Building U.S.-Indonesia Mutual Understanding Since 1994

Developing Indonesia’s Capital Markets

Arifin M. Siregar, Co-Chairman of USINDO, Conference Chairman
Professor Dr. Miranda S. Goeltom, Senior Deputy Governor, Bank Indonesia
Professor Dr. Dorodjatun Kuntjoro-Jakti, Chairman, Board of Commissioners, BTPN (Retiree Savings National Bank)
Dr. M. Chatib Basri, Director, Institute for Economic and Social Research, University of Indonesia
Louis Warren, Financial Consultant, LPL Financial
James McNaughton, Asia Investment Consultants, Moderator


From the low point recorded in the midst of the Asian financial crisis of 1998, all of Southeast Asia’s financial markets have recovered and, in varying degrees, expanded.  Because of setbacks such as the APP bond default (the Asia Pulp and Paper company had issued secured bonds to U.S. investors but would not guarantee to repay the full value of the loans after the crash) and subsequent landmark court rulings against overseas lenders (an Indonesian court ruled that overseas lenders did not have standing in Indonesian courts), full recovery of Indonesia’s markets has been impeded.

The SBY Administration recognizes that the growth of Indonesia’s economy depends on a number of factors, of which perhaps the most important in the long term is the operation of a stable, well regulated and extensive capital market.  Through functioning bond and stock markets, financial resources can be mobilized to support growth where market factors indicate.  Reliable securities markets act as recipients and consolidators of long-term portfolio investment from abroad, a factor of increasing weight in today’s globalizing economy.  Pension funds and insurance companies, both essential components of a developed economy, need the depth and liquidity of securities markets for the management of their investments.

Both foreign investment managers and Indonesians in the government and private sector have sought improvement in key elements of the capital market economy: the legal and judicial system, the accounting profession, professional associations of market participants and governmental regulators themselves.  These elements are all important for the expansion of Indonesia’s access to foreign debt capital.

Dr. Chatib Basri, Macro Economic Outlook, 2007 – 2008

Dr. Basri surveyed the current macroeconomic environment in which Indonesia’s capital markets were developing.  The chart below illustrates the great extent of the recovery of Indonesia’s economic and financial condition since the Asian financial crisis of 1997.

The inflow of some $51 billion in foreign exchange has been especially valuable in rebuilding capital resources.  In recent years as consumption and GDP growth has risen; investment, both foreign and domestic has kept pace, albeit with a leveling off in late 2007.

While inflation and unemployment have remained problematical, they were neither out of control nor a hindrance to capital investment.  Compared to other Asian economies, however, the recovery of investment, both direct and through capital markets, has lagged in Indonesia (see chart below).

In Thailand and China the growth of both gross domestic capital formation and financial markets has consistently surpassed that of Indonesia over the past five years.

Presentation by Prof. Dr. Miranda S. Goeltom

Dr. Goeltom began by noting the spreading influence of the U.S. subprime mortgage problem, which has plagued global markets and could lower global growth. She approved the stabilizing lowering of short term interest rates by the U.S. Federal Reserve Bank, but felt the sharp rise in oil prices and the continued decline of the dollar against the euro created more uncertainty. She felt that the robust economic growth of China, Russia, India and other emerging markets should counterbalance problems of the developed world.

In pointing out that Indonesia would be less affected by a global economic slump than other Asian countries, Dr Goeltom explained that its exports to the U.S. were mostly basic commodities and natural resources that are less sensitive to drops in U.S. household income.  Indonesia’s continued growth in foreign exchange reserves should strengthen the rupiah. She was concerned about inflation, but believed the Indonesian domestic economy had become better positioned to anticipate and mitigate external shocks. She felt Indonesia would sustain six percent future growth through consumption, exports, greater infrastructure investment and rising bank credit.

In the decade since 1997, Indonesia has experienced impressive capital market growth. Market capitalization rose 132 percent from the end of 2005 to October 2007, and funds gained through stock issues more than doubled. The use of mutual funds as investment vehicles has kept pace with this development. Nonetheless, Dr. Goeltom felt the Indonesian capital market was relatively small compared to most other Asian countries. She commended the efforts of BAPEPAM (the capital markets supervisory agency) to boost the investment culture by building public confidence in capital market investment.

According to Dr. Goeltom, Indonesian bond market growth is far behind the increase in equity market financing. She underlined the importance of the debt market to support long term financing for infrastructure projects and other sectors of the real economy. In 2007, bank credit represented 59 percent of debt financing, government bonds 31 percent, and finance companies and corporate bonds each provided 5 percent of debt issues. Indonesian banks are now showing less appetite for large long term projects. Now some 68 percent of the Indonesian equities traded on the stock exchanges is in foreign ownership, compared to 17 percent in government bonds and 6 percent corporate bonds. She stressed the importance of developing a deep, liquid bond market with more foreign participation as a vital link in the Indonesian overall economy. Dr. Goeltom concluded her remarks by touching on the prospects for an ASEAN regional capital market, and the need for Indonesia to match its neighbors in the competition for global investment capital.

Professor Dr. Dorodjatun Kuntjoro-Jakti

Dr. Dorodjatun, a former coordinating minister for economic affairs and a former ambassador to the United States, presented an analytical survey of the government’s macro economic targets and accomplishments of the past several years.  He emphasized the rising economic growth rate that Indonesia has achieved over the last five years: 4 percent in 2002, 5 percent in 2004, and 6.5 percent in 2007. The recovery of private consumption and the growth of real investment reinforced the benefits of strong external demand for Indonesian exports.

Inflation has been kept under control and interest rates are relatively low.  Dr. Dorodjatun saw domestic demand as the key to continued Indonesian growth.  Linked to it was increased spending on Indonesia’s infrastructure.  Ambassador Dorojatun commented at length on the importance of good governance issues, anti-corruption, and the need for a strong, consistent judiciary.

A wide array of policy changes have helped what has been accomplished so far.  Budget allocations for infrastructure improvement focused on toll roads, water projects, electric power and telecom. New regulations improved the investment climate. Partial administrative reform and reforms in the financial sector have been somewhat successful but more, including judicial reform, need to be done.  The Indonesian government has improved tax and customs administration, while business startups have become simpler and speedier by being approved at the center rather than the regions. These government measures to streamline bureaucracy and target investment to badly needed infrastructure have also served to reduce poverty as well as help growth.

Louis Warren

The world is awash in liquidity and global investors have broadened their search for good profits from suitable opportunities.  Since August 2007, U.S. investors have become even more interested in emerging markets as U.S. growth slows and major financial institutions are hit by large writeoffs of subprime debt. China/India/Russia/Brazil funds are especially popular, and investors seek even higher rates of returns in Asian, African, and East European frontier economies. Some key factors in investment judgments include country ability to control inflation; local interest rates and domestic capital costs; inequality of income distribution and unemployment as this affects political stability; adequacy of infrastructure, and host country legal and accounting frameworks.

Indonesia in macroeconomic terms has become much more favorable for foreign equity investment as the country has recovered politically and economically from the 1997 crisis.  Foreign analysts note Indonesia’s huge potential and the need for more reforms to fully realize it.  Real annual growth is up to 6 percent, and foreign exchange reserves are over $50 billion. Strong Finance Ministry and Bank Indonesia macroeconomic management has kept budget deficits and inflation well under control. The remarkable development of new high rise businesses and enormous, affluent shopping malls in Jakarta is impressive. Unification of the stock exchanges will create more efficient markets; already, foreign investors own 70 percent of market capitalization, mostly in the largest and most well known firms. Some factors that could inhibit foreign investors include Indonesia’s badly underfunded infrastructure, restrictive labor laws, inadequate disclosure of company financial information, and occasional unexplainably meteoric movements in stock prices.

Emerging market debt may become less attractive to foreign investors, as the full extent of the subprime credit crisis is not yet fully realized.  For both U.S. and overseas issues, there has been a movement away from high yield issues and a flight to lower interest high quality debt.  International sovereign debt denominated in world currencies will continue to be purchased, with currency fluctuations the main consideration. However, corporate emerging market debt is often regarded as risky as equities, and local currency issues have special risks.  Portfolio managers pay special attention to company cash flows and the quality of earnings to gauge the probability of being repaid on time. Consistent, fair implementation of commercial law is a paramount consideration to foreign investors. Some recent Indonesian legal judgments against U.S. firms on possibly questionable grounds might constrain future flows of U.S. portfolio capital to Indonesian companies.