Urip Hudiono, Jakarta – Indonesia's economy is expected to continue slowing down this year, the Asian Development Bank (ADB) said Thursday, with high inflation and interest rates still battering consumption and private investments.

The forecast of 5.4 percent growth, which is lower than the 5.6 percent achieved last year, puts Southeast Asia's largest economy slightly behind the region's projected 5.5 percent average, and Asia's 7.2 percent.

The government is expecting growth to reach 6.2 percent this year and 6.4 percent in 2007, while Bank Indonesia (BI) sees 2006's full-year growth between 5.0 and 5.7 percent, with 4.58 percent growth during the first quarter.

"Growth in the first half of 2006 will be constrained by soft private consumption demand owing to interest rate increases, high inflation and a likely rise in unemployment," the Manila-based lender said in its annual Asian Development Outlook (ADO) report.

Exports are expected to remain slow as well, ADB local economist Amanah Abdulkadir added, with limited new investments curbing manufacturers from increasing their capacity, productivity and competitiveness in the global market.

Significant amounts of investments – particularly for infrastructure development – are essential if Indonesia wishes to reach higher growth, ADB chief economist Ramesh Subramanian said, suggesting the government should improve the country's financial sector to tap the potentially large investment resources from the private sector in insurance and pension funds.

Although Indonesia's investment climate has been improving, it is still deficient, the ADB noted in its report, as it urged the government to implement its own investment policy package to reduce legal uncertainties.

The ADB in December forecast Indonesia's gross domestic product (GDP) to be able to grow between 5.8 to 6 percent as overall consumption – which slumped after last year's fuel price hike – recovered amid easing inflation and higher public spending.

It revised the figure down because it expects inflation in the first half of 2006 to remain high because of implemented or planned increases in administered prices, minimum wages and government employee salaries.

The bank projected inflation at around 14 percent, although it may moderate to 8 percent by the end of the year, with the effects of the fuel price hike wearing out, and to further slow in 2007.

With this slower inflation, along with easing interest rates, the ADB predicted Indonesia's economic growth would be able to reach 6 percent in 2007.

Fiscal policy also is expected to counteract weaknesses in growth through increased public spending, a shift in spending to regions and the move away from fuel subsidies to better-targeted public spending.

"The main generator for growth in 2006 and 2007 will be domestic demand, stimulated primarily by fiscal measures," ADB said.

"The increased fiscal spending allowed by the reduced fuel subsidies will have both direct and multiplier effects on growth, whose size depends on the availability and condition of infrastructure in the regions, and the effectiveness of local governments in implementing projects."

Indonesian economic outlook 2006-2007:

(% of GDP)

Source: Asian Development Bank (ADB)