: - The EBA CA model suggests a gap of 0.2 percent of GDP for 2016 (based on an estimated cyclically-adjusted CA balance of -1.4 percent of GDP and a norm of -1.6 percent of GDP), same as the gap of 0.2 percent for 2015. - Staff assesses that a norm of -0.6 percent to -2.6 percent of GDP is appropriate. - This suggests a CA gap range of about -0.8 percent to 1.2 percent of GDP for 2016, reflecting domestic gaps including in social spending and policy gaps in partner countries. ### Real exchange rate (REER) - Background: - Compared to the 2015 average, the REER appreciated by 3.1 percent in the first ten months of 2016. - Assessment: - EBA index and level REER results suggest the REER gap to be about -3.4 percent to 3.2 percent, respectively. - Staff’s REER gap assessment is in the range of -6 percent to 4 percent in 2016 based on the CA assessment. ### Capital and financial accounts: flows and policy measures - Background and key figures: - Indonesia’s gross external financing requirement is expected to be about 9.2 percent of GDP in 2016, with amortization at about 6 percent of GDP. - Net FDI and new borrowing are projected at 1.5 percent and 7.6 percent of GDP, respectively. - Assessment: - Net and gross financial flows have been steady since the global financial crisis despite short periods of volatility. - The narrower current account deficit and strengthened policy framework including exchange rate flexibility since mid-2013 have helped reduce capital flow volatility. - For 2016, financial flows were supported by attractive bond yields and assets repatriation related to the tax amnesty but could become weaker or reverse in the event of large domestic or external shocks as seen in November 2016. - Continued strong policies focused on strengthening the fiscal position, keeping inflation in check, and easing supply bottlenecks would help sustain capital inflows in the medium term. ### FX intervention and reserves level - Background and key figures: - Since mid-2013, Indonesia has had a more flexible exchange rate policy framework; its floating regime has better facilitated adjustments. - At end-November 2016, reserves were US$111.5 billion (equal to 122 percent of IMF’s reserve adequacy metric—and about 8 months of prospective imports of goods and services). - Authorities have contingencies and swap lines amounting to about US$83 billion. - Assessment and guidance: - Volatile capital flows could cause reserves to decline significantly. - While the composite metric may not fully account for commodity price volatility, the current level of reserves should be sufficient to absorb most shocks, with predetermined drains manageable. - Intervention should aim primarily at preventing disorderly market conditions, while allowing the exchange rate to adjust to external shocks. ### Technical notes - Footnote on EBA uncertainty: - A range of +/- 1 percent is added to reflect that the EBA-regression estimates are subject to high uncertainty given the large residual. *IMF staff assessment as presented in Appendix I and selected sections of the External Sector Report.* ### Appendix III. Indonesia—Debt Sustainability Analysis ### Appendix III. Indonesia—Debt Sustainability Analysis ### External Debt Sustainability - Current assessment: - External debt-to-GDP ratio was 36 percent at end-2015, up from 25 percent at end-2011. - External debt is expected to decline to 34 percent of GDP at end-2016. - Total external debt remains at a moderate level. - Drivers of recent changes: - Rise in general government borrowing through internationally issued bonds and holdings of nonresidents of domestic bonds. - Private external borrowing increased, mainly through loans and debt securities, including by SOEs. - Medium-term baseline projection: - External debt projected to gradually decline to 25¾percent by end-2021. - Projection supported by favorable real GDP growth and a slower buildup in nonbank private sector debt due to BI’s FX hedging requirements and less favorable global financial conditions. - Public external debt expected to remain at low levels due to tight regulation by an inter-ministerial committee. - Real GDP growth projected to average about 5½ percent over the medium term. - Vulnerabilities and sensitivities: - External sustainability robust to interest rate and GDP shocks, but more sensitive to current account and exchange rate shocks. - A one-standard deviation deterioration in the current account balance would raise the external debt-to-GDP ratio to 30¾ percent by 2021. - A 30 percent exchange rate depreciation in 2017 would raise the external debt-to-GDP ratio to about 46¼ percent in 2017, followed by a gradual decline to 37 percent of GDP by 2021. - Risks to funding: - Reliance on foreign investors remains sizable, leaving Indonesia susceptible to external shocks and funding stops. ### Public Debt Sustainability - Historical and current levels: - General government debt fell from 87 percent of GDP in 2000 to 27 percent in 2015. - The fiscal rule caps the annual general government deficit at 3 percent of GDP (since 2003). - In 2016, the debt-to-GDP ratio is estimated to increase to 28 percent of GDP (from 26.8 percent of GDP in 2015), reflecting a slightly larger primary deficit and higher real interest rate. - Currency composition and investor base: - Foreign-currency denominated debt has fallen to less than half of total public sector debt. - Nonresidents hold about 60 percent of general government debt. - Share of foreign ownership of rupiah-denominated government bonds rose from about 20 percent in 2009 to about 37 percent as of end-November 2016. - Baseline medium-term outlook: - Baseline assumes general government deficit remains constant at 2.5 percent of GDP over the medium term. - Resulting primary deficit projected at ¾ percent of GDP through 2021. - Negative interest rate-growth differential (about 5 percent over the medium term) would limit the debt increase. - Debt-to-GDP ratio expected to reach 29.4 percent by 2021. - Gross financing needs expected to remain around 5 percent of GDP over the medium term. - Robustness to shocks: - Public debt dynamics robust to standard shocks and stress tests. - Under the most severe scenario with a combined macro-fiscal shock, total government debt would stabilize at 35 percent of GDP or 250 percent of revenue, with gross financing needs below 7 percent of GDP. - Fiscal risks and contingent liabilities: - Contingent liabilities arising from borrowing by state-owned enterprises (SOEs) and public-private partnerships (PPPs) in infrastructure development may pose fiscal risk and should be carefully monitored. - Strengthening public investment management will limit contingent liabilities from these entities and activities. ### Key Projections, Assumptions, and Metrics (selected from DSA Table and Tests) - Baseline external debt (percent of GDP): 2011: 25.2; 2012: 27.5; 2013: 29.1; 2014: 32.9; 2015: 36.1; 2016: 34.1; 2017: 32.3; 2018: 30.6; 2019: 29.3; 2020: 27.7; 2021: 25.8. - Change in external debt (percent of GDP): 2011: -1.6; 2012: 2.2; 2013: 1.6; 2014: 3.8; 2015: 3.2; 2016: -2.0; 2017: -1.8; 2018: -1.7; 2019: -1.3; 2020: -1.6; 2021: -1.9. - Identified external debt-creating flows (percent of GDP): 2011: -5.5; 2012: 0.1; 2013: 1.9; 2014: 1.5; 2015: 1.7; 2016: -1.3; 2017: -1.3; 2018: -1.2; 2019: -1.2; 2020: -1.2; 2021: -1.1. - Current account deficit excluding interest payments (percent of GDP): 2011: -0.7; 2012: 2.1; 2013: 2.6; 2014: 2.4; 2015: 1.2; 2016: 1.0; 2017: 1.0; 2018: 1.2; 2019: 1.3; 2020: 1.4; 2021: 1.5. - Deficit in balance of goods and services (percent of GDP): 2011: -45.0; 2012: -46.1; 2013: -45.5; 2014: -45.0; 2015: -39.1; 2016: -34.7; 2017: -34.2; 2018: -32.9; 2019: -32.3; 2020: -31.5; 2021: -30.4. - Exports (percent of GDP): 2011: 23.9; 2012: 23.0; 2013: 22.4; 2014: 22.3; 2015: 19.9; 2016: 17.8; 2017: 17.5; 2018: 16.8; 2019: 16.5; 2020: 16.0; 2021: 15.4. - Imports (percent of GDP): 2011: -21.2; 2012: -23.2; 2013: -23.1; 2014: -22.7; 2015: -19.3; 2016: -16.9; 2017: -16.7; 2018: -16.1; 2019: -15.8; 2020: -15.5; 2021: -15.0. - Net nondebt creating capital inflows (percent of GDP): 2011: -1.3; 2012: -1.7; 2013: -1.1; 2014: -2.0; 2015: -1.1; 2016: -1.6; 2017: -1.7; 2018: -1.8; 2019: -1.9; 2020: -1.9; 2021: -2.0. - Automatic debt dynamics (percent of GDP): 2011: -3.5; 2012: -0.3; 2013: 0.4; 2014: 1.1; 2015: 1.6; 2016: -0.7; 2017: -0.7; 2018: -0.7; 2019: -0.7; 2020: -0.7; 2021: -0.6. - External debt-to-exports ratio (percent): 2011: 105.8; 2012: 119.6; 2013: 129.8; 2014: 147.5; 2015: 181.7; 2016: 192.0; 2017: 185.0; 2018: 182.2; 2019: 177.8; 2020: 172.6; 2021: 167.2. - Gross external financing need (in billions of U.S. dollars): 2011: 41.2; 2012: 71.2; 2013: 83.8; 2014: 83.8; 2015: 76.8; 2016: 73.6; 2017: 74.1; 2018: 76.5; 2019: 80.3; 2020: 83.1; 2021: 83.1. - Gross external financing need (percent of GDP): 2011: 4.6; 2012: 7.7; 2013: 9.2; 2014: 9.4; 2015: 8.9; 2016: 7.9; 2017: 7.4; 2018: 6.9; 2019: 6.5; 2020: 6.1; 2021: 5.7. - Key macroeconomic baseline assumptions: - Real GDP growth (percent): 2011: 6.2; 2012: 6.0; 2013: 5.6; 2014: 5.0; 2015: 4.8; 2016: 5.8; 2017: 0.8; 2018: 5.0; 2019: 5.1; 2020: 5.3; 2021: 5.4; medium term: 5.5. - GDP deflator in U.S. dollars (change in percent): 2011: 11.3; 2012: -2.9; 2013: -5.7; 2014: -7.3; 2015: -8.0; 2016: 5.2; 2017: 11.7; 2018: 3.1; 2019: 3.1; 2020: 4.0; 2021: 3.1; medium term: 4.4; long medium term: 5.5. - Nominal external interest rate (percent): 2011: 2.2; 2012: 2.3; 2013: 2.0; 2014: 2.4; 2015: 2.6; 2016: 2.8; 2017: 0.7; 2018: 2.8; 2019: 3.0; 2020: 3.0; 2021: 3.0; medium term: 3.0. - Growth of exports (U.S. dollar terms, percent): 2011: 27.8; 2012: -0.9; 2013: -2.8; 2014: -3.0; 2015: -14.2; 2016: 6.4; 2017: 15.7; 2018: -3.1; 2019: 6.3; 2020: 5.5; 2021: 6.5; medium term: 7.0; long-run: 7.1. - Growth of imports (U.S. dollar terms, percent): 2011: 30.1; 2012: 12.7; 2013: -0.8; 2014: -4.5; 2015: -18.0; 2016: 7.8; 2017: 19.8; 2018: -5.0; 2019: 7.0; 2020: 5.5; 2021: 6.7; medium term: 7.7; long-run: 7.8. - Current account balance, excluding interest payments (percent of GDP): 2011: 0.7; 2012: -2.1; 2013: -2.6; 2014: -2.4; 2015: -1.2; 2016: 0.3; 2017: 2.3; 2018: -1.0; 2019: -1.0; 2020: -1.2; 2021: -1.3; medium term: -1.4; long-run: -1.5. - Net nondebt creating capital inflows (percent of GDP): 2011: 1.3; 2012: 1.7; 2013: 1.1; 2014: 2.0; 2015: 1.1; 2016: 1.2; 2017: 0.5; 2018: 1.6; 2019: 1.7; 2020: 1.8; 2021: 1.9; medium term: 1.9; long-run: 2.0. ### Policy Implications and Recommendations - Maintain close monitoring of contingent liabilities from SOEs and PPPs involved in infrastructure to manage fiscal risks. - Continue regulation of public external borrowing (inter-ministerial committee) to keep public external debt low. - Strengthen public investment management to limit contingent liabilities from expanding balance sheets of key SOEs and PPPs. - Monitor exposure to foreign investor flows given sizable nonresident holdings (about 60 percent of general government debt) and rising foreign ownership of rupiah bonds (about 37 percent as of end-November 2016). *IMF staff report material: Appendix III. Indonesia—Debt Sustainability Analysis* ### 1. The latest data released include: ### cr1737 - 1. The latest data released include: ### Latest macroeconomic and financial data - Headline inflation fell to 3.0 percent (y/y) in December 2016 on lower food prices inflation; core inflation remained stable at 3.1 percent (y/y). - Based on preliminary data, the central government deficit for 2016 as a whole was 2.5 percent of GDP, with government revenue of 12.4 percent of GDP and expenditure of 14.9 percent of GDP (both somewhat lower than projected in the staff report). - Collections from the tax amnesty for 2016 as a whole were Rp 107 trillion (0.9 percent of GDP). - International reserves rose to US$116.4 billion at end-December 2016, following a US$3.5 billion international sovereign bond issuance in December. ### Financial markets and external indicators - Since mid-December, the rupiah has appreciated by around 0.1 percent vis-à-vis the U.S. dollar. - The 10-year government bond yields has fallen by about 25 bps. - Equities rose by 1.8 percent, with stable capital flows. - Market movements appear broadly in line with those of regional EM peers. ### Credit rating development - On December 21, Fitch upgraded Indonesia’s sovereign rating’s outlook from “stable” to “positive” and affirmed the rating at BBB- (Investment Grade). - Fitch cited: (i) the track record of macroeconomic stability; (ii) effective monetary and exchange rate policy in response to market turmoil; and (iii) a strong structural reform drive since 2015. ### Authorities’ assessment — Recent economic developments and outlook - Policy framework: authorities employ a “Bauran Kebijakan” or “the policy mix strategy” to harmonize monetary, fiscal and structural reform policies. - Growth and inflation: - Economy grew by 5.02 percent in the third quarter of 2016, bringing estimated economic growth to 5 percent for the whole year. - Inflation was 3.02 percent in 2016, within the inflation target of 4 ± 1 percent. - Fiscal and debt metrics: - Fiscal deficit stood at 2.46 percent of GDP. - Public debt was 27.7 percent of GDP at the end of 2016, with almost 60 percent in Rupiah-denominated debt and a weighted average maturity of 9 years. - Balance of payments and reserves: - The balance of payments recorded a larger surplus in Q3 2016. - The 2016 current account deficit is expected to be below 2 percent of GDP. - International reserves remained sufficient at USD116.4 billion as of December 2016, equivalent to 8.4 months of imports and official debt repayment. - 2017 outlook and policy priorities: - The economy is projected to grow between 5.0–5.4 percent in 2017, supported by solid domestic demand, a recovery in exports, and improvement in export commodity prices. - The government expects a prudent fiscal deficit in 2017 with a more realistic tax revenue target and better subsidy scheme; 2017 budget priorities include productive spending for infrastructure, education, health and social welfare. - The current account deficit is expected to remain below 3 percent of GDP. - Authorities will monitor the impact of planned tariff subsidy reductions (e.g., electricity) on inflation and ensure inflation expectations remain anchored. ### External sector development and resilience - Authorities’ confidence in external resiliency rests on three factors: (i) sound macroeconomic discipline; (ii) intensive monitoring of debt characteristics and compositions; and (iii) sound prudential policy. - Current account deficit trends: - CAD declined from 3.19 percent of GDP in 2013 to 2.06 percent of GDP in 2015. - By the end of 2016, the CAD is projected to be below 2 percent of GDP. - Exchange rate and reserves: - Indonesia has implemented a more flexible exchange rate regime. - International reserves at USD116.4 billion as of December 2016, equivalent to 8.4 months of imports and official debt repayment. - Reserves are supported by bilateral, regional and global financial arrangements as a second line of defense. - External debt composition and prudential measures: - Indonesia’s long-term foreign borrowing amounts to 87.5 percent of total foreign borrowings with a balanced share between public and private debt. - Short-term debt of private non-bank corporations amounts to only 5 percent of total foreign debt. - Non-resident holders of Indonesian government bond are dominated by long-term investors, including central banks. - Since end-2014, prudential regulations require non-bank corporations to meet minimum hedging and liquidity ratios and minimum credit rating requirements. - Additional safeguards include a 3 percent fiscal deficit ceiling introduced by State Law and a special committee to administer and approve SOEs’ related loans. ### Financial and corporate sector assessment - Banking system: - Capital adequacy ratio stood at 23 percent at end-November 2016. - Ratio of liquid assets to third party fund was 20.5 percent at end-November 2016. - Low volatility in the interbank market rate reflects ample liquidity. - NPLs’ growth signaled as reaching its peak; corporate performance improving, especially in commodity-related sectors. - Stress tests and systemic risk: - Authorities’ stress tests indicate no systemic risk in the banking system; liquidity-shock test showed only 1 (one) small-sized bank (out of 118 banks) encountered a liquidity problem. - Corporate sector outlook: corporate vulnerability expected to decline with increasing profitability (data up to September 2016) and firms reducing debts. - Authorities reference staff working paper draft indicating corporate sector risks are manageable. - Authorities’ view: none of the identified risks trigger systemic concerns despite “pockets of vulnerability.” ### Fiscal policy and reform measures - Fiscal strategy: gradual fiscal consolidation while protecting infrastructure priority spending. - Tax amnesty outcomes: successful in collecting significant tax payments, repatriated funds and expanding the revenue base. - Revenue mobilization strategies and reforms: - A larger tax base from tax amnesty. - Creation of a tax reform team in January 2017 to improve organization and clarity of the tax reforms roadmap. - Plans to improve information systems to use tax amnesty data. - Efforts to address complications in tax regulations and amendments to the VAT law and income tax law are underway. - Electronic invoicing planned. - Tax revenues expected to move in line with the tax buoyancy rate. - Continued technical assistance collaboration with the IMF. ### Structural reforms and investment climate improvements - Reform focus: improving ease of doing business, infrastructure, diversification of growth (including tourism and value-added exports), purchasing power, and financial market deepening. - Doing Business: ranking moved up 15 positions to 91 in 2016. - One-Stop Service (OSS) for investment (BKPM): - Established January 2015 to accelerate and simplify licensing procedures (excludes banking and energy sectors). - 3-hour investment licensing service introduced January 2016; 10th Policy Package on Negative Investment List in February 2016. - Up to October 2016, 130 companies with investment value of IDR291 trillion have benefited from OSS. - Up to June 2016, 527 companies applied to invest with total planned investment of USD12.9 billion after the revised Negative Investment List. - Infrastructure project facilitation: - Project Management Office (KPPIP) administers 30 priority infrastructure projects. - Revision of the Law on Land Acquisition for Public Interest sets a maximum time to complete land acquisition; projects benefiting include Trans Sumatra Toll Road and Java North Line Double Track Rail Project. ### Conclusion and policy stance - Authorities assert the Indonesian economy is progressing well with preserved macroeconomic and financial stability. - Commitment to continue combining the policy mix with structural reforms to maintain macroeconomic stability and support broad-based, inclusive growth. - Authorities emphasize preparedness to tackle prolonged global uncertainty with appropriate policies and view their approach as tested across episodes of global financial turbulence and commodity down-cycles. *Statement by Marzunisham Omar, Executive Director for Indonesia and Arief Machmud, Senior Advisor to Executive Director, January 25, 2017.* --- _Source: https://www.imf.org/-/media/files/publications/cr/2017/cr1737.pdf_