MACRO FACTORS: 2020 RECAP & 2021 OUTLOOK
MACRO FACTORS: 2020 RECAP & 2021 OUTLOOK
2020 MACRO RECAP
Indonesia 2020 GDP Growth at -2.07% of GDP
Indonesia released its 2020 GDP growth data which was reported at -2.07% YoY, the first contraction since the 1997 Asian Financial Crisis. The country’s 4Q20 GDP growth of -2.19% YoY did not manage to bring up the overall growth to positive territory. Just as other countries around the world, the Indonesian economy was hit by the COVID-19 pandemic causing slowdowns in private consumptions, investments, and trade. However, compared to other countries such as the US, EU, or Singapore, Indonesia still fared better as our economy still mostly relies on domestic demand. China and Vietnam were the two countries that still managed to book positive GDP growths of 2.3% YoY and 2.9% YoY respectively. The resilient growths were due to China’s strict lockdown at the start of the pandemic which resulted to an earlier economic recovery while in Vietnam’s case, the country did not see major spike in infection and managed to curb the spread down at the start of the pandemic.
As a result of the pandemic, domestic demand fell by 3.07% YoY in FY2020 as overall consumption expenditure declined by 2.10% YoY while investments fell by 4.95% YoY. Net exports was the main positive driver of GDP growth in FY2020 as it grew by 55.47% YoY driven by sharp imports decline.
Consumption: Pressure from pandemic and PSBB slashed consumer spending
Private consumption fell by 2.61% YoY in FY2020 as the pandemic and PSBB held back consumer spending for most of the year. Travel and leisure as well as discretionary spending were seen to be the main dragger of private consumption in FY2020 due to the mobility restriction and economic downturn. Though we note that the trend seems to have improved progressively every quarter after they bottomed in 2Q20. Moreover, the government’s PEN stimulus which included spending on social safety net also helped support private consumptions during the year especially for the middle-low segment.
Investments: Mobility restriction hit investments though improvements seen in 2H20
Meanwhile, the drop in investments by 4.95% was the main negative driver of GDP growth in FY2020 as the pandemic put many investments on hold due to mobility restrictions. We saw improvements in 2H20 from machinery related investments coming from the healthcare sector. Moreover, the Indonesian Investment Board (BKPM) mentioned that there were many realization of investment backlogs in 2H20 while China’s economic recovery also helped boost investments in the second half of the year. Data from BKPM indicated overall investment growth 2.9% YoY in FY2020 while FDI alone grew by 1.6% YoY, the first positive growth since 2017. Investments in the basic metal industry from China contributed the biggest share of FDI in 2020.
Government expenditure: Social spending and PEN program drove overall government spending
Government spending managed to book positive growth of 1.94% YoY in FY2020 as a result of the government’s massive spending to support the economy. Overall, government expenditure grew by 12.2% YoY based on the government’s unaudited FY2020 fiscal realization data. Social spending was the main driver of the increase as part of the economic recovery program (PEN). The PEN stimulus itself was recorded at IDR580tn in FY2020 which is below the government’s target of IDR695tn. Most of the spending was used for social safety net as well as SME and corporate supports.
Net exports: Import dip outnumber export contraction and supported overall net exports
Net exports also grew strong at 55.47% YoY in FY2020. As domestic demand was weak while oil price collapsed due to the pandemic, imports contracted by 14.71% YoY. We started to slowly see narrowing import contraction as the oil price has now climbed back up above USD50/bbl towards the end of 2020 and now above USD60/bbl driven by supply cuts and optimism of demand recovery. Machinery imports also helped narrowing the import contraction at the end of the year. Meanwhile, exports also contracted by 7.70% YoY in FY2020 due to the pandemic and border closures between countries in the middle of the year. Import contraction also narrowed in 2H20 due to the recovery of commodity prices such as coal and CPO. Meanwhile, exports of iron and steel also drover recovery of exports.
2020 Balance of Payment recorded surplus of USD2.6bn
Indonesia reported a balance of payment surplus of USD2.6bn in 2020, lower than USD4.7bn in 2019. The narrower surplus was mainly caused by the drop in the financial account surplus from USD36.6bn in 2019 to USD7.8bn in 2020. Portfolio investments took a dip as we saw major outflows from both the bond and equity markets. Meanwhile, mobility restrictions amidst the pandemic also caused direct investments to slow down. On the other hand, due to the strong and improving trade balance, Indonesia recorded narrower CAD in 2020 at 0.4% of GDP compared to 2.7% of GDP in 2019.
Narrowing 2020 CAD due to imports dip
As imports fell deeper than exports, overall trade balance improved in 2020 as goods trade balance was recorded at a surplus of USD28.2bn compared to USD3.5bn deficit in 2019. Imports dipped by 18.1% YoY in 2020 as the pandemic limits mobility while oil price plunged throughout most of the year. Weak domestic demand also caused imports to drop in 2020. Meanwhile, exports also declined by 3.0% YoY in 2020 dragged by the pandemic and weak global demand. However, iron and steel exports including nickel and copper managed to minimize the export contraction. Towards the end of the year, rally in CPO and coal price also managed to help support exports. Hence, we managed to see overall CAD improving from 2.7% of GDP to 0.4% of GDP, the lowest level since 2011.
Financial Account declined YoY due to foreign fund outflows
The financial account surplus dropped from USD36.6bn in 2019 to USD7.8bn in 2020 as the pandemic hit both the direct and portfolio investments. Direct investment surplus shrunk from USD20.1bn in 2019 to USD14.1bn in 2020 due to global uncertainties surrounding the pandemic. Meanwhile, portfolio investment surplus also fell from USD22.0bn in 2019 to USD USD3.9bn in 2020 as we saw outflows from the bond and equity markets. In 2020, the bond market recorded foreign fund outflow of IDR69tn while the equity market recorded outflow of IDR47tn. We note that the other investments account recorded higher outflow which is caused by asset placements in overseas instruments by Indonesians especially towards the end of 2020.
2021 MACRO OUTLOOK
2021 GDP outlook: Expecting rebound following vaccine roll-out and economic recovery
Given the weak and low base 2020 GDP growth, we expect 2021 GDP growth to be positive, signifying economic recovery. The Ministry of Finance and other economic institutions are now looking at 4.0-5.0% YoY GDP growth for Indonesia in 2021. We expect GDP growth to still remain weak in 1Q21 as the impact of the pandemic was only seen starting in 2Q20 last year. Hence, we would still see high base impact in the 1Q21 GDP growth. However, 2Q21 GDP should show strong recovery as our economy bottomed in 2Q20 last year. The strong trend should continue to be seen for the rest of the year which would result to solid positive GDP growth for FY2021E.
Due to the low base, we do expect recovery for private consumptions as the economy recovers and mobility restrictions eased down compared to last year. However, the magnitude for the recovery would be highly impacted by the COVID-19 conditions and vaccination progress in the country. Anecdotal evidence indicated that discretionary spending has not yet returned to pre-covid level at the moment. Retail sales indicated that it is still 30% below pre-covid level. Hence, we think that as long as the pandemic still ensues, consumption recovery would still be soft and would require government support. The government recently has increased its 2021 PEN stimulus budget from IDR356tn to IDR699tn where among the drivers for the increase was social safety net to support consumption. All-in-all, we think that consumption recovery would be highly impacted by the COVID-19 cases and vaccination progress in Indonesia. As more people get vaccinated, we think that consumer confidence would increase and, thus, lead to a stronger consumption recovery.
Just as consumption, investment also should show positive growth given its low base from 2020. As the government continue to push for investments in the battery and EV space, we think that these would help contribute to overall investments in 2021. China’s recovering economy would also continue to help boost investment in Indonesia as we have seen basic metal FDI from China was among the highest contributor of FDI in 2020. BKPM also has indicated that there are still investment backlogs that will be realized in 2021. Ease down in mobility restrictions is also hoped to smooth out DDI realization this year. Many investors are also hopeful for FDI coming in driven by the Omnibus Law and the Sovereign Wealth Fund. However, we think that execution remains to be seen and we would only start to see impact from them towards the end of this year at the earliest.
As we are still in recovery period, we think that government spending would remain high. This is in-line with the government’s recent announcement to increase the PEN stimulus to IDR699tn from IDR356tn to support the country during the recovery period. The increase in the stimulus is mainly driven by healthcare spending for vaccination, SME and corporate supports, and social safety net. According to the government’s state budget draft for 2021, government expenditure is aimed to grow by 0.4% YoY using the initial PEN stimulus of IDR356tn. Financing for the stimulus will use unrealized spending from 2020 and budget reallocation mainly from the infrastructure budget. Hence, the government is still aiming for 5.7% of GDP budget deficit for FY2021E. We do see risks that the deficit may widen due to the increase of the fiscal stimulus package to support the economic recovery. Maintaining the deficit at current target would also require the government to increase its tax revenue target which would be difficult to realize given the weak economy at the moment. However, we think that the government would not let the deficit go beyond 6.0% of GDP, which was the realization in 2020, as it would increase the risk of credit rating downgrade by rating agencies.
We think net exports would be driven by exports recovery while imports contraction remains albeit at a narrower rate. Exports will continue to be driven by iron and steel exports with the government’s continuing push in investments in the battery and nickel sector. As the government has signed an agreement to supply nickel ore to foreign partners, LG Chem and CATL, for the lithium battery project, we think the nickel ore exports would be among the key drivers of our exports along with other commodities such as CPO and coal. Meanwhile, we expect import contraction to ease driven by oil price recovery, which is now already above USD60/bbl. As our economy would still be recovering, we think that domestic demand would remain soft and would not help narrow the import contraction much.
2021 Balance of Payments should be supported by financial account recovery and soft CAD
We think that the balance of payments would still book a surplus in 2021 with CAD remained lower than 2019 level but higher than 2020 level. Meanwhile, we expect recovery in the financial account surplus coming from better direct and portfolio investments.
As we note previously, we still expect imports to remain weak on the back of slow and steady recovery in domestic demand. Though, as oil price has rallied, we expect the contraction to narrow as well. On the other hand, we expect exports to remain supported by iron and steel and commodities exports as global demand is still recovering. Hence, overall CAD should slightly widen due to narrower import contraction but not back to 2019 level just yet. As a guidance, Bank Indonesia is now expecting 2021 CAD of 1.4-1.5% of GDP.
On the financial account, we think that easing mobility restrictions would help smooth out direct investments this year while the government also realize some backlogs from last year. Hence, we expect recovery in the direct investment flow. Meanwhile, following the global asset reallocation to EM countries, we also expect recovery in the portfolio investments flow. YTD, we have seen solid inflows from foreign investors into both the equity and bond markets. We think that the reform story, including the Omnibus Law and Sovereign Wealth Fund, along with vaccine roll-out will keep investors upbeat with Indonesia. The risks lie in execution of the reform and vaccination as well as the Rupiah movement.
Rupiah to remained tamed for the year
With CAD remain under control while foreign investors returning into the bond and equity markets, we expect the Rupiah to remain under control for the year. Downside risks to the Rupiah may come from:
- Any early indication of Fed tapering, which according the US central bank is unlikely happening within the next year. The Fed repeatedly mentioned that it will not proceed with QE tapering or rate hike until the pandemic is over. However, learning from the 2013 taper tantrum, any early indication from the Fed remains as risk to the Rupiah despite execution happening in the following months or years.
- The rise of the US Treasury yield, which prompts foreign outflows from the bond market. At the moment, the US Treasury yield has risen to over 1.3% as investors are gaining more confidence in the economy as well as declining COVID-19 infections.
- Noises in regards to Bank Indonesia independence. The Omnibus Law on financial sector reform is still being discussed. Should the unfavourable noises on the central bank’s independence resurface, we may see foreign fund outflow which would hurt the Rupiah.
Limited room for Bank Indonesia rate cut
We think that Bank Indonesia would have limited room to cut rate at this juncture. Despite the low inflation and steady currency, the central bank would want to manage its real rate and stability. At this juncture, real rate is at 1.95% using January’s inflation level. Hence, we believe that BI would only cut rate further if necessary, assuming strong Rupiah position and low inflation remain intact. BI would more likely loosen its macroprudential measures in easing monetary policy this year in favour to rate cut this year, in our view.
We think that inflation will show some recovery this year though not back to 2019 level yet as domestic demand is still weak. Despite the high money supply, we think that inflation would not fully pick up yet if money velocity is still slow.
We reiterate our view and see more upside in equities than fixed income. Given the strong rally of fixed income last year, we think that room for further yield compression is rather limited at this juncture. On the other hand, the equity market closed below its pre-covid level in 2020 which should offer more upside given the excitement of economic recovery in 2021.
Overall, we think that the bond market still has some upside but much smaller than in 2020 given recent corrections. We think that Bank Indonesia have limited room for rate cut during the year given the needs and stability of the currency while inflation remains low. As we still expect CAD to remain manageable this year, we think that the Rupiah would remain stable during the year. Risk to the currency would come from noises on Bank Indonesia independency should it resurface as well as risk of early Fed taper or rate hike announcement, which we view is rather unlikely. At the moment, the bond market is facing volatility due to rising US Treasury rate which caused foreign outflows from the bond market as investors are gaining confidence in growth and recovery. Bond investors are also cautious of the incoming bond supply this year as the government have increased the planned fiscal stimulus for the year. At the moment, the government mentioned that the fiscal deficit would be maintained at its target of 5.7% of GDP with financing mostly using reallocated budget and unrealized stimulus from last year. We think that successful execution of the Omnibus Law and Sovereign Wealth Fund in attracting FDI would help ease government’s financing need and may offer upside to the bond market. We think that foreign participation will still continue though at smaller sizes as foreign investors are now leaning towards DM credits over EM following the global reflation concerns. Nevertheless, Indonesia’s attractive real yield and stable currency still looks appealing to foreign investors.
We are more upbeat on the equity market as we see more upside while we expect growth recovery in 2021. Foreign flows YTD of USD982mn also indicates improving appetite from foreign investors. As we expect the Rupiah to be stable or even appreciate this year, the equity market should be even more supported as the equity return and the strength of the currency are positively correlated. Meanwhile, with abundant liquidity while investors seek for return, the equity market would likely still be the preferred choice given the low return in the money and bond markets. Improving FDIs and investments supported by smooth execution of the Omnibus Law and Sovereign Wealth Fund would further boost the equity market’s performance. We think that COVID-19 and vaccination would be the biggest question mark for the year as worsening COVID-19 conditions, adverse news regarding the vaccines, and stricter mobility restrictions would be big risks to the equity market. However, efficient and effective vaccination process would help reach herd immunity and would be positive for the market. Continuous fiscal supports from governments around the world is also positive for the equity market as it helps to support growth during vulnerable times. However, we do not risk of higher budget deficit that may negatively impact the country’s GDP growth if it is stretched too much.
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