Faisal Rachman, Jakarta – Indonesia, being one of the world's largest producers and exporters of natural resource commodities, has been positively impacted by the global commodity windfall in the past two years.
The commodity boom, which was characterized by a surge in prices of several major commodities, had a significant impact on Indonesia's current account and fiscal balances. The current account balance is an important indicator of a country's external health sector, and the fiscal balance is a crucial indicator of a government's financial health and its ability to meet its financial obligations.
Indonesia has achieved a notable accomplishment of booking a current account surplus, a condition which had not been seen since 2011. Specifically, the country's current account balance recorded a surplus of 1.0 percent of the gross domestic product (GDP) in 2022, following a surplus of 0.3 percent of the GDP in 2021.
This has been attributed, in part, to the increase in exports, which has been fueled by robust external demand and higher commodity prices, particularly for coal and crude palm oil. Exports recorded an impressive double-digit growth of 41.92 percent in 2021 and 26.07 percent in 2022.
These favorable export conditions were driven by the post-pandemic global economic recovery and high commodity prices resulting from the global supply chain disruption amid heated geopolitical tensions. Additionally, Indonesia's nickel downstream has been performing well, and the exports of iron and steel have notably grown, contributing to the positive trend in the current account balance.
The commodity windfall also led to an increase in government revenues, mainly through the non-tax state revenue, the non-oil and gas income tax and export duties. The government revenues jumped by 21.56 percent in 2021 and 30.58 percent in 2022.
As a result, the government's fiscal balance improved significantly during the commodity boom period. The fiscal deficit kept narrowing from 2020 in which the government was allowed to run a fiscal deficit exceeding 3 percent of the GDP for three years amid the extraordinary condition of COVID-19 pandemic.
In fact, the deficit shrank from 6.14 percent of the GDP in 2020 to 2.37 percent of the GDP in 2022, making Indonesia a year earlier to achieve the planned fiscal consolidation.
However, there are risks that could prevent a significant improvement in Indonesia's current account and fiscal balances.
One major risk in 2023 is the potential for a global economic slowdown, which could reduce demand for Indonesia's exports and lead to lower commodity prices. Thus, the current account surplus is prone to shrink with a possibility to turn to a deficit.
When the commodity boom ends and prices start to decline, Indonesia's fiscal balance will also be negatively impacted as it leads to a decrease in government revenues, which could result in a widening fiscal deficit.
These conditions refer to twin deficits or a situation in an economy where a country experiences both a budget deficit and a current account deficit at the same time.
Why does it matter? When both deficits occur simultaneously and are not managed properly, this can lead to a number of economic challenges, namely currency depreciation, inflation and higher interest rates.
The current account deficit condition can put downward pressure on the rupiah exchange rate. The deficit could drain foreign reserves amid the risk of higher-for-longer global policy rates that have triggered risk-off sentiment in the global financial markets (capital flight).
A depreciating rupiah, furthermore, could lead to imported inflation as a weaker currency makes imports more expensive.
Widening the fiscal deficit could make the government look for sources of fiscal financing, such as issuing bonds in order to maintain the economic recovery progress. Twin deficits also can reduce confidence in the economy.
All these, at the end of the day, may lead to higher interest rates, which could reduce private investment and consumer spending, hence giving a threat to economic growth.
The good news is that Indonesia's economic fundamentals are resilient enough to minimize the risk of twin deficits.
Until January, the government's excess financing combined with the 2022 financing surplus had accumulated to around Rp 500 trillion (US$32.75 billion). This could manage the government bond supply risk and buffer the economy from the global uncertainty in 2023.
To repeal the implementation of restrictions on community activities by the end of 2023 will further boost public mobility and demand, giving resilience to the government revenue from the demand side to some degree. Thereby, this year's fiscal deficit target of 2.84 percent of the GDP remains attainable, which will continue supporting economic growth.
The risk of a large current account deficit may also be limited. The economic reopening of China, somehow, could curb the weakening commodity prices, leading to a more gradual reduction of the trade surplus. The heavy reliance on commodity exports makes Indonesia vulnerable to global commodity price shocks since the prices tend to be erratic.
Therefore, Indonesia's attempts to reduce its reliance on commodity exports through the natural resource downstream program is the right move as it grants more value added and may strengthen Indonesia's position in the global supply chain.
Furthermore, to mitigate the risk of imported inflation, domestic inflation needs to be tamed, so that the overall inflation could be well controlled. Thanks to the declining global oil price, administered price inflation tends to be muted this year.
This allows the government to focus on managing volatile inflation, particularly food inflation. If successful in controlling inflation, the need to further increase interest rates can be restrained.
All of those factors, along with the efforts of maintaining the business climate by improving the quality of the ease of doing business, and ensuring that the political condition is stable ahead of the 2024 elections also have the potential to attract more foreign direct investments and capital inflow. This ultimately may improve Indonesia's external sector resilience and shun the peril of twin deficits.