Indonesia financial regulators gathered on Monday (28/5) to reaffirmed its strategy in stabilizing financial market.

JAKARTA (TheInsiderStories) – Indonesia’ current account deficit widen to 3 percent of gross domestic product (GDP) or US$8.0 billion in second quarter (Q2) of 2018 inline with rising domestic economic activities, Bank Indonesia (BI) reported on August 10. But, during January to June, the CAD was still within the safe threshold at 2.6 percent of GDP.

At the same time, the 2018’s State Budget is estimating still deficit 2.12 percent this year. With the twin deficit, is the country’s economy in danger?

According to us, the increasing of Indonesia’s CAD was quite significant compared to the previous quarter only deficit $5.7 billion of 2.2 percent of GDP.  The increase in current account deficit was influenced by narrowed non-oil and gas trade surplus amid increase in oil and gas trade deficit.

The narrowed non-oil and gas trade surplus was mainly due to the increase in imports of raw materials and capital goods, as a result of increased in production and investment activities in the midst of falling non-oil and gas exports.

Increase in oil and gas trade deficit was influenced by rising imports in line with higher world oil prices and demand during holiday. At the same time, consistent with seasonal trends, there was an increase in dividend payment which contributed to the increase in the primary income deficit.

The capital and financial account surplus increased as a reflection of the optimism of foreign and domestic investors on the performance of the domestic economy. The capital and financial account surplus in Q2/2018 was recorded $4.0 billion, higher than the previous quarter surplus of $2.4 billion.

The capital and financial account surplus mainly stemmed from remained high foreign direct investment inflows and portfolio investment which regained a surplus. Other investment surplus also increased, mainly due to resident withdrawals of deposits held abroad to fulfill domestic financial needs.

The surplus in capital and financial transaction was not enough to finance the CAD, so that the overall Indonesia’s balance of payments (BoP) in Q2/2018 recorded a $4.3 billion deficit. With the development, the official reserve asset position at the end of June 2018 was registered at $119.8 billion. The amount was equivalent to the 6.9 month of financing of imports and government external debt and was above the international standard of adequacy at three months of imports.

Looking ahead, the BoP is predicted to remain favorable so that able to continue supporting the external sector resilience. BI expect the CAD in 2018 is projected to remain within healthy threshold that is not exceed 3.0 percent of GDP.

In this regards, number of steps have been taken by the Government through policies to strengthen exports and control imports through import substitution. The Government also continues to strengthen the tourism sector, especially in four priority tourism area, to support the current account.

Bank Indonesia stated will keep close watching on global developments that may affect the BoP prospects, including remained high global financial uncertainty, the tendency of inward-oriented trade policy implemented in some countries, and rising world oil prices.

BI continues to optimize the monetary and macro-prudential policy mix, as well as strengthen policy coordination with the Government in particular to encourage the continuation of structural reforms, thereby maintaining the resilience of Indonesia’s external sector.

The two deficits are of course interrelated. Many blame the large CAD caused government have not a definite policy of how to overcome the global pressure on the domestic economy.

Even President Joko Widodo has urged the businessmen to bring the foreign exchange to Indonesia and convert to Rupiah, the respond is slow. Based on government data, so far only 15 percent of the revenues in foreign currency converted to Rupiah.

Recent reforms to cut energy subsidies have only contained, rather than curtailed, the fiscal deficit. Indonesia has basically stuck to the confines of the well-worn trade-off between maintaining stability and pursuing faster growth. They forget much has changed.

For Widodo, hope of using deregulation and infrastructure to spur much faster growth it would likely see the CAD quickly returning to the warning territory of 3 percent of GDP. Unless, there is deep fiscal reform and in particular tax reform to significantly raise public saving.

The World Bank has projected this will involve an increase in public spending of about 2.6 percent of GDP a year. But government ambitions are much higher. Recognizing its limited fiscal resources, even more is to be financed through capital raising by state-owned enterprises and public private partnerships.

Regardless of the funding source, the increase in investment will directly add to the gap between national investment, savings, and the CAD. Increasing government saving through fiscal reform is thus the obvious solution.

There is plenty of scope through both policy changes and better enforcement. Unfortunately, reform in this area is progressing slowly, undoubtedly due to the politics involved.

Furthermore, a large CAD leaves the economy exposed. For instance, uncertainties about the path of future monetary tightening by major central banks means the prospects of a re-run of the ‘taper tantrum’ is a real risk.

But, as long as stability is prized over growth, twin deficits it would seem are still a binding constraint.