Press Release: IMF Staff Statement on Indonesia

March 9, 2004

The following International Monetary Fund (IMF) staff statement was issued in Jakarta on March 5:

An IMF mission led by Daniel Citrin today concluded a visit to Jakarta during February 24-March 5 for the first post-program monitoring discussions and the 2004 Article IV consultation discussions.

As described in the attached assessment, the focus of the mission was to review economic developments and identify policy priorities for the period ahead:

    • A pickup of GDP growth to 4.8 percent in 2004 is projected reflecting the favorable global environment and continued strength of private consumption. Inflation is likely to remain at the current level of around 5 percent.

    • The priority going forward is to place the economy on a high and sustainable growth path. In addition to maintaining macroeconomic stability and continuing financial sector reforms, policy efforts should concentrate on tackling weaknesses in taxation and regulation, enhancing labor market flexibility, and addressing fundamental legal issues such as contract enforcement.

The US$5 billion extended arrangement with the Fund expired on December 31, 2003. Indonesia's total outstanding obligations to the Fund amount to US$10 billion at present.


Post-Program Monitoring Discussions and 2004 Article IV Consultation
IMF Mission Assessment

March 5, 2004

1. With Indonesia having achieved a measure of economic stability following the 1997-98 financial crisis, the priority going forward is to place the economy on a high and sustainable growth path. In addition to maintaining macroeconomic stability, further reforms are needed to enhance the business climate and improve investment and export performance.

2. The positive economic trends of the past year have continued into 2004. Market sentiment remains strong, consistent with developments in other emerging markets and the region. The rupiah has been stable, the stock market has reached new highs, and there have been favorable responses to the government's recent domestic bond auction and sovereign issue. Inflation has declined further, and the external position is sound with reserves at $36 billion at end-February. Real GDP growth reached 4.1 percent in 2003, slightly above expectations.

3. The mission projects a pickup of GDP growth to 4.8 percent in 2004. Such a trend would be consistent with the favorable global environment and continued strength of private consumption. Headline inflation is expected to remain at around 5 percent in 2004. On the external front, gross reserves could decline a little—by up to $1 billion—but should remain comfortable.

4. The main priority for economic policies, as recognized in the government's White Paper, is to put Indonesia on a higher growth path. While recent economic trends have been generally favorable, Indonesia's GDP and export growth have lagged behind others in the region, and the economy has yet to share fully in Asia's recovery. To bolster Indonesia's growth prospects, reform efforts should concentrate on tackling weaknesses in taxation and regulation, enhancing labor market flexibility, and addressing problems with property rights and contract enforcement.

5. Progress in reducing inflation and a stable rupiah has allowed Bank Indonesia to reduce interest rates substantially over the past year without undermining the gains in price and exchange rate stability. The mission agrees with BI that it will be important to maintain a prudent stance in the period ahead, and during the eventual transition to inflation targeting.

6. Fiscal consolidation remains an important element of the medium-term macroeconomic framework. The latest data suggest that the 2003 budget deficit outturn (IMF accounting definition) came to 2¼ percent of GDP, a little above the 2 percent target in the revised budget, largely as a result of higher donor-financed development spending. Based on the government's accounting definition, the mission estimates that the deficit came to 2.1 percent of GDP. The decline in the public debt-to-GDP ratio is expected to continue with the further fiscal consolidation planned for 2004, based on the government's deficit target of 1.3 percent of GDP. The successful sovereign bond issue just concluded is testimony to Indonesia's successful fiscal performance over the past couple of years.

7. Over the medium term the main priority in the fiscal area is to enhance non-oil tax revenues through broadening the tax base and strengthening tax administration. This will be needed to provide adequate resources for physical and social infrastructure, and to reduce reliance on oil revenues. Efforts should also be made to improve the efficiency and quality of spending.

8. The mission congratulates the authorities on the successful closure of IBRA, which serves as an important signal of Indonesia's emergence from the crisis. Progress has continued to be made in developing a robust financial safety net, including the submission to Parliament of the deposit insurance law. The mission endorses the government's strategy for the state banks to increase private sector participation to improve efficiency and governance.

9. Tax administration and enforcement remains a significant source of uncertainty to business. Weaknesses include arbitrary tax assessments, burdensome customs procedures, and inefficiencies in the refund systems for the VAT and income taxes. The pending tax legislation should be used to help address these issues.

10. Building a clear and competitive framework for labor relations is an important element of the strategy for higher growth and employment in Indonesia. The manpower and industrial disputes legislation provides a basic framework, but progress in finalizing the implementing regulations needs to be completed in a timely manner. Resolving these issues in a balanced manner in line with Indonesia's regional competitors, will be key to attracting the investment in labor-intensive industries needed to make progress in reducing unemployment.

11. Progress in legal and judicial reforms is needed to increase certainty with regard to property rights and contract enforcement. Improvements in these areas are essential to normal commercial and banking operations. While steps have been taken in recent years to strengthen the court system, the absence of certainty in the implementation of commercial law remains a serious problem. The mission encourages the authorities to bolster ongoing efforts to strengthen the judiciary.

12. The government has succeeded in maintaining market confidence since the expiration of the Fund-supported program. Going forward, significant challenges remain to preserve the gains in macroeconomic stability and enable Indonesia to share in Asia's strong economic growth.


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