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Idea Transcript


Indonesia Update

Office of Chief Economist

December 2014

Indonesia Update December 2014

Contents Strengthening The Manufacturing Sector to Support Economic Resilent in Indonesia ..……3 Cautious recovery on the global economy ………………………………………………………………………7 Impact of Fuel Price Hike to Banking Industry’s Liquidity ………………………………………………11 It’s Time to Revive Manufacturing Industry

………………………………………………………………..14

The 2nd International Financial Inclusion Forum 23 October2014 ………………………………….18 Optimizing Opportunities and Challenges for the National Pharmaceutical Industry ……..34 How Non-Cash Government Support Program benefit Indonesia Financial Inclusion …….44 Reviewing the Subsidized Fuel Price Hike

…………………………………………………………………..47

Opportunities and Challenges for the Property Sector in 2015 ……………………………………..52 Mandiri Leading Economic Index

………………………………………………………………………………56

Mandiri Banking Pressure Index

………………………………………………………………………………..59

Indonesia Current Data Table

……………………………………………………………………………………62

Office of Chief Economist | Page 2

Indonesia Update December 2014

Strengthening The Manufacturing Sector to Support Economic Resilent in Indonesia Destry Damayanti and Faisal Rino Bernando

I

The election of Mr Joko Widodo as Indonesia’s seventh president has instilled new hope for Indonesia’s economic development in the immediate future

ndonesia is currently the focus of the world’s attention, not only from an economic perspective, but also from a political perspective. As the largest nation in the Southeast Asia region, in economic terms Indonesia occupies a very strategic position. Moreover, with the introduction of the ASEAN Economic Community at the end of 2015, Indonesia’s position will assume even greater importance given that almost 40% of the Gross Domestic Product (GDP) of the ASEAN countries comes from Indonesia, and this vast nation contributes around 43% of the total ASEAN population. As such, developments in ASEAN will be influenced a fair amount by Indonesia due to its hugely dominant position in this grouping, as touched on above. The election of Mr Joko Widodo as Indonesia’s seventh president has instilled new hope for Indonesia’s economic development in the immediate future; that Indonesia will finally take off and make up all the ground it has lost over the years. The ‘Working Cabinet’ – the name given to his cabinet by President Jokowi - will be more oriented on finding and implementing solutions to the myriad problems that have arisen over time. These include developing infrastructure, enhancing the quality of economic growth and improving the quality of human resources. More specifically, President Jokowi is targeting the construction of 24 ports, including deep-sea ports, the building of 5,500 km of railway tracks throughout Indonesia and adding 35,000 MW of electricity which will be required to support investment and domestic consumption within the next 5 years.

One structural issue which also demands the attention of President Jokowi is structural reform in the manufacturing sector

Having said all of this, one structural issue which also demands the attention of President Jokowi is structural reform in the manufacturing sector. Put simply, this sector is of great strategic importance to Indonesia, as it is the single biggest contributor to GDP and is also capable of absorbing a large amount of labor. In this respect, it ranks third after the agricultural and trade sectors. Ironically, however, the role of the manufacturing sector is diminishing. An illustration of this is that in early 2000 it contributed a chunky 30% of GDP, while by 2013 this contribution had dwindled significantly to just 24%. Growth in this sector is also consistently below that of overall national economic growth, at 4%-5% vs 5% 6%. The implication of this situation is that there has been a dramatic rise of Indonesian imports in the form of raw materials, with these now forming 76% of Indonesia’s total imports. The development of Indonesia’s raw materials manufacturing sector is Office of Chief Economist | Page 3

Indonesia Update December 2014

suffering stagnation, whereas downstream industries, such as the automotive industry, electronics, food & beverages and the steel industry, continue to develop. As a result, Indonesia is experiencing deindustrialization which, in turn, could affect the country’s economic security. To prove this point, we need to consider that during the period since 2011 investment has increased rapidly, yet Indonesia has endured an ongoing current account deficit as this investment has been accompanied by a rise in raw materials imports. This current account deficit has persisted, even reaching around 3.1% of GDP. In light of this, structural reform of the manufacturing sector has become a priority that must be undertaken by President Jokowi in order to reinforce Indonesia’s economic security. The spirit of industrialization must be reembraced by the whole of Indonesian society, including its business community and regulators. With respect to this spirit of industrialization, the previous government actually got the ball rolling with the issuance of the Coal and Minerals Mining Law (UU Minerba) which took effect in early 2014. This law stipulates that mining operators are not allowed to export unprocessed mined raw materials but must instead process them first in the country to be used as raw materials for developing domestic industries. However, because this law has not been backed up by comprehensive policies in other sectors, its effectiveness has been diminished and it has even caused restlessness amongst some Indonesian business people. The unpreparedness of the manufacturing sector for accommodating and processing unprocessed raw materials into processed raw materials has been one of the problems to arise since the Coal and Minerals Mining Law came into force. It is therefore recommended that, in order to avoid making the same mistakes, the present administration should formulate an appropriate strategic policy in the manufacturing sector. Exports are dominated by medium-low technology products

In terms of the structure of manufacturing companies in Indonesia, it turns out that 93% of such companies are in the medium and low value-added categories. As to the structure of imports in the Indonesian manufacturing sector, these are dominated by mediumhigh technology products. In contrast, exports are dominated by medium-low technology products. It is thus of no surprise that the trade balance of the manufacturing sector continues to face pressure, as the added value produced from manufactured exports is relatively low compared to the value of imports. In addition, around 76% of raw materials for the manufacturing sector come from imports. As a consequence, the manufacturing sector is very reliant on global economic conditions and is extremely susceptible Office of Chief Economist | Page 4

Indonesia Update December 2014

to exchange rate fluctuations. The high dependence on imported raw materials causes Indonesian exports to become less competitive, even when the value of the rupiah has depreciated. A weak rupiah should, of course, make Indonesian exports cheaper and more attractive. Observations from the Bank Mandiri economic team led to an interesting conclusion; that each 1% depreciation in the value of the rupiah results in a 1.3% decrease in manufacturing sector imports, as these imports become more expensive. However, interestingly enough, exports also go down by 0.3% even though, in theory, a depreciating rupiah should make export goods cheaper. President Jokowi should pay special attention to the development of the manufacturing industry

Going forward, President Jokowi should pay special attention to the development of the manufacturing industry. There are three main strategies that should be prioritized in developing this industry as a whole. First of all, major manufacturing industries that have extensive links with other industries, so called mother-industries, need to be developed. These are the steel, petrochemical and oil refining industries. With an increasing demand for infrastructure, property, as well as mainstays of Indonesian manufacturing such as automobiles, consumer goods, and food and beverages, and as the domestic market continues to grow, the demand for steel and plastic raw materials will naturally continue to increase. Meanwhile refining capacity needs to be upgraded to better meet domestic demand, both in the industrial and transportation sectors. Savings from reduced fuel subsidies should be diverted to provide incentives for investors - who are generally interested in large-scale and longterm investment in line with their investment characteristics - to develop major manufacturing industries. This strategy must be supported by solid energy sector policies that enable the development of renewable energy and reduce dependence on energy imports.

Indonesia should be headed towards the development of hi-tech industries in order to increase productivity and get into the group of upper middleincome countries

Secondly, manufacturing industries that have high import content but also strong export competitiveness and offer a lot of employment, namely food & beverages, textiles and footwear, need to be developed. Of course, Indonesia should be headed towards the development of hi-tech industries in order to increase productivity and get into the group of upper middle-income countries. However, for as long as unemployment remains high, labor-intensive industries absolutely have to be sustained, especially those whose products have a high level of competitiveness in the export market like those mentioned above. In doing this, imported components should be replaced as much as possible, particularly in the textile and food & beverage industries where import content remains extremely high.

Office of Chief Economist | Page 5

Indonesia Update December 2014

Manufacturing industries that have entered into regional production networks yet have a high import dependency, like the automotive and electronics industries, also need to be developed

It is the Indonesian dream to have a manufacturing industry that is highly competitive, valueadded, independent and resilient in the face of macroeconomic turmoil

Lastly, manufacturing industries that have entered into regional production networks yet have a high import dependency, like the automotive and electronics industries, also need to be developed. Even though import substitution policies for these two industries are very dependent on principal policies in the countries of origin, creating a favorable investment climate, sorting out connectivity infrastructure, and enhancing the capacities of domestic business people in the production value chain would support these industries in becoming more efficient and competitive. This should serve as an incentive for all principals to turn Indonesia into a main production base, so that the level of local content can be continually increased. Of course, the execution of these three strategies will require a strong and consistent commitment on the part of the Jokowi administration. They represent the most demanding of all the homework needed in the area of industrial development. The government is expected to implement policies that address economic challenges and opportunities, both in the short and longer terms. Some fiscal and non-fiscal policies, pertaining to matters such as tax policy, import duty, access to finance and also the provision of industrial areas, would help to support the development of the manufacturing industry in Indonesia. We should no longer be expecting too much from the primary sector, as global commodity prices will clearly not recover in the next few years. Nor should we always have to suffer current account pressure at times when the economy is growing and investment is flooding in. It is time for the manufacturing industry to be revived under the leadership of President Jokowi; to have its essential role in the economy, especially as an engine of growth and source of employment, restored. It is the Indonesian dream to have a manufacturing industry that is highly competitive, value-added, independent and resilient in the face of macro-economic turmoil. Now is the time to make this dream come true.

Office of Chief Economist | Page 6

Indonesia Update December 2014

Cautious recovery on the global economy Andry Asmoro

T

he Global economic performance is still on the decouple trend. The US economy gave a strong signal of recovery as indicated by ‘better than expectation’ unemployment rate of 5.8% and the rising manufacturing index in October to 59 (vs 56.6 in previous month). Most of investors concern and wait for further monetary policies that will be opted by The Fed post the announcement of those data. However, The Fed still hinted that the Fed Fund Rate (FFR) is unlikely to be hiked sooner in 2015 even despite the fact of the US current economic performance and the end of QE tapering in October. The Euro Zone is still under pressure of continuing deceleration of its economy

The Fed’s careful move is reasonable since the other global economic conditions are not as strong as the US. The Euro Zone is still under pressure of continuing deceleration of its economy. This boosted the speculation that the ECB will launch the Quantitative Easing to support their regional economy. The sentiment of ECB’s stimulus had given positive impact on the Emerging Market as their stock market index rose and local currency strengthened against the US Dollar. However, similar to the Fed’s officials, the ECB’s officials also carefully signaled that the upcoming monetary policies will depend on several macro data that will be launched in December. An important data that will give signal to stronger economy is the inflation rate. The ECB President, Mario Draghi, stated that the ECB will do some needed policies to raise inflation and inflation expectations as fast as possible.

In the next five years, China will grow on average of 7% or decelerate significantly compared to the last 15 years

Other concern over the global economic situation is the slower China’s economic growth. IMF stated that China will only grow by 7.1% in 2015 or much lower than 2010 performance of 10.4%. In the next five years, China will grow on average of 7% or decelerate significantly compared to the last 15 years performances. Current data suggested that recovery in China is still far from the reality, such as China’s slower industrial production growth and retail sales. Not far from China, Japan’s economy will also give the negative impact to Indonesia due to its lower growth forecast in 2015. Despite its smaller level of impact compared to China, Japan is one of Indonesia’s major commodity export destination. Overall, the volatility that is created by slow advanced countries’ economic performance will persist in the upcoming period. Thus, it is reflected by the careful moves that are taken by Bank Indonesia and the Government. Bank Indonesia current tightening move is Office of Chief Economist | Page 7

Indonesia Update December 2014

still on the base of Indonesia’s big challenge: the Current Account Deficit (CAD). Furthermore, current government’s policy to raise the fuel price BBM was also aimed to dampen the CAD and the budget deficit pressure. From domestic economy, the deceleration in 3Q14 has already expected by the market. The diminishing impact from the election will occur starting in 3Q14 in terms of slower private consumption. From the latest GDP figure, only the government spending that accelerated and supported the performance while others were posted with slower growth. We believe that the economy will slightly rebound in 4Q14 on the back of cyclical factor of government spending and smaller next export. Investment will be the key for Indonesia’s economic growth

Going forward, investment will be the key for Indonesia’s economic growth. This is critical since the private consumption will not be the backbone of the economic growth and will remain at the current growth level of around 5.4% in 2014 and 5.2% (YoY) in 2015. Investment, on the other hand, is expected to accelerate further to 6.2% (YoY) (vs expected 4.6% (YoY) in 2014). The government is even targeted for a higher growth investment of 10% next year to support the National economic growth target of 5.8%. The rising investment will be supported by the commitment from the current government to build and continue some infrastructure projects. However, the downside risk of investment growth will remain with the continuing monetary policies next year as CAD is expected to stay above BI’s target of 2.5% of the GDP. The positive news is actually coming from the government that will commit to combat the CAD through several tax incentives or tax holiday on several industries. In detail, Indonesia suffers for a huge deficit on income and services account from many years ago. To lower the deficit the government plans to give tax incentive on manufacturing industries and re-insurance company. Meanwhile, to lower the deficit in the income account, the government is currently formulating the scheme of incentives for the corporate that plan to re-invest in Indonesia. Given to current situation, we expect that the CAD will subdue to BI’s target range in 2016.

Office of Chief Economist | Page 8

Indonesia Update December 2014

9

BI Rate

8.02

Inflasi

8

8.39 7.75

7.5

7 6 5 4

Mar-15

Aug-14

Mar-14

Oct-13

May-13

Dec-12

Jul-12

Feb-12

Sep-11

Apr-11

Nov-10

Jun-10

Jan-10

3

Figure 1. BI rate & inflation expectation. (Source: BPS, Bank Indonesia, Mandiri estimation)

On the financial account (in the Balance of Payments), the potential capital outflow in the midst of higher Fed Fund Rate should be temporary.

On the financial account (in the Balance of Payments), the potential capital outflow in the midst of higher Fed Fund Rate should be temporary. The benchmark rate spread between Indonesia and the US is actually still attractive. Historically, the spread is at around 600bps and currently the spread lies at 500 600 given to current BI rate of 7.75% and the assumption of FFR hike. It is worth noting, the options of the foreign investors to put their money in 2015 is relatively limited due to persistent slow economic growth in EZ, China, Japan and Russia.

Figure 2. BI rate & Fed Funds Rate. (Source: Bloomberg, Bank Indonesia, Mandiri’s calculation)

Office of Chief Economist | Page 9

Indonesia Update December 2014

In sum, we expect that Indonesia’s economy still has room to grow in 2015 but we also have to mitigate the risk that will be higher. We expect that the government will overcome the bottleneck of the economy by accelerate the infrastructure projects development.

Item GDP Private Consumption Government Investment Export Import Net Export

2013 5.8 5.3 4.9 4.7 5.3 1.2 22.4

2014 5.1 5.4 2.9 4.6 0.8 0.7 1.0

2015 5.3 5.2 5.0 6.2 3.3 2.5 5.9

Figure 3. Forecast GDP by expenditure. (Source: BPS, Mandiri estimation)

Office of Chief Economist | Page 10

Indonesia Update December 2014

Impact of Fuel Price Hike to Banking Industry’s Liquidity Rully Arya Wisnubroto

Bank Indonesia (BI) raised BI rate by 25 bps to 7.75% to anticipate impact of fuel price hike on inflation

Bank Indonesia (BI) raised BI rate by 25 bps to 7.75%, with an increase of 50 bps on lending facility rate to 8.00% and deposit facility rate to remain unchanged at 5.75% on an unshceduled meeting on Nov 18, 2014. The rate hikes were undertaken to anchor inflation expectation and to ensure that inflationary pressures remain under control and temporary after subsidize fuel price hike. This policies were also undertaken as an anticipation before the policy rate of US central bank (The Fed) or federal funds rate will eventually raised next year. BI had moved ahead to keep the spread between policy rate in US and Indonesia and anticipate the effect of fed funds rate increase to the volatility of rupiah.

The loan growth has been slowing in the past 12 months because of the already tight monetary policy since last year

The banking sector had already been affected by the tightening monetary policy since last year. The loan growth already slowed for 12 straight months. Credit growth slowed from 21.6% (YoY) in 2013 to only 13.2% in September 2014, while at the same time the asset growth also slowed significantly from 16.2% (YoY) to only 10.3%. Meanwhile the non performing loan ratio had increased from 1.8% in 2013 to 2.3% in September 2014. Working capital loan and investment growth were amongst the types of loan growth that were slowing significantly. Working capital loan in September 2014 only grew 13.3%, much lower than 21.9% in the same period last year, while investment growth at the same time grew only 16.4%, much lower than 33.9% in September 2013. The latest deposit growth data in September 2014 is relatively still weak at 13.3%. The average level of deposit growth in 2014 from January to September is only 12.3%, slower compared to the average deposit growth in 2013 of 15%. It was the first time in September 2014 deposit growth was higher than the loan growth since 2010. As a result, loan to deposit ratio (LDR) had decrease to 88.9% from 90.6% in the previous month. If we measure the liquidity in a conventional way, by subtracting deposit to loans and reserves requirements, it improved from IDR49 trillion in August 2014 to IDR115 trillion. Lower LDR and improving liquidity is not caused by stronger deposit growth but more of a slowing loan growth. We are not expecting the deposit growth will increase significantly, especially after The Financial Services Authority (OJK) already capped the deposit rate of banks in BUKU 4 (banks with assests of more than IDR30 trillion) by 200 bps above BI rate and banks in BUKU 3 (banks with assets of between IDR5 – 30 trillion) by 225 bps above BI rate.

Office of Chief Economist | Page 11

Indonesia Update December 2014

With the assumption of credit growth of 14% and 15% and deposit growth of 13% and 14% this year and next year we expect to be at IDR55.2 trillion and IDR25.4 trillion by the end of 2014 and 2015. But if we take closer look to the open market operation, the banking system actually still have an ample liquidity placed in the BI’s short term monetary instrument and Fasbi. In the second week of November, the total amount of placement by banks in Deposit Certificate of Bank Indonesia (SDBI), Certificat of Bank Indonesia (SBI), reverse repo and fasbi minus FX swap reached IDR346.9%. The increasing amount of banks’ fund placed at BI’s instruments caused by the tight monetary policy, but it also shows that the banks’ liquidity is still quite good that placed in central bank’s short term instruments. The slowing of domestic economic growth and the tight monetary policy environtment also have an impact to bank’s income performances. Growth of total net income of ten Indonesian biggest banks slowed from 13.6% (YoY) in 1Q14, to 11.3% in 1H14 to, 8.1% in 9M14. Amongst 10 biggest banks, only five posted higher net income in 9M14 compared to 9M13. Those banks are BRI (+17.6% YoY), Bank Mandiri (+12.9% YoY), BCA (+17.7%), BNI (+16.4%) and Panin Bank (14.5%). Meanwhile the net income of CIMB Niaga, Bank Danamon, Bank Permata, BTN, and BII contracted in 9M14 compared to 9M13. The total loan of those banks in 9M14 grew 11.9% (%YoY), slowed compared to 1Q14 of 19.9% and 1H14 of 15.7%. Historically, the subsidized fuel price hike always had an significant impact to the increasing deposit rates, decreasing interest rates spread, and also the decreasing credit growth

Historically, the subsidized fuel price hike always had an significant impact to the increasing deposit rates, decreasing interest rates spread, and also the decreasing credit growth. Banks usually increase the deposit rate more aggresive than the lending rates. In 2005, when the government increased fuel price by 87.5% from IDR2,400 to IDR4,500 a liter, the 1M and 3M deposit rates increased each by 158 bps and 285 bps in the for three months while at the same time the working capital loan and investment loan rates only increased by 114 bps and 89 bps respectively. In 2008, when the subsidized fuel price increased by 33.3% from IDR4,000 to IDR6,000 a liter, the 1M and 3M deposit rates increased each by 342 bps and 349 bps in the for six months while at the same time the working capital loan and investment loan rates only increased by 221 bps and 192 bps respectively. In 2013, when the government increased to subsidized fuel price by 44.4% from IDR4,500 to IDR6,500 a liter, the 1M and 3M deposit rates increased 175 bps and 162 bps in the for six months, and at the same time the working capital loan and investment loan rates only increased 60 bps and 56 bps. This showed that banks still prefer to keep the liqudity and asset quality manageable, while sacrificing the net interest income. Office of Chief Economist | Page 12

Indonesia Update December 2014

Figure 4. Loan to Deposit Ratio & Excess Liqudity. With the assumption of credit growth of 14% and 15% and deposit growth of 13% and 14% this year and next year we expect to be at IDR55.2 trillion and IDR25.4 trillion by the end of 2014 and 2015. (Source: Bank Indonesia, Mandiri calculation)

What’s next? We expect that the credit growth will continue to slow. In the 2005 fuel price hike, the credit growth slowed for 11 months before it began to picked up. In 2008 fuel price hike, credit growth slowed in more than a year before it began to accelerate. Banks now are still affected by the fuel price increase and tight monetary policy in 2013 and already experienced a slowing credit growth for a year. We predict the credit will continue to slow in the next couple on months. Moreover, banks will still be having tight liqudity because we don’t beleive the deposit will grow higher in the future. We predict the banks credit will grow around 14% this year and 15% next year higher than deposit growth of 13% this year and 14% next year.

Figure 5. Historical Impact of Fuel Price Hike to Deposits and Lending Rates. Historically, impact of fuel price hike more significant to deposit rates compared to lending rates. (Source: Bank Indonesia, Mandiri calculation)

Office of Chief Economist | Page 13

Indonesia Update December 2014

It’s Time to Revive Manufacturing Industry Faisal Rino Bernando

A

fter a frenzied victory celebration which took the form of a festive party of the people, now is the time for the Jokowi administration to get to work. In the days ahead awaits a whole stack of homework. Many promises were made by the Jokowi-JK ticket during the presidential campaign, and society now has great expectations that these promises will be implemented and fulfilled. Inflationary pressure and the rupiah exchange rate will continue to haunt the Indonesian economy next year

The Jokowi-JK administration has taken the reins of office at a time when the economy is facing a host of challenges, both on the global and domestic front. China, Indonesia’s biggest trading partner, continues to suffer a slowdown in economic growth. Growth of the Indonesian economy is also expected to continue slowing, with figures below the long-term average. Inflationary pressure and the rupiah exchange rate will continue to haunt the Indonesian economy next year. A potential subsidized fuel price hike would certainly cause inflationary pressure, albeit of a temporary nature. On the other hand, the value of the rupiah is expected to remain under pressure although this may relent a little. A continuing weak export market, low commodity prices, as well as an overdependence on imports, in particular on raw materials and capital goods, will serve to keep up pressure on the balance of trade and current account balance thereby making an appreciation of the rupiah unlikely in the short term. Moreover, improvements in the US economy will push up the federal funds rate, thereby allowing the US dollar the potential to continue strengthening and possibly reversing short-term capital flows to become open. This in itself will act as a source of pressure on the rupiah exchange rate going forward. The issue of our current account balance has been ongoing for around the last two years. When the economy and investment grow, demand for imports – both oil & gas and non-oil & gas immediately surges. In the meantime our exports, which still rely on raw materials and low value-added commodities, have taken a hit as a result of low global commodity prices. The high global commodity prices of 2008 made us complacent with windfall profits from export earnings, to the extent that we forgot the importance of valueadded exports in reducing the risk of fluctuations in the price of raw commodities. At that time, the mining and plantation sectors were experiencing extremely fast growth, while the manufacturing industry became increasingly neglected, bringing about continued deindustrialization.

Office of Chief Economist | Page 14

Indonesia Update December 2014

Having said this, the role of the manufacturing industry is becoming smaller and smaller

In reality, the manufacturing industry still has an important role in the Indonesian economy. This sector still makes the largest contribution to the economy, of around 24%, and absorbs 13% of the country’s total labor force. Having said this, the role of the manufacturing industry is becoming smaller and smaller. Over the last five years, this industry has grown at an average of just 4.9%, while the national economy has seen average annual growth of 5.9%. This places growth in manufacturing far below that of other industries such as trade, non-oil & gas mining, transport and communications. In line with this, the contribution of the manufacturing industry to the Indonesian economy during this period has fallen from 28% to the 24% mentioned earlier. There are only a couple of industries which have grown strongly and acted as the principal drivers of growth in the manufacturing industry as a whole. These are transportation equipment and machinery along with food, beverage & tobacco, which have seen average annual growth of 6.3% and 6.8% respectively. Growth in these two areas has been very much sustained by domestic demand, which continues to increase as the number of Indonesia’s middle-income earners rises.

Deindustrialization has made the structure of manufacturing industry increasingly fragile with a high level of import dependence

Deindustrialization has made the structure of manufacturing industry increasingly fragile with a high level of import dependence. Economic growth, driven by the rapid flow of investment in recent years, has required the manufacturing industry to import a lot of raw materials and capital goods. When investment increases, imports of both capital goods and raw materials shoot up sharply or become very elastic. Demand for capital goods is strongest in the electronic, machinery and automotive industries, due to the incorporation of these industries into regional production networks. Judging from the imported content of manufactured products, no improvements have been apparent in the last five years. Manufactured products classed as having a high import content make up 68% of total non-oil & gas manufactured products, up from 62%. This high level of import dependence makes the manufacturing industry extremely susceptible to fluctuations in the value of the rupiah. According to our calculations, when the value of the Indonesian currency drops, most of the industries affected are those in the non-oil & gas manufacturing sector, and amongst the most sensitive to depreciations in the rupiah are steel, petrochemicals and textiles, both in terms of reduced output as well as pressure on the cost side. Ironically, when the rupiah depreciates, even growth in manufactured exports slows. Usually, a depreciation of the local currency would actually increase the competitiveness of exports which, in turn, would encourage the growth of these exports. All of this goes to show the extent to which locally manufactured products are dependent on imported components. Office of Chief Economist | Page 15

Indonesia Update December 2014

Manufactured exports are unable to attain optimal growth when the rupiah is depressed due to increased production costs brought about by rises in the prices of raw materials and capital goods. Meanwhile, from the perspective of the oil & gas manufacturing industry, Indonesia is also suffering from import dependency due to limited refining capacity and steadily declining oil production. Deindustrialization has made the structure of manufacturing industry increasingly fragile with a high level of import dependence

In the days ahead, the Jokowi-JK administration should pay special attention to the development of the manufacturing industry. In our view, there are three main strategies that should be prioritized in developing the manufacturing industry. First of all, major manufacturing industries that have extensive links with other industries need to be developed. These are the steel, petrochemical and oil refining industries. With an increasing demand for infrastructure, property, as well as mainstays of Indonesian manufacturing such as automobiles, consumer goods, and food and beverages, and as the domestic market continues to grow, the demand for steel and plastic raw materials will naturally continue to increase. Meanwhile refining capacity needs to be upgraded to better meet domestic demand, both in the industrial and transportation sectors. Savings from reduced fuel subsidies could be diverted to provide incentives for investors - who are generally interested in large-scale and long-term investment in line with their investment characteristics - to develop major manufacturing industries. This strategy must be supported by solid energy sector policies that enable the development of renewable energy and reduce dependence on energy imports. Secondly, manufacturing industries that have high import content but also strong export competitiveness and offer a lot of employment, namely food & beverages, textiles and footwear, need to be developed. Of course, Indonesia should be headed towards the development of hi-tech industries in order to increase productivity and get into the group of upper middle-income countries. However for as long as unemployment remains high, labor-intensive industries absolutely have to be sustained, especially those whose products have a high level of competitiveness in the export market, like those mentioned above. In doing this, imported components should be replaced as much as possible, particularly in the textile and food & beverage industries where import content remains extremely high. Lastly, manufacturing industries that have entered into regional production networks yet have a high import dependency, like the automotive and electronics industries, also need to be developed. Even though import substitution policies for these two industries are very dependent on principal policies in the countries of origin, by creating a favorable investment climate, sorting out connectivity infrastructure, and enhancing the capacities of domestic business people in the production value chain, domestic production of raw materials and capital goods for automotive and electronics end Office of Chief Economist | Page 16

Indonesia Update December 2014

products will become more efficient and competitive. This on its own should serve as an incentive for all principals to turn Indonesia into a main production base, so that the level of local content can be continually increased. Of course, these three strategies will require a strong and consistent commitment on the part of the Jokowi-JK administration

Of course, these three strategies will require a strong and consistent commitment on the part of the Jokowi-JK administration. They represent the most demanding of all the homework required in the area of industrial development. The Jokowi-JK administration is expected to implement policies that address economic challenges and opportunities, both in short and the longer terms. We should no longer be expecting too much from the primary sector, as global commodity prices will clearly not recover in the next few years. Nor should we always have to suffer current account pressure at times when the economy is growing and investment is flooding in – not to mention that this pressure comes from energy imports which, ironically, continue to be heavily subsidized. It is time for manufacturing industry to be revived under the leadership of Jokowi-JK - to have its essential role in the economy, especially as a source of employment, restored. Let’s aspire towards an industry that is highly competitive, value-added, independent and resilient in the face of macro-economic turmoil.

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The 2nd International Financial Inclusion Forum 23 October2014 Nurul Yuniataqwa Karunia, M. Ajie Maulendra, and Wisnu Trihatmojo

Welcoming Remarks 1, by Mr. Budi G. Sadikin, CEO PT. Bank Mandiri (Persero) Tbk. We establish Mandiri Institute (MI) in beginning of this year, the inspiration received from World Economic Forum in Davos. Sometimes informal relationship can get thing done quickly and more effectively rather than bilateral G to G formal relationship. MI want to delivered impact therefore better to have informal relationship meeting with such of powerful people to have thing done and move quickly. MI not only do research but want to deliver result. MI has three things to focus on: 1. Financial inclusion. 2. Financial and market deepening, (including bond market, equity market, money market, and FX market). 3. SME and entrepreneurship. Indonesia Financial inclusion in particular needs development because currently there are only 6070 millions of bank accounts relative to 250 million populations There is more industry inclusion in small villages in Indonesia that is more powerful than rather than financial inclusion

Indonesia is the 16th largest country in the term of GDP. In the banking system, Indonesia Financial inclusion in particular needs development because currently there are only 60-70 millions of bank accounts relative to 250 million populations. So it can be imagine Indonesian position in term of GDP rank if penetration increases into 200 mn or even 250 mn account. Higher volume of money will run into the banking system and velocity of money will be faster. Therefore, Indonesia not only attends in G20 meeting but also in G8 meeting. There is more industry inclusion in small villages in Indonesia that is more powerful than rather than financial inclusion. That is telecommunication inclusion and smoking inclusion. High telecommunication inclusion (calling and SMS) since there are around 200 mn Indonesian have mobile phone. Smoking inclusion is also higher with more than 100 mn people in Indonesia smoke. Access to cigarette is higher than access to saving account in Indonesia. Therefore, banking sector should be able to do such penetration. Mandiri and BRI have been appointed to do a pilot project supervised by central bank and FSA to do one thousand each direct subsidy using mobile technology. Government will use banking sector and telecommunication to channeling government aid to

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society. The new government wants to change the goods subsidy (petroleum subsidy, fertilizer subsidy etc) into people subsidy. As a consequent, banking industry need better infrastructure. Bank Mandiri do hope, next year with the new president, there will be representative of Indonesia in the next world bank meeting and talking on Indonesia successful implementation on result and impact of financial inclusion. Welcoming Remarks 2, by Indonesian Country Manager IFC, Mr. Sarvesh Suri Indonesia has to grow about 7-8% per annum to be able to become high income economy before Indonesia’s demographically dividend was end

Indonesia is a country with very fast growing on demographically dividend with people in working age population are more than people that they have to support as a group to growing old. But in 2036, this thing is going to reverse with older people than the productive people. So Indonesia has to grow about 7-8% per annum to be able to become high income economy before Indonesia’s demographically dividend was end. In this case, financial inclusion is an important thing to support growth in Indonesia. And the three focus of Mandiri Institute will be fully support by the World Bank to achieve that growth objective.

Financial inclusion has now emerged as important global agenda to insuring long term global economic growth

Financial inclusion has now emerged as important global agenda to insuring long term global economic growth. It is serve quality and capability of financial services to the under-serve and under-bank financial access. There is same challenge in the global term, only 2.7 bn adults in the world or 70% of developing country population with no formal access in financial services. SME that around 70-80% jobs in this developing country do not has access to credit. Policy maker around the world, including G-8 and G-20 are now increasing commitment to increase financial inclusion. IFC and the world bank group are believe that very strong inclusion and sustainable financial market is essential to build long term prosperity and ending the extreme poverty in developing country. About 120 country work with IFC all over the world has help strengthen financial institution and overall financial system. IFC enabling them to play construct role for economic growth in their countries. IFC advised these countries to strengthen their capacity to provide key financial services to individual and business. Financial inclusion also helps a country to address their financial challenges. Three keys objectives IFC in Indonesia is: 1. To help increase sustainable infrastructure developing in the country 2. Financial inclusion and financial market deepening

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3. Trying to work with financial sector and government to help mitigate climate change issues Indonesia as economy that relays heavily on micro and small enterprises has a key priority to serve this segment. Focus on capacity building on SME, especially the large and medium size bank to better serve SME and the low income households. IFC also help to create financial product to help especially woman SME to get easy loan access to the bank. From bank side, IFC help develop better market penetration strategy to increase lending. And also specially targeted to agribusiness that most worker in there. However, less then 5% of banking lending goes to that sector. Help them trough research and data to find especially to those farmer that do not have land to become collateral, that also can help bank to fund them with sustainable going forward. IFC also help to improve penetration in mobile banking in supporting digital distribution as well. Integrating small retailer and distributor into supply chain financial payment system. Access provider such as bank, telecommunication, retailer, etc. has to start collaborating to improve financial inclusion. Indonesia Banking system already introduce e-money and branchless banking, getting access to payment and financial access is now become easier as the government and private sector began to create an expand better environment. Keynote Speech 1, by Deputy Governor of Bank Indonesia, Mr. Halim Alamsyah

Indonesia is very attractive for investment from global investor. Indonesia have more than 17.000 island, the 7th largest area in the world, and abundance of natural resources and labor forces

The forum of Indonesia Financial inclusion is becomes a platform to discuss issues and effort in financial inclusion toward more inclusive and effective financial services. This forum meets regulator and practitioner to exchange views from the two sides. It is a common understanding that the role of financial system is important to economic activity. Many countries and international organization have realized that significant improvement in financial system may bring leverage to economic development. Thus, government and policy maker are seeking ways to boost the financial system activity by involving more people into the system including the poor. As one of the huge economic potential, Indonesia is very attractive for investment from global investor. Indonesia have more than 17.000 island, the 7th largest area in the world, and abundance of natural resources and labor forces, which attract the investor to invest their money in Indonesia. These conditions are enabling Indonesia to maintain economic growth at 5.8% last year amid global economic downturn. Nonetheless, with all economic prospects, we must admit that financial access in Indonesia is still Office of Chief Economist | Page 20

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unequally distributed. Most of Indonesia Indonesia’s institution and services are concentrated in Java Island. The under-serve people in Indonesia reach the number of 32% according to the World Bank, global financial inclusion index in 2011

Indonesia also left behind in reaching the poor and the vulnerable people to participate into the financial system. The under-serve people in Indonesia reach the number of 32% according to the World Bank, global financial inclusion index in 2011. Those people doesn’t has link to financial services even in the form of saving account. Most reason is because bank is far located from them and the cost of small transaction still considered too high. At the borrowing activity, only 17% of population borrows from banks and 43% from population borrow from other institution, while 40% from population has not received any activity at all. During the last 4th year, we still witness low progress regardless our hard effort to increase financial access to people. For instance, the outstanding ratios of 3rd parties’ loan to GDP increase insignificant number from 36.8% in 2010 to 40.9% in 2013. It is much away behind several countries in the region. Taking the number globally, Indonesia is only in the middle rank of availability access, below Malaysia, Brazil, China, Thailand and Mexico. Providing more access to financial system and promoting financial inclusion for the under-serve people would need a strong collaboration and coordination among regulators and agencies. Bank Indonesia as one of the financial regulator in Indonesia has been very active in proposing and implementing financial inclusion program to give wider financial services to productive and poor segment of Indonesia. In promoting financial inclusion, Bank Indonesia has at least five main roles: 1. 2. 3. 4. 5.

One of the interesting that BI analysis over digital payment system is the use of mobile phone and other ICT instrument is much higher than the number of people who has access to financial services.

Regulating Licensing Developing finance system Supervising or oversight Playing as industry catalyst

Based on this rules, BI follow financial inclusion framework and BI believe that the improvement of financial access on both funding and lending side will actively increase economic activity will in turn will lift the income of the un-banked people, reduce poverty, also support financial system stability and economic welfare. One of the interesting that BI analysis over digital payment system is the use of mobile phone and other ICT instrument is much higher than the number of people who has access to financial services. Over 240 million of people in Indonesia are phone subscribers. This figure is more than 68% of total population who owned saving account. This means many of un-serve people including the poor Office of Chief Economist | Page 21

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and the vulnerable one do have mobile phone despite saving account. Considering this fact, BI strongly promotes digital payment system to provide a broader access to reach more people to financial services. The digital payment system consist of account and e-money, based type of product which issued by either bank or non bank institution. In relation to this, in 2013 BI perform pilot project on branchless banking which was conducted by five companies, which is now being extended by Indonesia FSE. The project shows a promising result reflected by significant increased in account number of saving and e-money as well as the volume of transactions. The use of payment system to support financial inclusion is not merely on the funding side, but it is also a gateway to more divers’ financial services. At early stages, the payment system with the fancy of technology feature play as a key drivers to attract people getting in touch with financial services. Once the link of financial system established it will be easier for financial institution to access financial eligibility of those people. Accordingly, those people who subsequently is become the target of financial product such as loan, microfinance, and also insurance. In order to promote robust financial inclusion, through the investment on digital payment system, BI believes there are several aspects to be improved. 1. All regulator to align and harmonize regulation, including regulation or digital payment products. 2. Technology of digital payment system is needed to be further develop to be more sound and reliable, efficient, and also cheap. 3. Regulator and market player need to established workable system for low income and inexperience customer. 4. The industry build a closer cooperation with agent as encashment point. 5. The industry must be require to implement custom protection principles. BI has issued some of regulation on electronic money and digital payment services to support financial inclusion

In line with those experiment aspects, BI has issued some of regulation on electronic money and digital payment services to support financial inclusion. The current trend in digital payment system shows a big potential to move from traditional system to a digital era. The benefit of using digital payment system is especially in term of create efficiently, convenience and access to support the financial system. BI has a vision on the next financial inclusion: 1. By the end of 2014, BI would like to see double proportion of formally bank population measured by independent

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international institution such as world bank from around 19.6% to 40%. 2. BI also would like to have four times increase in the number of registered e-money accounts by telecommunication companies and banks, from about 30 mn e-money to 120 mn account penetration of population. 3. BI expects to all government direct subsidies to citizen made electronically, either via e-money or saving account. To keep the following digital payment system, policy makers need to balance their environment with appropriate regulations. Regulation on Digital Payment System should be able to manage the risk associated with the expansion of digital payment system through innovation and implementation of ICT while at the same time reaping the benefit as much as possible. By solving this challenge, BI expects financial inclusion to run successfully and sustainable. Besides regulation issues, regulated and industry still need to overcome some other challenges ahead. 1. Society still prefers using cash rather than electronic money. Currently, digital payments are still low compared to use of other instrument payment 2. Build safe instrument payment to keep public trust 3. Have to develop sustainable business model which can support industry in early stage of system development 4. Digital payment system needs to provide feature of interoperability. This feature gives more flexibility to the customer 5. In order to maximize the benefit of digital payment system industry need to build collaboration to achieve economic of scale Despite all the challenges, BI still believe that digital payment system will grow rapidly in Indonesia

In order to escalates financial inclusion shifting in to the next level in Indonesia, all parties from regulator and industry side to join the explore new opportunity in enhancing digital payment system and build less cash payment culture. Despite all the challenges, BI still believe that digital payment system will grow rapidly in Indonesia. Indonesia has strong point in developing digital payment both in term of market and institution environment. Keynote Speech 2, by The Chairman of the OJK (Financial Services Authority), Mr. Muliaman D. Hadad The OJK (Financial Services Authority) appreciates the establishment of the Mandiri Institute by Bank Mandiri and, through several of its activities, has provided important input towards the development of financial inclusion. It is hoped that going ahead further discussions Office of Chief Economist | Page 23

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will take place on other important matters related to the advancement of the Indonesian economy.

In the last three decades, we have seen that problems pertaining to a lack of access to funding have become a major issue

A new awareness is needed that financial services do not only pertain to micro-credit but also to other products such as micro-insurance as a way of providing protection to low-income people

In the last three decades, we have seen that problems pertaining to a lack of access to funding have become a major issue. Efforts to enhance the ability of small enterprises in Indonesia have been made since the new order era, such as the provision of people's business credit both intensively and extensively. In terms of providing micro-financing, in particular, Indonesia has become a successful role-model in the eyes of the world. Several formal financial institutions, like micro-credit agencies (badan kredit mikro), cooperatives, fiduciary-based credit providers (pegadaian) and rural credit organizations, as well as non-formal financial institutions, are now proliferating and have facilitated greater financial access. Nevertheless, such initiatives and efforts have yet to make a significant impact. Matters such as poor financial literacy and the lack of financial access require further discussion, as does the issue of widening inequality as measured by the country’s increasing gini coefficient. The OJK (Financial Services Authority) is of the opinion that the provision of credit, which over the last three decades has been performed largely by the government and private institutions, represents the beginning of a long process. Furthermore, a new paradigm needs to be developed, moving from microfinance to financial inclusion. Inclusion means more than just opening access to credit – it means paving the way to prosperity. There are several important pillars involved in changing the paradigm from one of micro-finance to financial inclusion: 1. A new awareness is needed that financial services do not only pertain to micro-credit but also to other products such as micro-insurance as a way of providing protection to lowincome people. From the perspective of banks, products and practices such as cross-selling, micro-credit, micro-savings, micro-insurance and others will gain more prominence. 2. The role of technology in telecommunications companies will become increasingly important as intensive technology becomes more widespread. This will give rise to increasingly technologically fluent generations of people. Technology will also lead to enhanced efficiency in each and every economic activity. Banks will also be presented with the challenge of attracting customers by using technology. 3. Transaction security needs to be developed and upgraded. 4. New markets for all segments – including poor members of society and unbanked people, both in rural and urban areas - need to be created. 5. A new paradigm needs to be established for regulators so that they are able to provide an environment that is more Office of Chief Economist | Page 24

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It is hoped that customers will become more participative, thereby supporting the banking industry in enhancing financial inclusion and prosperity

conducive to allowing optimal financial access. To this end, a business model for financial access needs to be established. Commitment and focus on the part of the banking industry are required to create human resources, infrastructure and even organizational structures that are appropriate for facilitating financial inclusion so that it proves sustainable. Moreover, credit disbursement channels – not just on the commercial front but also in terms of empowerment – need to be sought. It is hoped that customers will become more participative, thereby supporting the banking industry in enhancing financial inclusion and prosperity.

Promoting Global Financial Inclusion

There is no one model of financial inclusion will fit to every country in the world

1. Ghada Teima (Program Manager WEF - IFC Financial Inclusion) There is no one model of financial inclusion will fit to every country in the world. In principal, there are several models that work and it involves collaboration among public and private and civil society. 77% of adult around the world live without having bank accounts and live with poor condition. Therefore, financial inclusion is needed to overcome this issue. Several program has done by government and some programs conducted by private even can reach more society that is considered as unbanked or underserved by financial institutions. Some features that important in financial inclusion is digital inclusion (digital payment). The better we have digital inclusion in society, the far we can outreach for implementing financial inclusion. Implementing financial inclusion is not always related to bank or formal financial institutions which is very highly regulated especially in looking at risk side. It can be implemented by some informal forms that is not rigidly covered by regulation as in formal financial institutions.

Technology is key factor for implementing financial inclusion

2. Ronald Waas (Deputy Governor – Bank Indonesia) Technology is key factor for implementing financial inclusion. The significant development of technology has brought together bank and telecommunication as two major industries in financial inclusion. Financial inclusion needs some breakthrough to be well implemented and advances in technology perfecting the breakthrough with the creativity and ideas, so then we can’t put limitation to this ideas development. On the other hand, the regulator must adjust the regulation to advances in technology in Office of Chief Economist | Page 25

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order to assure that financial institution remain stable and risk manageable. Three stages have been doing by Bank Indonesia (BI) in order to support financial inclusion. First, BI facilitated economy empowerment in society through payment system that can be accessed easily by society. In the second stage BI wants to attract customers who have access to payment system to have financial products. Final stage, all consumer class that formerly unbanked will be having financial products. In supporting financial inclusion, BI also initiate the program “Gerakan Nasional Non Tunai” to make an awareness for society that we must go toward cashless transaction. As we know that cash based transaction is less efficient and less secure than cashless based transaction. The cashless initiative included government to people (G to P) and P to G. One thing to note in order to develop business model in financial inclusion is the segment of consumer that will be targeted. The behavior of the consumer will determine the business model can be implemented. In addition, people in village who is considered as unbanked really concern about security of doing digital transaction and it is put on top priority before their next concern about accessibility to the payment system.

The existence of agents is very crucial in implementing financial inclusion

Therefore the implementation of financial inclusion can take a part to widening the access to financial products like saving account

3. Endang K. Trisubari (Deputy Commisioner of Bank Supervision – OJK) The existence of agents is very crucial in implementing financial inclusion. The form of agent can be divided in two parts : individual and legal entity. The individual as an agent must have certain requirement such as person whom trusted by society like Pak Ustadz (the leaders of religion). Cellular phone store and grocery store are other individual agents while example of legal entity agents are Post Office (PT. Pos Indonesia), Pawn shops (PT. Pegadaian), microfinance institutions and private company which has wide chain stores such as Alfamart or Indomaret. Furthermore, those agents must be reviewed by banks in order to assure that customers who involve in this financial inclusion scheme have basic saving account. On the other hand, the agent will conduct simple due diligence to its customer. For example, the completeness of identity documents of customers must be reviewed by agent. 4. Destry Damayanti (Executive Director of Mandiri Institute) Based on survey conducted by Mandiri Institute to some regions where branchless banking pilot project took place can be concluded that low income people need saving account. This could be contrary to our former mindset that what they need most is loan. Therefore the implementation of financial inclusion can take a part to widening the access to financial products like saving account. Office of Chief Economist | Page 26

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We can look at financial inclusion practice in India as good example. The successful financial inclusion in India is supported by government role to jump start the program. The interesting finding from the survey is low income people are familiar with the mobile phone technology so then they hope access to have saving account can be easier using the mobile phone technology. Second finding is the implementation of financial inclusion must be supported by strong and stable telecommunication networking and well established telecommunication infrastructure particularly in regions where financial inclusion wants to be implemented. Last but not least, the price of air mobile cellular voucher is expected affordable to unbanked people because the capacity of their spending is limited due to low income. Opening Financial Access and Promoting MSME Growth

The unbanked comes from low income segments

1. Suahasil Nazara (Mandiri Institute Research Fellow) Despite solid macroeconomic in Indonesia there is higher inequality in recent years. Financial inclusion takes a place to offer solution in promoting growth as well as overcoming inequality problem. Financial Inclusion will promote growth, improve income distribution, and reduce poverty. Several pillars in financial inclusion are access to financial education, access to transaction, access to savings, access to credit, and access to insurance. The unbanked comes from low income segments. Wrong perceptions about the poor doesn’t need saving, loan and insurance must be fixed together with diversifications of financial service and regulatory framework. Looking at Indonesia demography data we can see growing society from 2003 to 2013 which middle income class have grown significantly whereas poor class society has decreased. Therefore, financial inclusion is needed to avoid the presence of inequality. In consequence, we must choose the best model to promote financial services for all and branchless banking is one model that can be advancing financial inclusion in Indonesia. There are several lessons learnt from branchless banking pilot project in Bank Mandiri such as encouraging people to save, small but routine cash-in transactions, more sensitive to fees than interest, trustworthy agents are essential and agents in remote areas are important. In addition, some challenges from branchless banking pilot project in Bank Mandiri are ability to fill in forms, ID challenges among the poor, limited number of agents, low financial literacy and socialization on branchless. Branchless banking for electronic money needs agent, since Poor and vulnerable need assistance (facilitation) from somebody who Office of Chief Economist | Page 27

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understands the system and who getting trust from people -- as well as promotion. Implementing financial inclusion in large scale through branchless banking can be conducted by doing “jumpstart the system”. It is massive approach through government transfer payment to people (G2P). This time is good timing to apply branchless bangking through G2P because new government has plan to cutting subsidy and reallocate subsidy to transfer payment to poor and vulnerable people using LKD (Layanan Keuangan Digital). The retail sector in Indonesia can have a large impact on economic development and help to expand access to financial services

2. Paul Reynolds (IFC) The retail sector in Indonesia can have a large impact on economic development and help to expand access to financial services. The retail distribution chain is an important part of the Indonesian economy and it reaches into the mass market through traditional retailers. Consumer Goods distributors mainly collect cash payments from traditional retailers as they are cash based businesses and do not use bank accounts. However new e-money and agent banking regulations are resulting in new banking and payment services targeting traditional retailers. E-money regulations and services are well established. New agent banking regulations will allow e-money providers to expand ‘cash in’ and ‘cash out’. Traditional retailers are familiar and interested in using digital payments as long as the negatives can be addressed. Digital payment negatives are Complicated Technology, Don’t understand technology and Technology is expensive. The size and volume of the B2B (Business to business) payments in the traditional retail sector are significant and draw attention of banks and payment service providers. However, there are key execution challenges such as Integration of payment services to facilitate transaction flows, business case to invest in B2B payment services, availability of retailer account and payment services – EMoney & Agent Banking and retailers’ Incentives to change current behavior. However the ‘business transaction’ is bigger than the payment alone. Investment by stakeholders will require multiple needs to be met. Therefore, IFC is developing a deeper understanding of both the business case for stakeholder investment and the business model to deploy. 3. Agus Sugiarto (OJK) Increasing welfare of Indonesia people has been not followed by increasing of marginal propensity to saving therefore we need to Office of Chief Economist | Page 28

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develop financial products to accommodate the increasing of saving. In fact, literacy on financial product and services in Indonesia is very low, only reach 21.84% while utilization of financial services in Indonesia reach 59.74%. In order improve financial literacy in Indonesia, financial sector also need more products on insurance and investment product. In addition, financial education must be given to society in order to enable them becoming well informed customer who holds financial products such as saving, investment and insurance. Therefore, consumers will have well knowledge about financial products and it is important part of having financial products. In line with that, OJK has main job not only supervise and regulate but also to protect the consumers who use financial products. OJK issued regulation that stated any licensed financial institutions must have at least one financial literacy program in their annual business plan. Financial institutions have to create the product that fit the budget of consumers in Indonesia especially for the middle class and the society below the middle class

Financial institutions have to create the product that fit the budget of consumers in Indonesia especially for the middle class and the society below the middle class. Further, financial institutions need to develop a product that not only as banking product but also consist investment as well as risk protection product. One example of this kind of product is Si Pintar that has developed by OJK and financial institution. It is combination of banking, investment and insurance product. 4. Mr. Budi Gunadi Sadikin (Bank Mandiri Group) Bank Mandiri took part in BI’s branchless banking pilot that started in August 2013. It done in several regions in Indonesia (South Sumatera and West Java). Based on that project, Bank Mandiri has surveyed the unbanked basic needs. The first finding is the average daily income of the lower level of society (which is unbanked) surveyed in those areas is between IDR50 k – IDR60 k. Second finding is their average daily spending per day around IDR35 k – IDR45 k per day, therefore their saving capability is around IDR10 k – IDR20 k per day. In a month they capable to save IDR300 k – IDR600 k and this amount of money is the potential fund that can be absorbed by bank.

We have to find innovative way to overcome LDR issue and one of them is bring the money from unbanked people to banking system through financial inclusion

We have to find innovative way to overcome LDR issue and one of them is bring the money from unbanked people to banking system through financial inclusion.

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Expanding Access for Households To achieving financial inclusion is the need for collaboration not only between the public and private financial sectors but also the non-financial sector

T

he final session of the event, the industry showcase, covered the initiatives to jumpstart financial inclusion and the respective practitioner’s experiences in sustaining them. There are two sub-sessions entitled “Expanding Access for Households” and “Deepening Financial Services Usage Beyond the Payment System and Towards Serving MSME” delivered by one government body and seven companies. Sharing their views on how to deal with real issues in the topics were the representatives from the National Team for the Acceleration of Poverty Reduction (TNP2K), Ruma (Rekan Usaha Mikro Anda), Indosat, MekarIndonesia, Square Gate One Indonesia, 8Villages, Bima, and Micro Pensions Lab.

Overall, the connection between the initiatives is the usage of technology such as mobile phone or electronic money or software in extending people’s reach beyond their physical presence, simplifying their paperwork, and ultimately giving them the access to financial services. Another point of importance to achieving financial inclusion is the need for collaboration not only between the public and private financial sectors but also the non-financial sector.

Past practice of government to people (G2P) programs are time consuming for beneficiaries

1. Michael Joyce, advisor in the TNP2K Past practice of government to people (G2P) programs are time consuming for beneficiaries, for example because they have to go to the post office and fill paperwork to collect money. To improve the way payments are made, the government initiated a pilot project utilizing electronic money for conditional cash transfer under the Progam Keluarga Harapan. The project partnered with Bank Mandiri (e-cash) and BRI (T-bank) and involved 1,800 beneficiaries in 4 provinces and delivered money through deposit terminals and agents. Interestingly, field observation shows that mobile phone penetration is high but not universal. Even though every beneficiary household owns mobile phone, only a third of the mother in the family has her own phone. This seemingly trivial matter is actually important because mother is a better money tracker than the father. Hence, mother receiving and managing the conditional transfer is the key in making the conditional cash transfer effective. Telecommunication infrastructure and coverage must also be addressed as the program relies on stable phone signal coverage in urban regions. The program received positive feedbacks. When people know they have access to their resources, they are more willing to keep money in saving account instead of holding cash. Technology adoption rate is also encouraging for self service payment compared with assisted payment. Participants are more eager to draw money from ATM Office of Chief Economist | Page 30

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rather than waiting in line for agent. This program is also supported by ample ATM and EDC infrastructure. Ahead, the government must integrate digital money services for more programs beyond conditional cash transfer. It is crucial to promote education especially for agents, facilitators, and beneficiaries as their current understanding is deemed as insufficient to achieve such bigger scale of operation.

Private financial institution plays role in achieving financial inclusion

2. Aldi Haryopratomo, CEO & Founder, PT. Rekan Usaha Mikro Anda (PT. Ruma) Private financial institution plays role in achieving financial inclusion. There is opportunity in developing independent financial distribution channel and branchless banking because there are people and companies seeing the value in serving community. How it is done is told via the success story of an independent retail shop owner acting as the agent of Ruma, a last mile distribution channel for financial and payment services based on software. Teh Yayat, the agent, has been successful in growing her transaction value from only IDR10,000/day to IDR30,000/day in six months to currently IDR16 million/week. She even develops her business by purchasing a big motorcycle that will be attached to a cart to deliver goods to another remote village. There are some lessons from her to be learned. First, character is the distinguished feature of a quality agent because he/she must be trusted by the community. Agents are diverse but share a common trait: they care deeply about their customers and this is, among others, where trust comes. Independent agents also like options to work not only with telecommunication companies but also banks, and leasing firms. Second, training local residents to educate another local due to cultural factor will help spreading financial awareness to the wider community.

3. Alexander Rusli, CEO, PT Indosat Tbk The main point here is that telecommunication industry is not The main point competing with banks in providing mobile money. Instead, they here is that telecommunication must cooperate. Indosat has been into mobile money for quite some industry is not time through “Dompetku,” yet similar platform launched by Bank competing with Mandiri resulted in a very different customer behavior. Customer banks in providing paid transactions such as utilities in the former while using the latter mobile money. to store money. It needs education process to fully capitalize on the Instead, they must potentials of mobile money. Once it is in place, it will lead to other cooperate services such as mobile commerce. Finally, telecommunication industry should not wait for fancy smart phone’s 25% penetration to catch up with feature phone’s 75%. The process of using mobile money is similar to loading credit which 99% of Indonesian pre-paid mobile phone customers are already used to.

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The Advantage of e-commerce is ability to track sales and to identify whether or not the retail store are creating jobs

4. Thierry Sanders, CEO, Mekar Mekar is a technology company that builds peer-to-peer lending platform software. The company is built with the idea to engage people at the top to help people at the bottom. This is done by identifying entrepreneurs with the ability to grow their businesses, providing them with the means of financial support, and enabling them to create jobs. Initially, Mekar partnered with credit cooperatives and in one year funded 500 borrowers, each averaging USD500. However, there is a change in business model later on. It turned out that the credit cooperatives were providing consumer credit which is unfavorable because Mekar wanted growing entrepreneurs. Now it cooperates with an e-commerce company creating websites for small retail stores. By February 2015 as many as 30,000 retail stores will be financed through Mekar. The advantage of e-commerce is ability to track sales and to identify whether or not the retail store are creating jobs. Deepening Financial Services Usage Beyond The Payment System and Towards Serving MSME 1. Edy S.P, Founder and President Director, Square Gate One Indonesia Square Gate One Indonesia strives for less cash society between businesses. The method helps companies (principals) to reduce cash on hand and fraud, execute real time reconciliation, securely and efficiently. The advantage for distributors or retailers in joining the system is discounts from principal. The main challenge lies on different business process in the field which resulted in different way to deliver money to the principals’ account.

8Villages facilitates agricultural community, especially farmers, with information so they can learn and execute the best practices.

2. Anita Hestiaswin, Indonesia General Manager, 8 Villages 8Villages facilitates agricultural community, especially farmers, with information so they can learn and execute the best practices. Farmers are often lacking information or even misguided by the intermediaries between the input producers and them, the “middle men.” By SMS, 8Villages educates female farmers who are typically busy with household works. Topics delivered including financial literacy, how to save, how to increase production, how to sell products, and how to use fertilizer and pesticide. Phone communication also makes farmers less shy to ask when gathered in group. 3. Harshet Lunani, Indonesia Country Manager, Bima Bima attempts to capitalize on Indonesia’s high mobile coverage and partnered with XL Axiata to tap low insurance penetration. While using technology, the role of agent and direct communication is crucial because potential customers first need to be educated and, Office of Chief Economist | Page 32

Indonesia Update December 2014

The last point is that micro-insurance promotes welfare by helping the government protecting low income households that are extremely sensitive to financial shocks from falling to poverty

more importantly, need to trust the provider. Customers do not come by themselves to buy insurance. In US, where insurance is established, 80% of sales require human interaction. The rate will certainly be higher in developing market such as Indonesia. This is exactly one of the challenges faced by Bima: lack of education about insurance, which adds to difficulties in affordability and in administering policy particularly premium collection. Focus to product usability is critical in addressing the issues. The last point is that micro-insurance promotes welfare by helping the government protecting low income households that are extremely sensitive to financial shocks from falling to poverty. Approximately 35% of 1 million Bima customers earn between USD1.25-2.5/day, and 81% earn below USD10/day. 4. Gautam Bhardwaj, Co-founder and Managing Director, Micro Pensions Lab The last speaker shared his experiences in administering micropension scheme for low income segment in India. There, micropension operating model consists of three phases: education and enrollment, collecting contribution, and providing services and benefit. The first is the shortest and involved education by agent, know your customer process, and enrolling a customer. Agents are first enrolled to the program to be educated about what they will deliver to the potential customer. The longest is the second where customers pay small amount of money until they retire. Finally, in the third phase customers draw their pension fund. The program works because of its simplicity of process, security of saving, good governance and compliance, portability and convenience, flexibility related with customer’s cash flow and contribution, and automation of contribution. There is also the support from centralized IT database, integration with national ID system and multilingual help line.

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Indonesia Update December 2014

Optimizing Opportunities and Challenges for the National Pharmaceutical Industry Nadia Kusuma Dewi

T

here remains a lot of future potential for the Indonesian pharmaceutical market. Indonesia’s ever increasing population, the need for essential medicine and greater social awareness as to health, all against a background of an improving social economy, are the main drivers of growth in the national pharmaceutical industry. Increased support from government health programs, along with the implementation of a national health insurance system, is projected to contribute to strengthening the growth of the pharmaceutical industry in Indonesia.

There remains a lot of potential for the Indonesian pharmaceutical market…

The current proportion of healthcare expenditure to GDP in Indonesia is still relatively small (3%). Healthcare expenditure per capita in Indonesia is expected to grow at an average of 13.8% per year from USD109 in 2012 to USD237 in 2018. However, in comparison to various other ASEAN countries, annual healthcare expenditure per capita in Indonesia is currently fairly low, meaning that there is still significant room for improvement in this sphere.

… annual healthcare expenditure per capita in Indonesia is currently fairly low

Healthcare Expenditure per Capita

USD 8,000

2012

7,000 6,000

2018

5,000 4,000 3,000 2,000

India

Indonesia

Thailand

Malaysia

China

South Korea

Singapore

Japan

Australia

1,000 0

Figure 6. Healthcare expenditure per capita per year. Healthcare expenditure per capita in Indonesia is expected to grow at an average of 13.8% per year from USD109 in 2012 to USD237 in 2018. However, in comparison to various other ASEAN countries, annual healthcare expenditure per capita in Indonesia is fairly low. (Source: Frost & Sullivan)

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Indonesia Update December 2014

The government allocated a budget of IDR 36.6 trillion, or 2.1% of the 2013 revised state budget, to the Ministry of Health. This figure rose the following year to IDR 47.5 trillion, or 2.5% of the 2014 revised state budget. This significant increase was related to the establishment of the Healthcare and Social Security Agency (BPJS Kesehatan) which began operating on 1 January 2014. The budget allocated to the Ministry of Health for next year amounts to IDR 47.4 trillion, or around 2.3% of the 2015 draft state budget. The likelihood of further increases going into the future is quite high, bearing in mind that article 171 of Law No. 36 of 2009 concerning Health mandates that the size of the allocated government health budget must be at least 5% of the overall state budget besides wages. Developments in Indonesia’s Pharmaceutical Industry The national pharmaceutical industry grew at an average of 11% per year (CAGR) from 2009-2013

The national pharmaceutical market grew at an average of 11% per year (CAGR) from 2009-2013. By 2013, the pharmaceutical market had reached IDR53.8 trillion and was expected to rise to the IDR5860 trillion range this year. Next year, meanwhile, the pharmaceutical market is expected to grow by about 10%-13%.

Indonesia Pharmaceutical Market IDR Tn

Indonesia Pharmaceutical Market Breakdown

60 OTC 41%

50 40 30 20

Ethi ca l 59%

10

Bra nded & Li cens ed 50.7% Unbranded

0 2009

2010 2011 2012

2013 2014F

8.3%

Figure 7. The Indonesian Pharmaceutical Market and Breakdown of Types of Medicine. The national pharmaceutical market grew at an average of 11% per year (CAGR) from 2009-2013. By 2013, the pharmaceutical market had reached IDR53.8 trillion and was expected to rise to the IDR58-60 trillion range this year. In terms of types of medicine, prescription medicine predominates with a 59% share of the national pharmaceutical market. (Sources: Kalbe Farma, IMS Health)

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Indonesia Update December 2014

Prescription medicine, otherwise known as ethical medicine, predominates with a 59% share of the national pharmaceutical market, while the remaining 41% is made up of freely available, or over the counter/OTC, medicine. Prescription medicine itself is comprised of patented, or licensed, drugs (30%) and generic drugs (70%), while generic drugs can be further divided into branded generic drugs (Obat Generik Bermerek Dagang/OBM) and unbranded generic drugs (Obat Generik Berlogo/OGB). In Indonesia, the proportion of unbranded generic drugs on the market is still quite small (14% of the total prescription medicine market or 8.3% of the total pharmaceutical market).

Prescription medicine predominates with a 59% share of the national pharmaceutical market

Structure of the Indonesian Pharmaceutical Industry The structure of the pharmaceutical industry in Indonesia is very fragmented. At present, there are approximately 239 pharmaceutical companies in operation. The bulk of the pharmaceutical industry is located in West Java (39%), East Java (20%), and Jakarta (15%). The top 5 national pharmaceutical companies are Kalbe, Sanbe, Soho, Pharos, and Dexa Medica, which control a combined share of the market of around 30%. Increasingly tight competition in the pharmaceutical industry has led big pharmaceutical companies to diversify their products more and more, especially in the over-the-counter (OTC) medicine segment along with other consumer health products.

The structure of the pharmaceutical industry in Indonesia is very fragmented

Distribution of Pharmaceutical Industry in Indonesia (unit)

30 47

23

5

2

1

239

37

Market Share Domination in Indonesia Pharmaceutical Industry MNC Ethical, 20.5% MNC OTC, 6.2%

94

Domestic OTC, 34.7%

Total

South Sumatera

DIY

North Sumatera

Central Java

Banten

DKI Jakarta

East Java

West Java

Domestic Ethical , 38.6%

Figure 8. The Regional Distribution of the Pharmaceutical Industry and Market Share of Different Types of Pharmaceutical Companies in Indonesia. At present there are 239 pharmaceutical companies in

Indonesia, the bulk of which are located in West Java. Meanwhile, domestic companies still dominate the industry with a combined share of around 73% of the pharmaceutical market. Sources: Directorate General of Pharmaceutical and Medical Devices, National Drug and Food Supervisory Agency/BPOM, IMS Health)

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Indonesia Update December 2014

Domestic companies still predomínate with a roughly 73% share of the pharmaceutical k

Domestic producers in the national pharmaceutical industry still enjoy a strong market share. If we distinguish the various players in the industry, we see that domestic companies still predomínate with a roughly 73% share of the pharmaceutical market, while the remaining 27% is controlled by multinational corporations. Of the 59% of the market share belonging to prescription medicine, domestic companies control 38.6%, whereas 34.7% of the 41% for freely available medicine is also in the hands of domestic manufacturers. According to their consumer targets, the products of multinational corporations are generally focused at upper middle income people, while domestic companies focus on branded generic drugs (OBM) for the middle class population, and unbranded generic drugs (OGB) for the poor and near-poor segments of society. Target Market of Pharmaceutical Industry

Figure 9. Target Markets of Players in the Pharmaceutical Industry. According to their consumer targets, the products of multinational corporations are generally focused at upper middle income people, while domestic companies focus on branded generic drugs (OBM) for the middle class population, and unbranded generic drugs (OGB) for the poor and near-poor segments of society. (Source: National Drug and Food Supervisory Agency/BPOM)

Dependence on Imported Raw Materials and the Rupiah Exchange Rate High import content makes the pharmaceutical industry susceptible to volatility in the rupiah exchange rate

Raw materials dominate the production cost structure of the pharmaceutical industry (60%-80%). This is especially significant in light of the fact that around 90-95% of raw materials for drugs are currently still being imported from China, India, Europe, and the US. The Pharma Materials Management Club (PMMC), an association of pharmaceutical raw materials suppliers, expects USD1.53 billion worth of imports of pharmaceutical raw materials this year, up 13,3% from 2013 when the figure was USD1.35 billion.

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Indonesia Update December 2014

Given the high import content in this industry, the volatility of the rupiah exchange rate is of great concern to the pharmaceutical business, especially when the value of the Indonesian currency depreciates, as is the case this year. We projected that the exchange rate of the rupiah throughout much of 2014 would be around the IDR11.832/USD level, approaching IDR12.100/USD by the end of the year. Rupiah volatility remains a risk going into 2015, even though it is expected to be slightly less volatile than in 2014. The rupiah exchange rate in 2015 is expected to hover around IDR11.950/USD (on average), appreciating slightly to IDR11.800/USD by year’s end. Our studies have shown that every 1% depreciation in the value of the rupiah causes a rise in the cost of goods sold (COGS) in the pharmaceutical industry of 1,77% in the ensuing two quarters.

Kalbe Farma Total Manufacturing Cost (%)

Rupiah Exchange Rate (IDR/USD)

13,000

18.9%

12,000 77.7%

11,000

100%

3.4%

10,000 9,000 8,000

Nov-14

Nov-13

Nov-12

Nov-11

Nov-10

Nov-09

Nov-08

Nov-07

7,000

Raw and Direct packaging labor materials

ManufacTotal turing Manufacturing overhead Cost

Figure 10. Rupiah Exchange Rate and Production Cost Structure of the Pharmaceutical Industry: Raw materials dominate the production cost structure of the pharmaceutical industry (60%-80%). This is especially significant since around 90-95% of raw materials for drugs are currently still being imported. Given the high import content in this industry, the volatility of the rupiah exchange rate is of great concern to the pharmaceutical business. Rupiah volatility remains a risk going into 2015, even though it is expected to be slightly less volatile than in 2014. The rupiah exchange rate in 2015 is expected to hover around IDR11.950/USD (on average), appreciating slightly to IDR11.800/USD by year’s end (Source: Bloomberg, Corporate Financial Report)

How to Reduce Import Dependency ? The government has started to pay attention to efforts to develop pharmaceutical raw materials

At the end of 2013, the government issued Regulation of the Minister of Health No.87/2013 on a Roadmap to Developing Pharmaceutical Raw Materials. This move was intended to enhance the domestic development and production of raw materials for

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Indonesia Update December 2014

drugs and, in doing so, reduce import figures. Nevertheless, several obstacles must still be overcome when it comes to developing pharmaceutical raw materials in Indonesia. These are as follows: 1. A lack of support from the basic chemical industry, especially for producing the raw materials of synthetic drugs. If the raw materials required for producing drugs are not available, then Indonesia is compelled to import these raw materials, or intermediate materials, from abroad. In the case of the latter, this means that only the final stage of the formation of the raw materials takes place domestically. This situation leads to inflated production costs which, in turn, mean that the raw materials produced cannot achieve economies of scale and their prices are not competitive compared to imported pharmaceutical raw materials. 2. The pharmaceutical raw materials industry requires a large amount of investment and has a high failure rate. High costs will carry over to the price of raw materials, making these more expensive. In addition, investment in this industry requires a long-term outlook whereby returns are likely to be enjoyed only after a significant period of time. 3. The rapid development of drug types and their derivatives can lead to fluctuations in the price of drugs, making a lot of potential investors reluctant to become involved in this business as it requires qualified research and development. 4. A lack of synergy between Academia-Business-Government (ABG). To date Indonesian experts, both from research institutes and educational institutions, have conducted a variety of research related to the development of pharmaceutical raw materials, but are still restricted in the laboratory and pilotplant scale. Research results can often not be utilized commercially, and thus not developed on an industrial scale, due to a lack of interest from the business community which sees this as unprofitable. 5. The market for pharmaceutical raw materials is quite small compared to the minimum production capacity for any one pharmaceutical raw material industry, meaning that economies of scale cannot be achieved. Without disregarding any of these points, efforts to develop raw materials are still very much required. These include: 1. 2.

Development of the domestic pharmaceutical raw materials industry, especially for essential medicines with strong domestic demand and the potential to be exported. In addition to a chemical synthesis approach, both raw materials for herbal medicines as well as biotechnology need to be developed. Indonesia’s wealth of biological resources are a Office of Chief Economist | Page 39

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3.

4.

source of great potential in the field of pharmaceuticals which has not been fully harnessed. Formulation of policies that favor the development of pharmaceutical raw materials, such as tax incentives, tax refunds, export tax exemptions, and import duty exemptions for necessary chemical solvents/substances. Establishment of a national research centre to assist in the development of pharmaceutical raw materials and the strengthening of Academic-Business-Government synergy in the form of working groups.

The development of pharmaceutical raw materials, both of a chemical and biological nature, needs to be carried out through the implementation of strategies that cover the short term (1-3 years), medium term (3-5 years) and long term (6-10 years). The short-term strategy would be executed with a bottom-up approach by bolstering state-owned pharmaceutical companies to become pioneers in the field. In such a short-term strategy, not much initial investment and technology would be required, while support already exists from the local market and in the form of the intermediate/raw materials available domestically. In contrast, the medium-term and long-term strategies would be executed with a top-down approach. These strategies would require a large amount of initial investment, the development of technology, the production of intermediate materials domestically, and the availability of export markets.

Short Term (1-3 year)

1. Paracetamol 2. DFA III 3. Penicillin 4. Citric Acid 5. Garam Farmasi 6. Artemisinin 7. Radiopharmaceuticals 1. Sabin-IPV 2. Rotavirus (oral) 3. Pentavalent 4. Seasonal Flu

Mid Term (3-5 years) Chemical Product: 1. Cephalosporin Derivatives 2. Amylum

Biologic Medical Product 1. TB Recombinant 2. Pneumococcal 3. Erythropoietin 4. Albumin

Long Term (6-10 years)

New Generation Antibiotics

1. Dengue 2. Malaria 3. DNA Vaccine 4. HIV/AIDS 5. HPV

Figure 11. Development of Pharmaceutical Raw Materials. The development of pharmaceutical raw

materials, both of a chemical and biological nature, needs to be carried out through the implementation of strategies that cover the short term, medium term and long term. (Source: Regulation of the Minister of Health No.87 of 2013) Office of Chief Economist | Page 40

Indonesia Update December 2014

In order to attract foreign investment, the government has also loosened the cap on foreign ownership in the pharmaceutical industry, from a maximum of 75% to a maximum of 85% through Presidential Decree 39/2014 of April 2014.

As of September 2014, BPJS Kesehatan had covered 127,7 million participants, thereby exceeding its target for this year

The future potential for growth of prescription medicine, in particular generic drugs, will continue improving

Competition to be included in the ecatalogue listings encourages pharmaceutical companies to be more efficient in order to be able to offer low prices

Impact of New Regulation on the Healthcare and Social Security Agency (BPJS Kesehatan) on the Pharmaceutical Industry The Healthcare and Social Security Agency (BPJS Kesehatan) began operating its health insurance program on 1 January 2014. The BPJS roadmap shows that the agency’s target in 2014 is to cover 121,6 million participants (51% of Indonesia’s population) with this figure anticipated to rise to 257,5 million people in 2019 (100% of Indonesia’s population). However, as of September 2014, BPJS Kesehatan had covered 127,7 million participants, thereby exceeding its target for this year. As of June 2014, the total value of premiums accumulated by BPJS stood at IDR18,4 trillion while claims that had been paid amounted to IDR16,4 trillion. As such, the value of claims paid out as a percentage of total premiums was 89%, in line with management expectations. The remaining amount, meanwhile, is to be used for managing internal operations. The future potential for growth of prescription medicine, in particular generic drugs (OGB), will continue improving in step with the implementation of health plans by the Healthcare and Social Security Agency (BPJS Kesehatan). Sales of medicine through BPJS Kesehatan in the first semester of 2014 amounted to IDR10 trillion, or 33% of national pharmaceutical sales. To meet the demand for medicine, the supply of different drug types in BPJS Kesehatan has been upgraded by means of e-catalogue tenders which, by the end of the year, are expected to encompass 600 medicinal items. The sale of medicine through BPJS Kesehatan has given rise to new challenges for pharmaceutical manufacturers in that competition to be included in the e-catalogue listings has made them become extremely price competitive. On another positive note, these open contracts are posted online, thereby encouraging pharmaceutical companies to be more efficient as the low prices offered in their tenders accurately reflect the structure of their production costs. In this way, comepetition leads to more fairness. For the moment, it is thought that the implementation of health plans by BPJS Kesehatan will have a greater impact on state-owned pharmaceutical producers rather than private ones, given that the drugs being used in this program are of the generic type (OGB) which, to date, have largely been produced by state-owned Office of Chief Economist | Page 41

Indonesia Update December 2014

pharmaceutical companies. Intense price competition to be able to offer the lowest prices will, in this case, eventually benefit manufacturers that already have a generic medicine (OGB) production license. Impact of the ASEAN Economic Community (AEC) on the Indonesian Pharmaceutical Industry The AEC will bring with it both opportunities and challenges for the pharmaceutical industry in Indonesia

The introduction of the ASEAN Economic Community (AEC) in 2015 will bring with it both opportunities and challenges for the pharmaceutical industry in Indonesia. With the establishment of the AEC, the potential for the Indonesian pharmaceutical industry to expand its export market will grow. GP Farmasi (The Indonesian Association of Pharmaceutical Companies) estimates that there are currently around 9-11 pharmaceutical companies in Indonesia that are exporting, including to fellow ASEAN countries. On the other hand, Indonesia must continue to enhance the competitiveness of its pharmaceutical industry, so that it doesn’t confine itself to being a market for health sector players from other ASEAN countries, while also increasing its own healthcare spending. Indonesia’s pharmaceutical market alone accounted for 30% of the total ASEAN pharmaceutical market in 2013, making it the largest market in the ASEAN region. The support of the government is also sorely required in facing competition in the AEC. It is of some relief that we have in place Regulation of the Minister of Health No. 1010/Menkes/Per/XI/2008, dated 3 November 2008, which stipulates that only pharmaceutical companies with domestic production facilities (factories) are allowed to register drugs and distribute them in Indonesia’s territorial jurisdiction. At least this regulation acts as a filter for imported products entering Indonesia. Nonetheless, greater support from the government is still necessary for the pharmaceutical industry to become more competitive, including by developing the supply of pharmaceutical raw materials, promoting technology and innovation, conducting research & development, improving the quality of human resources in the health sector, and formulating favorable regulations in the pharmaceutical field. Concluding Remarks

Indonesia should be more offensive in accessing ASEAN markets while enhancing its competitiveness by optimizing and maintaining dominance in the domestic market

There is still a lot of future potential for developing the Indonesian pharmaceutical market and industry, even though there are a number of challenges and obstacles that need to be overcome. It is anticipated that the operations of the Healthcare and Social Security Agency (BPJS Kesehatan) in the coming years will continue to improve, thereby having an increasingly positive impact on the Office of Chief Economist | Page 42

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national pharmaceutical industry. The over-dependence on imported pharmaceutical raw materials, which makes the industry vulnerable to fluctuations in the value of the rupiah, remains a worry for all parties concerned (Academia-Business-Government) and should serve to spur on efforts to develop pharmaceutical raw materials in Indonesia. With respect to the AEC, Indonesia doesn’t need to be overly concerned. Rather, Indonesia should be more offensive in accessing ASEAN markets while enhancing its competitiveness by optimizing and maintaining dominance in the domestic market.

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How Non-Cash Government Support Program benefit Indonesia Financial Inclusion Andjarsari Paramaditha

T

he new Indonesian government has recently launched another wave of funding program for the poor and vulnerable, following the anticipation of subsidized fuel hike. This program is now being integrated into a long-term social safety net system, namely Prosperous Family Cards (Kartu Keluarga Sejahtera/KKS), Indonesia Smart Cards (Kartu Indonesia Pintar/KIP), and Indonesia Health Cards (Kartu Indonesia Sehat/KIS). In the launch of the program last week, the government has distributed to 600 families of whom received 600 KKS, 235 KIP, and 2,775 KIS. The government targeted that KKS will reach 17.2 million families, KIP will help 24 million students and KIS will support 88.1 million people, with estimated total coverage of IDR 6.2 trillion. The non-cash government support program is also expected to accelerate the implementation of Digital Financial Service

Unlike the previous poverty alleviation or social protection programs (Table 1) which gave direct cash to the needs, the current program is now being handled in a non-cash manner, through the mobile money and electronic cash. The non-cash government support program is also expected to accelerate the implementation of Digital Financial Service (Layanan Keuangan Digital/LKD) in Indonesia to raise financial inclusion awareness in Indonesia. As a pilot project in October 2014, Bank Indonesia and the government had tested through conditional cash transfer (Bantuan Langsung Tunai Bersyarat) in the Family of Hope Program (Program Keluarga Harapan/PKH) by using electronic money through agent banking in DKI Jakarta, West Java, East Java, and East Nusa Tenggara. Adapting to the non-cash support is indeed an innovative move from the government, which is initially supported by 3 telecommunication providers and 4 banks for the funding distribution. Indonesia can learn from its emerging economy peers such as Philippines’ Smart Money and Kenya’s M-PESA, who have successfully applied similar system in 2000 and 2007, respectively. Smart Money is a prepaid debit card that allows its owner to make purchases, receive domestic payment and remittance from overseas, has around 50.9 million subscribers to date. M-PESA, an electronic payment system with a small-scale deposit account that can be accessed through mobile phone, has about 19 million consumers in 2014. Besides the two countries, electronic payments system has also being widely used in Brazil, Venezuela, Ghana and Uganda.

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Indonesia Update December 2014 Electronic money and payment systems can be an initial step to financial services products

In a basic way, electronic money and payment systems can be an initial step to financial services products. From the supply side, retail payments can be an efficient and extensive factor that can enable the expansion of formal financial services to the unbanked society (eg. using e-money for KRL Commuter Line/Trans Jakarta busses/paying toll road fee). From the demand side, consumer would have access to different types of financial service from the informal alternatives that they know, due to lack of information (eg. Tabunganku product for basic saving that doesn’t apply service charge). The electronic payment system also enable consumers who relatively new to financial services to trust the financial services and the institutions that manages them, making it a strong driving factor towards financial inclusion.

This is a gateway for the poor and vulnerable to participate in financial inclusion

Several benefits that can be reaped by applying electronic payment services to distribute the poverty alleviation fund in non-cash way. It reduces risk, as cash-handling is prone to be missing, being given to the not appropriate recipients and corruptions. It increases efficiency, transparency, and accountability in funding distribution. Program beneficiaries also don’t need to queue at the post office for the cash payment; it can be retrieved anytime needed or use as payment system. But what is more crucial, this is a gateway for the poor and vulnerable to participate in financial inclusion. It will help to draw the community closer to formal financial sector, as the program can be developed into basic savings, health and life insurance, micro financing or loan for informal and small enterprises, pension funds and remittance for Indonesian foreign talents. However, the program needs several ground works to be sorted out. Program socialization and education are essential to inform how the funding program works, especially because the poor and vulnerable mostly comes with lower educational background. Infrastructures, especially telecommunication industry, must adapt to these changes fast as the system needs reliable communication service and SIM card availability as a basic need. Banking agents also needs to be prepared to handle different kinds of basic transactions, yet remains reachable to the beneficiaries.

It would need adjustments along the way as the system is being adapted and developed as most fitted to the society need.

As the program is newly launched, it would need adjustments along the way as the system is being adapted and developed as most fitted to the society need. An IFC study in 2012 explained three types of business models from the main player’s perspective: bankcentric, mobile network operator-centric and collaborative. While the two main agents in electronic money business developments are bank and telecom operator, both parties need to see the advantages in combining their strengths to create and deliver mobile financial Office of Chief Economist | Page 45

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services that is most appropriate in their respective conditions, that also serves the poor and vulnerable. On regulation side, Bank Indonesia has issued a regulation of electronic money through digital financial service, which provides legal certainty and consumer protection. Electronic money can become the origin of saving culture in the future despite the small amount, and an entry point of introduction to financial formal products, whether as a means of deposit, transfer or bill payment. However, we are still anticipating on regulation from financial service authority (Otoritas Jasa Keuangan/OJK) on branchless banking that hopefully will gives better guidance, especially for agent banking, and makes government to people distribution program more efficient.

Figure 12. Indonesia Government to People program. (Source: TNP2K)

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Reviewing the Subsidized Fuel Price Hike Reny Eka Putri

The government announced an IDR 2,000 per liter increase in the price of subsidized fuel

T

he subsidized fuel price was raised in the third week of November 2014. The government finally announced fuel price hike of IDR 2,000 per liter on 18 November 2014. Prior to this, there had been some discourses that the fuel price hike would be as much as IDR 3,000 per liter, but the downtrend of global oil price made the IDR 3,000 price hike become unlikely. For premium (RON 88) the price has gone up from IDR 6,500 to IDR8,500 per liter, while the price of highspeed diesel fuel oil has risen from IDR5,500 to IDR7,500 per liter. Fuel subsidies are to be diverted to a more productive sector. The government declared that the move to raise the price of subsidized fuel was aimed to shift the budget for consumption, which have been enjoyed by the upper-middle class, to productive sectors and give benefit to the poorer segments which really need assistance. It has become a classic story that the country requires funds for infrastructure, education and health financing, yet often the budget for these sectors is insufficient. It has been allocated more on fuel and other unproductive subsidies. In the long term, the subsidized fuel price hike will have positive effects on the balance of the state budget. If the government had not taken this step, there would be more burden of the subsidized energy on the budget and finally to swell, disrupting the economic stability.

The IDR 2,000 per liter rise in the price of fuel translates into the government acquiring approximately an additional IDR 100 trillion in budgetary

An extra saving for the government post subsidized fuel price hike. The IDR 2,000 per liter rise will be translated into the government’s wider 2015 fiscal space by around IDR94 trillion, in our view. The government even stated that the saving could reach more than IDR 100 trillion. These funds will be allocated for basic infrastructure development, social protection of the poor and the realization of the president’s maritime vision. It is also essential that diverted fuel subsidy funds are used by the government to support food selfsufficiency program, rebuilding a number of damaged irrigation systems, and increasing energy productivity. Pre-emptive measures must be taken to ensure the supply of fuel. It is essential to secure any potential disruptions and obstacles to fuel distribution channels that might adversely impact to the public. Monitoring of Pertamina data on the daily distribution of subsidized fuel over last month revealed that the daily consumption increased; for Premium (RON 88) increased from 81,500 kiloliters (KL) per day to around 87,000 KL per day, a rise of around 7%, while diesel fuel

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Indonesia Update December 2014

consumption increased from 44,500 KL per day to around 47,000 KL per day, a rise of around 6%. It is worth highlighting, Pertamina has already taken several preemptive steps to ensure that the supply of fuel remains secure, including the establishment of Posko Satgas Kenaikan Harga BBM (Fuel Price Increase Task Force Command Posts) at its head office and all its regional offices to monitor and ensure the reliability of the fuel supply. At the same time, the coordination between the central and regional governments is needed to maintain the supply of fuel, as well as policies aimed at minimizing potential inflationary pressures. The implications of subsidized fuel price hike. In line with the expectations of the Bank Mandiri Group’s Economic Research Team, the recent fuel price hike led to Bank Indonesia raising the BI Rate by 25 bps to 7.75%, the level at which it will remain until year’s end. This could provoke inflationary pressure of about 2.5%, so that by the end of 2014 inflation will be in the range of 7.4% - 7.5% (YoY). The impact on Rupiah against US Dollar is likely positive in our view, as higher subsidized fuel price will lower the CAD. We expect Rupiah will stabilize around IDR12,100 against US Dollar and IDR11,800 against US Dollar by the end of 2014 and 2015, respectively. Such inflationary pressure will also impact on economic growth at the end of this year, although the impact will be relatively small. By the end of the year, economic growth is expected to reach 5.1% (YoY). Meanwhile, with the assumption that there will be no further fuel price hikes next year, it is expected that the BI Rate will remain at the 7.75% level, inflation will be around 5.01% (YoY) and there will be an increase in economic growth to 5.28% (YoY). Bank Indonesia (BI) has already decided to strengthen its policy mix in response to the government's fuel subsidy reform policy

Policy response of Bank Indonesia post subsidized fuel price hike. Bank Indonesia (BI) has already decided to strengthen its policy mix in response to the government's fuel subsidy reform policy. These policies include: 1) Raising the BI rate 25 bps to 7.75%, with an increase of 50 bps on the Lending Facility rate to 8.00% and the Deposit Facility rate to remain unchanged at 5.75%, effective from 19 November 2014. The increase of the BI Rate is to anchor inflationary expectations and ensure that inflationary pressures in the wake of the fuel price hike remain under control. 2) Preparing macro-prudential policy adjustments in order to expand funding sources for banks while also supporting the deepening of financial markets and encouraging loan disbursements to productive sectors. Priorities include extending the definition of deposits by including securities issued by banks in the LDR (Loan to Deposit Ratio) calculation under a LDR-linked Reserve Requirement

Office of Chief Economist | Page 48

Indonesia Update December 2014

policy and providing incentives to facilitate the allocation of credit to Micro, Small & Medium Enterprises (MSME). 3) Bolstering its payment system policy to support the smooth expansion of government social assistance programs to the public through the use of electronic money and the implementation of Digital Financial Services (DFS). 4) Continuing with its rupiah exchange rate stabilization policy in line with the currency’s fundamental value. It is believed that the subsidized fuel reform policy will boost market confidence and reinvigorate the flow of funds into the domestic market. Going into the future, the current account position is expected to improve, which will make it more conducive to managing fluctuations in the value of the rupiah. 5) Reinforcing coordination measures with governments, at both the central and provincial levels, by concentrating on efforts to minimize potential inflationary pressures, in particular deriving from soaring transportation costs, while also maintaining food prices. Changes in the price of fuel are followed by a response in the form of either an increase or decrease in the BI Rate

Changes in the price of subsidized fuel are followed by either an increase or decrease in the BI Rate. Based on data that we have compiled since November 2005, when the BI Rate was first published, a rise or fall in the fuel price has always been followed by an increase or decrease in the BI Rate. In May of 2008, a fuel price hike, when Premium (RON 88) went up to IDR6,000/liter and diesel fuel to IDR 5,500/liter, was followed by a BI Rate hike of 25bps to 8.25%. Likewise in January of 2009, when the price of premium was reduced by IDR 1,500/liter to IDR 4,500/liter and diesel by IDR 1,000/liter also to IDR 4,500/liter from the position of November 2008, the BI Rate dipped accordingly by a total of 75bps from November 2008 until January 2009 to 8.75%. The same trend was seen when the government took measures to raise the price of subsidized fuel in June 2013 and, just recently, in November 2014.

Office of Chief Economist | Page 49

Indonesia Update December 2014

Figure 13. Historical Changes in the Price of Subsidized Fuel Compared to the BI Rate and Inflation Rate. Historically a rise or fall in the price of fuel has always been followed by an increase or decrease in the BI Rate. (Source: BPS, CEIC normalized) Office of Chief Economist | Page 50

Indonesia Update December 2014

In sum, the fuel price hike will bring a short term pain for the economy but at the same time will bring a long term gain. Challenges on the economy should be overcome to support the government’s growth target of 5.8% next year. The first big move is the government had done its budget reform. Budget reform means allocating unproductive spending to a more productive. Rising fuel price is a bold move by government to create a greater fiscal space for infrastructure spending. Better infrastructure, coupled with tax incentives, will attract investment. At the end, this drives the economic growth to accelerate further in 2015.

Office of Chief Economist | Page 51

Indonesia Update December 2014

Opportunities and Challenges for the Property Sector in 2015 Sindi Paramita

A

pproaching 2015 the Indonesian property sector, among other sectors, still has opportunities for growth, much of these due to several advantages it enjoys over other ASEAN countries. Property and rental prices in Indonesia are lower than those in nearby countries

Firstly, Indonesia has become an important investment destination in the Asia Pacific region and property prices in this archipelago nation remain relatively low. In fact, property and rental prices in Indonesia are lower than those in nearby countries, such as Malaysia, Thailand and Singapore. This is illustrated by the average price per square meter (sq.m) of an apartment located in the centre of the Jakarta, which stands at just USD2,766/sq.m. This figure is lower than those for Singapore, Bangkok and Manila with prices of USD15,521/sq.m, USD3,952/sq.m and USD3,084/sq.m respectively. Apartment Price in Asia Pacific USD per sq.m 22.814

Hong Kong

15.251

Singapura

11.455

India

10.784

Japan Taiwan

7.112

China

6.932

Thailand

3.952

Phillipines

3.084

Kamboja

2.913

Indonesia

2.766

Malaysia

2.616

Figure 14. Apartment price per sq.m. Average per square meter (sq. m.) prices of 120-sq.m apartments located in the centre of the Jakarta is relatively low compared to other countries in Asia Pacific. (Source: Global Property Guide)

Indonesia has achieved a good investment rating with respect to the property sector

Secondly, Indonesia has achieved a good investment rating with respect to the property sector. According to Emerging Trends in Real Estate® Asia Pacific, Jakarta ranks in the top three out of 23 cities in 2014 in terms of property investment and development prospects. The Indonesian capital’s ranking has shot up from 20th

Office of Chief Economist | Page 52

Indonesia Update December 2014

position in 2010 and 19th position in 2007. It is an indication that Indonesia has become an attractive market for foreign investors. Thirdly, on the demand side, the need for residential property in particular is still very high. Indonesia faces a housing backlog of 15 million units in 2014. This massive figure is continuously growing because the supply of housing provided by the government and the private sector has been unable to meet the needs of society. Fortunately, the property sector still has plenty of room to grow as, among other factors, the portion of property loans to total loans and to GDP is still relatively low, at 14.8% and 2.3% respectively. Housing Needs in Indonesia (million unit)

15,0 13,6 11,0

7,0 5,0

1999

2004

2009

2012

2014

Figure 15. Housing Needs in Indonesia. Indonesia faces a backlog of 15 million units in 2014 and it is continuously growing because the supply of housing provided by the government and the private sector has been unable to meet the needs of society. According to the Ministry of Housing, the number of housing needs to reach about 800 thousand units per year. Meanwhile, the ability of the developers to provide housing per year only reached 300-400 thousand units per year. (Source: Ministry of Public Housing)

Challanges for Indonesia Property Sector However, this optimism needs to be tempered. Deep into the last quarter of 2014, we are aware of the implications of several government policies that will affect the growth of the property sector in 2015. Firstly, trend of rising interest rates. The benchmark interest rate (BI rate) has increased by 200 bps from 5.75% in early 2013 to 7.75% in November 2014. This upward trend is of concern as it is expected to Office of Chief Economist | Page 53

Indonesia Update December 2014

depress demand in the property sector. From the perspective of developers, rising interest rates will also increase the cost of funding. Therefore, cheaper and more efficient alternative project financing is needed. An alternative source of funding for property projects could come from capital markets. The price of building materials is likely to increase

Secondly, the price of building materials is likely to increase, driven by the hike in the subsidized fuel price in November 2014. An increase in raw materials prices as well as regional wages will also contribute to rising construction costs and, consequently, higher selling prices for properties. Thirdly, demand for property in the residential segment may slow as a consequence of weakened purchasing power brought about by many factors including the slowdown in domestic economic growth, rising interest rates, increasing land prices, and more expensive building materials and property licensing fees. According to Cushman & Wakefield, the average number of home sales in greater Jakarta in the first semester of 2014 showed a marked decline, with sales of just 100 units per month per estate, a decrease of about 13 units compared to average sales in the previous semester (-11% HoH) and 24 units (-19% YoY) compared to those in the previous year.

Foreign developers have more advanced human resources and technology

Fourthly, with respect to the introduction of the ASEAN Economic Community (AEC) in 2015, the door to foreign developers will be opened much more widely. Local developers will face stiff competition from their foreign counterparts. Foreign developers have more advanced human resources and technology so that they may be able to finish construction projects more quickly and efficiently. From the financing side, local developers are now facing competition from foreign developers which have more advantages such as large assets and equity, capital with low interest financial base and more sophisticated investment models. As an illustration, the largest locally-listed property company has assets and equity of USD1.9 million and USD1.1 million respectively, are still far behind compare to Keppel Land, Singapore-based developer who have assets and equity of USD10.9 million and USD5.9 million respectively. Prospects of Indonesia Property Sector in 2015 While there is still potential for the property sector in the coming year, overall prospects for this sector appear somewhat dim in 2015. It is expected to continue slowing in line with the trend of slowing economic growth in Indonesia next year. Economic growth in Indonesia is expected to reach 5.3% (YoY) in 2015, which is still lower than that of 2010 to 2012, when growth of more than 6% Office of Chief Economist | Page 54

Indonesia Update December 2014

(YoY) was recorded. In addition, the ripple effects from the subsidized fuel price hike are expected to extend far into the first half of 2015. Inflation during 2015 is expected to be around 5.1%, which at least is lower than the 7.5% projected by the end of 2014, a temporary inflationary spike in the immediate wake of the subsidized fuel price hike. In 2005 and 2008, when increases in the subsidized fuel price and subsequently in interest rates took place, credit growth in the property sector slowed from 31.2% to 9.2% and 38.5% to 6.1% respectively. Likewise, 2013 – 2014 has also seen a decline in the growth of property loans from 30.7% in September 2013 to 17.0% in July 2014, and this slowdown is expected to continue into 2015. The government needs to be more proactive by implementing non-tariff barriers

In light of this situation, the government needs to be more proactive by implementing non-tariff barriers related to the property sector in order not to lose out on business from competitor countries. Also, alternative financing sources for property projects need to be sought so that local developers can better compete with their more capital-endowed foreign counterparts. A policy already formulated by the government pertains to the rules regarding the financing of secondary properties. The Financial Services Authority (OJK) last week released Rules on Exchange Transaction Settlement Guarantees, publishing guidelines and rules on asset-backed securities reporting in the form of a Letter of Participation (EBA-SP) in the context of secondary housing financing. These rules aim to provide alternative financing for secondary mortgage companies, offer new investment products for investors, and help reduce the gap between sources of funds and the use of funds (funding mismatches) for banks in granting mortgage loans.

Office of Chief Economist | Page 55

Indonesia Update December 2014

Mandiri Leading Economic Index (MLEI) Expected a Slight Rebound Ahead November 2014

I

n September 2014, MLEI has slightly moved up by 0.1% (MoM) to the 99.7 level, from previous month. MLEI fluctuated in the range of 99.3 to 99.9 during the period of January 2014 to September 2014. Six out of eight constituent indicators of MLEI showed a decrease in September 2014 (see detailed data on the following tables). Based on the quarterly average of MLEI, it predicts the economy will experience a slightly higher growth in 4Q14 compared to 3Q14. In our latest revised forecast, the economic growth in 2014 decelerates to 5.1% (YoY) before it rebounds to 5.28% (YoY) next year. The Indonesia’s trade balance in September 2014 was posted with a deficit USD270.3 million (deficit USD1.7 billion YTD vs. deficit USD6.4 billion YTD in September 2013). Indonesia’s total exports reached USD12.3 billion or rose 5.5% (MoM) on September 2014. Meanwhile, total imports reached USD15.5 billion or increased 5.1% (MoM) on the same period. We expect that non oil and gas exports will continue to support exports performance until the end of this year and imports to remain modest as the increase in oil product imports tend to be temporary. Indonesia’s GDP grew 5.01% (YoY) in 3Q14, slower than 5.12% (YoY) in 2Q14. The slowest growth for five years, because of deceleration of domestic demand, weak export and investment decelerated. Investment slowed to 4% (YoY) in 3Q14 from 5.2% (YoY) in 2Q14; due to foreign machineries demand contracted and the growth of building investment eased. In our view, investment will be flat owing to the lagging impact of BI’s tight policy. On the other hand, government expenditure is expected to further support the economic growth. Cyclical budget disbursement will drive government spending growth higher than 3Q14 performance of 4.4% (YoY).

Office of Chief Economist | Page 56

Indonesia Update December 2014

102.0 105.0 101.0

103.0

100.0

101.0

99.0

99.0

98.0

97.0

97.0

95.0

May-11 Sep-11 Jan-12 May-12 Sep-12 Jan-13 May-13 Sep-13 Jan-14 May-14 Sep-14 MCEI (rhs)

MLEI (lhs)

MLEI Change (%MoM) Average

Oct 99.3 (0.3)

2013 Nov 99.1 (0.1) 99.3

Dec 99.5 0.3

Jan 99.5 0.1

Mandiri Leading Economic Index (MLEI)

2014 Feb 99.8 0.2 99.5

Mar 99.3 (0.5)

Apr 99.6 0.3

2014 May 99.3 (0.3) 99.6

Jun 99.9 0.6

Jul 99.5 (0.4)

2014 Aug 99.6 0.1 99.6

May-14

Jun-14

Jul-14

Aug-14

Sep-14*

99.3

99.9

99.5

99.6

99.7

Sep* 99.7 0.1

Sep-14* (% MoM) 0.1

Indonesia Stock Market Index

98.6

98.9

100.9

100.8

100.0

(0.7)

Consumer Confidence Current Condition Index

100.9

99.9

100.3

99.7

99.6

(0.1)

Export Index

98.4

100.9

98.3

99.5

99.4

(0.2)

Import Index

98.5

100.9

97.0

100.7

100.7

(0.0)

Rupiah to USD Index

100.0

100.0

100.0

100.0

100.0

(0.0)

Private Deposit Index

98.1

98.9

99.7

97.2

99.1

2.0

Time Deposit Index

100.0

100.0

100.0

100.0

99.0

(1.0)

Saving Deposit Index

99.6

99.5

99.5

99.0

100.0

1.0

MCEI Change (%MoM) Average

Oct 101.3 0.1

2013 Nov 101.2 (0.1) 100.7

Dec 99.5 (1.7)

Jan 99.9 0.4

2014 Feb 100.3 0.4 100.2

Mar 100.5 0.3

Apr 100.4 (0.2)

2014 May 101.1 0.7 100.8

Jun 101.0 (0.2)

Jul 96.8 (4.1)

2014 Aug 100.2 3.5 99.0

Sep* 99.8 (0.4)

Office of Chief Economist | Page 57

Indonesia Update December 2014

Mandiri Coincident Economic Index (MCEI)

May-14

Jun-14

Jul-14

Aug-14

Sep-14*

Sep-14* (% MoM)

101.1

101.0

96.8

100.2

99.8

(0.4)

Business Activity Expectation Index

102.0

100.7

101.0

101.8

101.5

(0.2)

Usage of Labor Expectation Index

101.7

102.0

101.4

100.1

100.0

(0.1)

Industrial Production Index

99.9

99.5

100.0

100.4

98.8

(1.5)

Retail Sales Index

100.2

100.4

99.7

98.3

97.3

(1.0)

Motorcycle Sales Index

102.0

101.9

97.7

99.1

99.5

0.3

Cement Consumption Index

101.0

101.4

81.2

101.6

101.9

0.3

note : *) preliminary Index > 100 and increasing indicates expansion Index > 100 but decreasing indicates downturn Index < 100 and decreasing indicates slowdown Index < 100 but increasing indicates recovery Changes in parentheses indicate negative numbers

Mandiri Leading Economic Index (MLEI) and Mandiri Coincident Economic Index (MCEI) are composite indices for predicting the movement of GDP (Gross Domestic Product) so they can be useful as an early warning on the movement of Indonesian economy. MLEI is used to predict the movement of GDP in the next 6 months, while MCEI is used to predict the movement of GDP in the same month. MLEI and MCEI composite indices are formed from several indicators deemed important in studying the movement of Indonesian economy

Office of Chief Economist | Page 58

Indonesia Update December 2014

Mandiri Banking Pressure Index (MBPI)

Banking Sector Outlook: Still Prospective In the Mid of Tightening November 2014 Bank Mandiri considers the importance of being aware of the banking sector development as a whole; both in booming times, recessions and crises through a leading indicator. From the importance of being knowledgeable on the financial (banking) sector development in the country in a clearer and measurable manner, Bank Mandiri established the Mandiri Financial Performance Index (MFPI) which is a reflection of the service sector and financial business performance, both historical and real time. Bank Mandiri also composed an index that can project the direction of MFPI future movement, called Mandiri Banking Pressure Index (MBPI). Looking at the actual condition, MFPI in November 2014 reported at 107.1. This position indicates that the condition of the Indonesian banking sector is still in normal condition. The banking industry has been resilient, with credit risk, liquidity risk as well as market risk well mitigated and supported by a strong capital base. Credit growth to the private sector in September 2014 decelerates to 13.2% (YoY) from 14% (YoY) in the previous month. While deposit growth accelerated 13.3% (YoY) in September 2014 compared to the previous month recorded at 12.1% (YoY). As a result, liquidity slightly improved as LDR decreased to 88.9% from 90.6%. Mandiri Banking Pressure Index (MBPI) is a leading indicator of the banking sector in Indonesia. It is an indicator that provides a predicted direction of MFPI’s movement in the next 6-9 months. In September 2014, it increased to level 120.8 (+2% MoM). At that level, we expect Indonesian banking in prospective condition in the period from March to April 2015 and liquidity position of the bank expects to improve further. In line with the forecast of Bank Mandiri’s economic research team, Bank Indonesia raise its benchmark interest rate by 25 bps to 7.75% in response to the Government’s fuel subsidy reform policy. The decision was consistent with ongoing efforts to steer inflation back towards its target corridor of 4±1% in 2015. Bank Indonesia also raises its Lending Facility rate by 50 bps to 8%, but the Deposit Facility rate to remain unchanged at 5.75%. The widening of interest rate corridor for monetary operation is intended to manage the liquidity and support financial market deepening. We assume that without any further fuel price hike next year, BI Rate will stay at 7.75% in 2015.

Office of Chief Economist | Page 59

Indonesia Update December 2014

Mandiri Financial Performance Index (MFPI)

200 160 120 80 40 Jan-08

Sep-08

May-09

Jan-10

Sep-10

MFPI

Jan-12

Sep-12

Prospective Signal

2012 Period

May-11

2013

May-13

Jan-14

Sep-14

Alert Signal

2014

MFPI Threshold

Nov

Dec

Nov

Dec

Oct

Nov*

Prospective :

MFPI > 113

MFPI

95.1

95.1

88.2

86.2

99.1

107.1

Normal

:

88 < MFPI < 113

Chg (%MoM)

(1.6)

0.0

(4.2)

(2.3)

(7.6)

8.0

Alert

:

MFPI < 88

note: * preliminary

Mandiri Banking Pressure Index (MBPI)

250 200 150 100 50 0 Jan-08

Jul-08

Jan-09

Jul-09

Jan-10

Jul-10

Jul-11

Jan-12

Prospective Signal

MBPI 2011 Period

Jan-11

2012

Jul-12

Jan-13

Jul-13

Jan-14

Jul-14

Alert Signal

2014

MBPI Threshold

Nov

Dec

Nov

Dec

Aug

Sep*

Prospective

:

MBPI > 103

MBPI

89.3

100.0

63.1

74.7

118.4

120.8

Normal

:

61 < MBPI < 103

Chg (%MoM)

(11.0)

11.9

4.7

18.3

1.0

2.0

Alert

:

MBPI < 61

note: * preliminary

Mandiri Banking Pressure Index (MBPI) and Mandiri Coincident Banking Pressure Index (MCBPI) are composite indices for predicting Mandiri Financial Performance Index (MFPI) which is a reflection of the service sector and financial business performance, so they can be useful as an early warning on the movement of Indonesian banking sector. MBPI is used to predict the movement of banking condition in the next 6-9 months, while MCBPI is used to predict the movement of banking condition in the same month. MBPI and MCBPI composite indices are formed from several indicators deemed important in studying the movement of Indonesian financial condition

Office of Chief Economist | Page 60

Indonesia Update December 2014

MAC R O E C ONOMIC INDIC ATOR S AND FOR E C AS T 2009 2010 2011 2012

2013

2014F

2015F

6.3 6.1 5.3 1.3 9.7 2.0 6.7 8,373 877 3,562

5.8 5.1 5.3 4.9 4.7 5.3 1.2 9,798 871 3,587

5.1 5.0 5.4 2.9 4.6 0.8 0.7 10,826 915 3,723

5.3 5.4 5.2 5.0 6.2 3.3 2.5 12,050 1,015 4,044

27.0 30.3 34.8 0.2 1.7 26.6 110.0 8.0 8,773 9,068

-6.1 8.4 8.6 -2.8 -24.4 28.3 113.0 7.5 9,419 9,670

-2.7 -1.4 6.0 -3.3 -29.1 31.3 99.0 6.7 10,452 12,189

-0.8 -2.4 8.5 -3.2 -29.3 35.0 110.0 6.5 11,832 12,100

3.6 1.5 12.2 -2.8 -28.4 31.1 119.0 7.0 11,950 11,800

6.56 6.00 5.1 3.8 -1.5 BB+ BBB-

5.75 5.75 4.3 4.3 -1.6 BB+ BBB-

6.63 7.50 7.1 8.4 -1.8 BB+ BBB-

7.60 7.75 6.6 7.5 -2.3 BB+ BBB-

7.75 7.75 7.0 5.1 -2 BB+ BBB-

National Ac c ount R eal G DP (% yoy) Domes tic Demand (% yoy) R eal C ons umption: P rivate (% yoy) R eal C ons umption: G overnment (% yoy) R eal G ros s F ixed C apital F ormation (% yoy) R eal E xports (% yoy) R eal Imports (% yoy) G DP (R p tn) - nominal G DP (US D bn) - nominal G DP per capita (US D) - nominal

4.6 5.4 4.9 15.7 3.3 -9.7 -15.0 5,606 539 2,328

6.2 5.3 4.7 0.3 8.5 15.3 17.3 6,436 708 2,977

6.5 5.5 4.7 3.2 8.3 13.6 13.3 7,427 846 3,498

E xternal S ec tor E xports (% yoy) - Merchandis e Imports (% yoy) - Merchandis e Trade B alance (US D bn) C urrent Account (% of G DP ) C urrent Account (US D bn) E xternal Debt (% of G DP ) International R es erves (US D bn) Import cover (months ) IDR /US D (period average) IDR /US D (year end)

-14.3 -24.0 30.9 2.0 10.6 32.1 66.1 8.9 10,354 9,400

32.1 43.7 30.6 0.7 5.1 28.6 96.2 9.1 9,078 8,991

6.94 6.50 4.3 2.8 -1.6 BBBB+

6.50 6.50 5.3 7 -0.6 BB BB+

Other B I rate (% period average) B I rate (% year end) Headline Inflation (% yoy, period average) Headline Inflation (% yoy, year end) F is cal B alance (% of G DP ) S &P 's R ating - F C Y S &P 's R ating - LC Y

Office of Chief Economist | Page 61

Office of Chief Economist | Page 62 108.70

2,534.36 3,422.10 2,332.42

Capital Market JCI Index, eop Volume, avg Value, avg

Consumer Confidence

1,450.82 547.54 5.43

Output GDP (current price) GDP (constant price at Real Growth

13.35 2.50 10.85 10.33 2.10 8.22 3.02

88.31 2.78 0.33 (925.00) 167.35

Prices Headline CPI (2012=100) Year on year inflation Month on month Year to date inflation rate Wholesale Price Index

Trade Export Oil Non oil Import Oil Non oil Trade Balance

402.12 515.82 2,141.38 1,446.81 1,914.11 6.46 13.69 6.85 6.24

9,390.00 9,461.91

U 2009 n

Monetary Sector Base money M0, eop Narrow money M1 Broad Money M2 Outstanding Loan Outstanding Deposit 1-month SBI rate Lending rate (working 3-month deposit rate, Overnight rate, eop

Exchange Rate End of Period Average Real Effective

Indicators

INDONESIA CURRENT DATA

109.30

3,703.51 3,965.38 3,959.30

1,670.52 585.10 6.89

16.83 3.26 13.57 13.15 2.64 10.50 3.68

116.60

3,821.99 3,496.38 2,684.29

1,921.56 623.96 6.49

17.20 3.60 13.60 16.34 3.63 12.71 0.86

98.03 3.79 0.57 11.01 185.76

12.16 6.81 4.55

12.83 7.06 5.72 94.46 6.96 0.92 6.96 177.87

613.49 733.99 2,877.22 2,223.69 2,596.33

9,069.00 9,059.00

2011

518.45 605.38 2,469.40 1,783.60 2,208.72

8,978.00 9,021.26

2010

116.40

4,316.68 3,861.68 4,078.36

2,095.69 662.00 6.11

15.40 2.97 12.43 15.58 3.71 11.88 (0.18)

116.50

4,274.18 3,011.27 3,331.35

2,367.93 699.90 5.72

16.97 3.41 13.56 15.46 4.22 11.23 1.51

109.82 8.08 0.45 8.08 121.52

12.12 7.61 6.03

11.49 5.76 4.19 101.61 4.30 0.43 15.06 192.06

821.68 887.06 3,727.70 3,322.68 3,330

12,224.00 12,023.00

2013

704.84 841.70 3,304.65 2,738.05 2,942.55

9,658.00 9,634.00

2012

116.70

4,418.76 2,952.32 4,153.35

14.47 2.50 11.97 14.92 3.55 11.37 (0.44)

110.99 8.22 1.07 1.07 124.17

12.23 7.95 5.89

781.50 842.67 3,649.27 3,287.39 3,272

12,213.00 12,099.00

Jan

Mar

116.20

4,620.22 3,579.68 4,795.29

14.63 2.73 11.90 13.79 3.46 10.33 0.84

111.28 7.75 0.26 1.33 124.89

12.33 8.03 5.86

755.17 834.53 3,639.49 3,296.10 3,275

118.20

4,768.28 4,410.18 5,952.82

2,404.04 706.67 5.22

15.19 2.64 12.55 14.52 3.99 10.53 0.67

111.37 7.32 0.08 1.41 125.70

12.37 8.28 5.88

771.36 853.49 3,656.44 3,334.92 3,283

11,615.00 11,400.00 11,921.00 11,428.00

Feb

May

2014 Jun

Jul

Aug

Sep

113.90

4,840.15 3,895.67 5,714.42

14.29 26.35 11.64 16.26 3.69 12.56 (1.96)

111.35 7.25 (0.02) 1.39 126.42

12.38 8.34 5.84

778.58 880.46 3,725.94 3,386.45 3,357

116.90

4,893.91 3,498.73 5,174.81

14.83 2.38 12.45 14.77 3.71 11.06 0.06

111.53 7.32 0.16 1.56 125.67

12.63 8.90 5.85

116.30

4,878.58 2,849.74 3,638.93

2,483.84 724.13 5.12

15.41 2.79 12.62 15.70 3.39 12.30 (0.29)

112.01 6.70 0.43 1.99 126.62

12.63 8.34 5.85

788.72 794.79 906.75 945.78 3,784.86 3,861.66 3,428.36 3,493.47 3,408 3,483

119.80

5,088.80 4,353.82 5,455.92

14.18 2.50 11.67 14.08 4.17 9.81 0.10

113.05 4.53 0.93 2.94 128.13

12.70 9.19 5.87

892.15 918.53 3,891.43 3,516.73 3,442

120.20

5,136.86 3,668.56 4,313.15

14.48 2.60 11.88 14.79 3.40 11.39 (0.32)

113.58 3.99 0.47 3.42 128.34

12.54 8.68 6.55

823.34 895.83 3,887.55 3,527.00 3,495

119.80

5,137.58 3,657.27 4,258.52

2,619.87 745.58 5.01

15.28 2.62 12.65 15.55 3.65 11.89 (0.27)

113.89 4.53 0.27 3.71 128.87

12.57 8.90 5.84

816.64 949.17 4,009.86 3,590.30 3,614

11,562.00 11,675.00 11,855.00 11,578.00 11,705.00 12,195.00 11,430.00 11,536.00 11,897.00 11,679.00 11,712.00 11,900.00

Apr

Indonesia Update December 2014

Disclaimer: This material is for information only, and we are not soliciting any action based upon it. This report is not to be construed as an offer to sell or the solicitation of an offer to buy any security in any jurisdiction where such an offer or solicitation would be illegal. The information herein has been obtained from sources believed to be reliable, but we do not warrant that it is accurate or complete, and it should not be relied upon as such. Opinion expressed is our current opinion as of the date appearing on this material only, and subject to change without notice. It is intended for the use by recipient only and may not be reproduced or copied/photocopied or duplicated or made available in any form, by any means, or redistributed to others without written permission of PT Bank Mandiri Tbk. Additional information is available upon request. For further information please contact: Office of Chief Economist, Ph. (021) 524 5516/5272 or Facs. (021) 521 0430.

Indonesia Update December 2014

Our Team Strategic Research (Mandiri Institute) Destry Damayanti

Executive Director, Mandiri Institute

Moekti P. Soejachmoen

Head of Strategic Research

Andjarsari Paramaditha

Senior Manager

Andrian B. Santoso

Manager

Elisabeth Carolina

Manager

Macroeconomic and Financial Market Research Andry Asmoro

Head of Macroeconomic and Financial Market Research

Reny Eka Putri

Quantitative Analyst

Nurul Y. Karunia

Junior Economist

Rully A. Wisnubroto

Financial Market Analyst

Industry and Regional Research F. Rino Bernando

Head of Industry and Regional Research

M. Ajie Maulendra

Senior Industry Analyst

Nadia K. Dewi

Industry Analyst

Sindi Paramita

Industry Analyst

Adjie Harisandi

Industry Analyst

Mamay Sukaesih

Regional Analyst

Araminta Setyawati

Regional Analyst

Data and Administration Support Fitri Yunita

Section Head

Andhi P. Hadi

Clerk Data Support and Administrative

Adhiguna Wahyu Nugroho

Clerk Data Support and Administrative

Marsella A. Ariwandi

Secretary

Email Office of Chief Economist [email protected]

Office of Chief Economist | Page 63

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