The IMF’s recent economic review found that, despite devastation caused by earthquakes and tsunamis, Indonesia has made steady economic progress over the past few years, with growth reaching a nine-year high in 2005. Macroeconomic vulnerabilities have also declined: public debt has continued to fall, banking sector performance has improved, and corporate vulnerabilities have diminished. Sound macroeconomic management has helped reestablish policy credibility and resulted in large capital inflows. Reserves have thus reached record highs, enabling Indonesia to make partial early repayments to the IMF in June 2006.
Growth slowed in early 2006, reflecting domestic fuel price and interest rate increases introduced last fall to help restore financial market confidence. With inflation trending down, however, interest rates are expected to fall and, thanks in part to the expected acceleration in government spending, real GDP growth is expected to reach 5.2 percent in 2006. That said, downside risks remain. Further tightening in global financial markets could prevent the planned easing in domestic interest rates, and higher international oil prices could have an unfavorable impact on the budget, growth, and inflation.
|Real GDP (percent change)||4.8||5.1||5.6||5.2|
|Consumer prices (percent change; end-period)||5.2||6.4||17.1||7.0|
|Gross reserves (billion dollars; end-period)||36.3||36.3||34.7||40.8|
|Total external debt (percent of GDP; end-period)||57.7||54.0||47.6||39.0|
Executive Directors commended Bank Indonesia for its cautious approach in cutting interest rates and agreed that the pace and timing of further cuts would need to take into account global financial market developments. They welcomed the government’s efforts to improve the transparency of public spending while continuing to improve budget execution. They also welcomed authorities’ intentions to address banking sector vulnerabilities and strengthen financial intermediation in the context of the recently announced financial sector reform package. In particular, they stressed the importance of dealing with problems at the two largest state banks, where nonperforming loans have risen considerably in the past year and governance remains weak.
Looking ahead, Directors emphasized that the key challenge is to boost economic growth to help alleviate poverty and reduce unemployment. To this end, they commended the authorities for adopting an impressive structural reform agenda but stressed that forceful implementation would be key to enhancing investor confidence and promoting private sector–led growth.