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Opinion

Jokowi -- business as usual will not be enough

Re-elected Indonesian president must reform economy fast and stem political polarisation

Jokowi will probably continue to avoid more complex reforms needed to lift growth.   © NurPhoto/Getty Images

International investors breathed a sigh of relief when early results suggested that Indonesian President Joko Widodo had won the April 17 presidential election. Although final results will not be released until late May, few are convinced by claims of electoral fraud made by Prabowo Subianto, his hot-tempered rival.

For investors, a win for Prabowo would have meant more protectionism and less predictability, while another five years of Widodo looked more like business as usual, with steady if unspectacular growth seemingly set to continue. Such complacency could prove misplaced, however. The economic risks facing Indonesia are high, and with political polarization rising, Widodo's second term will be crucial to shaping Indonesia's future.

Jokowi, as the president is known, will probably continue with a nuts-and-bolts approach to the economy, focusing on building infrastructure, expanding access to health and education, and cutting red tape.

But he will probably also continue to avoid more complex reforms needed to lift growth and create more of the formal jobs Indonesia needs to absorb its expanding pool of young workers. Top of the list are dismantling regulatory barriers to trade and investment, reducing rigidities in the labor code, and funding and delivering productive public spending on infrastructure and human capital.

Doing so would require taking on a phalanx of vested interests -- from powerful business tycoons to corrupt bureaucrats and self-serving politicians -- as well as the always unpopular task of raising taxes.

Widodo has said he will push much harder for reform in a second term. Freed of the need to seek reelection by the country's two-term limit, Widodo argues he will be able to set aside political caution and take on vested interests. By nature, though, Widodo seeks compromise rather than confrontation.

Faced with criticism, he has consistently ceded ground to his opponents on issues ranging from restrictions on foreign investment to political Islam. If that continues, the term limit puts him at risk of becoming a lame duck -- like his predecessor Susilo Bambang Yudhoyono -- with political forces quickly turning their attention to the next presidential election in 2024.

Some economic optimists speculate that Widodo might deliver "the hard medicine" early on. They point to his first term when, shortly after assuming office, he reduced wasteful fuel subsidies that had long plagued the government budget. But the analogy misses the mark. Cutting fuel subsidies was a necessity because the budget would otherwise have blown out. More difficult reforms to boost growth would take longer to pay off.

The fundamental problem lies in the myriad political parties that Widodo must co-opt into his governing coalition. The new government will not be sworn in until October, and the next few months will inevitably be preoccupied with horse-trading for cabinet posts. But there is little doubt that vested interests will continue to hold privileged positions that enable them to block deeper economic reforms -- as they have since Indonesia's transition to democracy two decades ago.

In any case, Widodo has shown little interest in pursuing the reforms needed to liberalize the economy or address deeply-rooted governance problems. Though less strident than Prabowo, Widodo nevertheless promotes economic nationalism and state intervention, and remains distrustful of markets despite a desire for more investment.

A business-as-usual approach seems the most likely scenario, despite a problematic economic outlook.

Indonesia was rocked by capital outflows in 2018 as investors anticipated rising global interest rates and contagion fears gripped markets. A dovish shift by major central banks has since reduced the pressure, and investors have flocked back.

Yet they will almost inevitably reverse course at some point, either because of an eventual tightening in interest rates or because of another global financial shock. A fall in capital flows to Asia could be dangerous for Indonesia, in view of its relatively high current account deficit of 3% of gross domestic product. Conversely, if abundant capital inflows persist, it will only be because weaker economic conditions force major central banks to keep monetary policy loose. That would likely put pressure on Indonesian exports, hurting growth and the current account.

Fiscal policy is also at risk. An ambitious tax target has been set for 2019, and the likelihood of a revenue shortfall is high. Global commodity prices boosted revenues last year, but are unlikely to provide the same help again. The government hopes to deliver a much-needed increase in the tax take almost solely by improving compliance rather than by confronting the politically-difficult task of increasing taxes.

Tax compliance in Indonesia is notoriously weak.   © Reuters

Tax compliance in Indonesia is notoriously weak. But fixing it will take time. Reforms to close existing loopholes, increase property taxes, and -- potentially -- raise value-added tax also need to be in the mix.

A deeper worry is that growth could slow for structural reasons. Productivity growth has been slipping and could worsen further if, for instance, state-owned enterprises increasingly crowd out the private sector.

The biggest concern is that some of these shocks might come together. How would Widodo manage? Faced with the political shock of Islamist-inspired protests in 2016 against his ally, former Jakarta governor Basuki Tjahaja Purnama, the president was seriously rattled.

He muddled through a period of increasingly divisive identity politics, and appears to have been reelected with a slightly increased margin. But muddling through on the economy will not be enough to keep growth steady, let alone lift it to the level needed to address growing anxiety about a lack of good quality jobs.

Optimistic Indonesian economists like to say that "bad times make for good policy," suggesting that the political system would be jolted out of complacency should growth deteriorate. Yet recent history has not born this out. The end of the commodity boom earlier this decade hurt Indonesia's economic performance precisely because Widodo's first term ultimately did not deliver a sufficiently forceful policy response.

Without more decisive reforms, it certainly will not be "business-as-usual" at the next presidential election. In the absence of faster and more equitable growth, political polarization may well deepen. The outlook for investors then would be far less benign.

Roland Rajah is director of the International Economy Program at Australia's Lowy Institute. Ben Bland is director of the institute's Southeast Asia Project.

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