March 2014 Indonesia - Political Risk Outlook www.politicalmonitor.com.au
Country overview Indonesia is perhaps the most important but underestimated country in the South East Asia region. An archipelago of more than 17,000 islands, traversing the equator and three time zones, it is the region s largest economy with the world s fourth largest population. It is also critical to the world s geo-strategic outlook as a Muslim majority nation that has been embracing democracy and tolerance of other faiths. The main island of Java accounts for approximately half the country s population and is the centre of economic activity. Indonesia was formerly a Dutch colony and declared independence in 1945 while under the occupation of Japan. Following the Second World War the Dutch attempted to regain control but were unsuccessful and Indonesia s independence was internationally recognised in 1949. Indonesia s founding President Sukarno ruled in an increasingly autocratic manner until he was outmanoeuvred in 1967 by the head of his military, General Suharto, following a purge of Communist Party members that had left Sukarno weakened. Suharto s rule was also autocratic but brought great economic stability and growth over the next 30 years. His rule ended in 1998 when a confluence of the Asian financial crisis and increasing discord over corruption brought his downfall. Since then Indonesia has made steady progress towards becoming a fully-fledged democracy. Political leadership and parties Indonesia has a diverse political culture with multiple parties, many regionally based, competing for voter support. This diversity usually results in broad parliamentary representation requiring the cobbling
together of coalitions to implement a legislative agenda. The major political parties and their leaders are (as at January 2014): Democrat Party (PD) - President Susilo Bambang YUDHOYONO Functional Groups Party (GOLKAR) - Aburizal BAKRIE Great Indonesia Movement Party (GERINDRA) SUHARDI? Indonesia Democratic Party-Struggle (PDI-P) - MEGAWATI Sukarnoputri National Awakening Party (PKB) - Muhaiman ISKANDAR National Mandate Party (PAN)- Hatta RAJASA? People's Conscience Party (HANURA) - WIRANTO? Prosperous Justice Party (PKS) - Anis MATTA United Development Party (PPP) - Suryadharma ALI. The advent of personality politics within Indonesia has been another feature of the rise of multiple parties. For example, the Democrat Party was all but non-existent until Susilo Bambang Yudhoyono turned it into a vehicle for his electoral ambitions, which eventually resulted in him gaining the Presidency. However, with the constitution barring Yudhoyono from a third term the party s institutional weakness is highlighted by the absence of a viable candidate for the 2014 poll. Conversely, the Indonesia Democratic Party Struggle has been listless under the leadership of former President Megawati Skuarnoputri. However, the suggestion that popular Jakarta Governor Joko Widodo may be the party s candidate in the forthcoming presidential poll has breathed new life into the organisation.
Influential actors In the transition from dictatorship to democracy Indonesia s military has retained considerable influence, albeit behind the scenes. It continues to oversee a business empire reaching into most corners of Indonesian life and its place at the centre of the state s security apparatus ensures it maintains a discrete overview of most aspects of Indonesian society. Furthermore, its generals have made a habit of entering politics upon retirement from the armed services. Yudhoyono was himself an army general who entered politics upon retirement. The military s business interests are the matter of greatest concern for Indonesian civil society. It s reach and approach adds to concerns about corruption and its ability to take the law into its own hands reflects the institutional weakness at the heart of the Indonesian system of government. While a return to military rule is highly unlikely the armed services remain a powerful influence on Indonesia s political life. More broadly the central bank Bank Indonesia continues to grow in influence as the country becomes more enmeshed in the global economic and financial architecture such as through organisations like the Group of 20 (G20). Business groups are also emerging as powerful actors in their own right although much of the business culture continues to operate around longestablished relationships. Finally, Indonesia s political structure acts as a major influence on political outcomes. Indonesia has a highly decentralised system of government and fragmented political class. This allows political parties with only regional support to acquire national influence. The result is coalition governments at the federal level and constant friction between national and regional governments.
Trend analysis key issues over the last 12 months Over the last 12 months Indonesia has moved closer to election footing as the parliamentary and presidential elections of 2014 have drawn near. President Yudhoyono has emerged as a lame duck president as his governing coalition has been engulfed by corruption scandals and infighting over his replacement. His failure to establish an heir apparent has also rendered him increasingly impotent in the election campaign that will determine Indonesia s trajectory over the next five years. Furthermore, his growing political isolation has limited his capacity to address key issues confronting the Indonesian polity. In particular, earlier hopes for comprehensive resolution of a number of long running separatist conflicts have not come to pass and these regional conflicts fuel much of the minor party support in the outlying regions. This failure to act has also limited his capacity to tackle endemic corruption, which is a primary issue of concern for the electorate and a contributor to the rise of Joko Widodo from the Indonesia Democratic Party- Struggle.Indonesia ranks above the international median on Transparency International s global corruption index and tacking this problem was a key tenant of the Yudhoyono platform, the failure of which has added to his increasing political impotence. The forthcoming election is driving a rise in economic nationalism with the government recently confirming a previously announced decision to ban the export of unprocessed minerals, which seeks to create upstream processing jobs but is likely to result in foreign capital flight. Nationalism is also a contributing factor to the increasing hostile nature of its relationship with Australia.
Impact of politics on key financial indicators The Indonesian Rupiah has depreciated around 20% against the US dollar since the middle of last year despite improving over recent months. Indonesia's central bank has continued to raise interest rates over the last two years in order to stem an outflow of capital. Indonesia's Gini has risen over 25% in recent years signalling growing inequality.
Security outlook Indonesia s security risks stem largely from domestic, rather than foreign, threats. While the domestic threats can be broadly defined as terrorism there are two distinct streams of terrorist activity and / or groupings. One threat derives from secessionist movements, particularly in Aceh and West Papua, with violence flaring intermittently but on an increasingly regular basis. A second threat derives from religious extremists. Most prominent is Islamist attacks on Christians; however, there have also been reports of reprisals and the involvement of other religious groups. While religion is at the forefront of these disputes there are underlying issues of inequality and economic isolation that have allowed extremist groups to successfully recruit new adherents to their cause. Some analysts also cite the absence of a forceful response by government as a mitigating factor. Government failures to respond robustly to acts of religious extremism, address structural issues of economic inequality and enforce effective management and oversight of education facilities have arguably contributed to a rise in the success of recruitment efforts by extremists. Economic inequality and political
isolation are also cited as core issues in separatist campaigns. More broadly, Indonesia is increasing its military expenditures with plans to become the largest spender in the South East Asia region. This increased expenditure is broadly welcomed, as Indonesian military budgets have been relatively low compared to the rest of the region. Risk outlook For over a decade Indonesia s strong economy growing at circa 6% per annum for several years had allowed the political class to gloss over underlying problems of corruption, cronyism and the impact of state subsidies on government finances. However, with the economy slowing and inflation rising these tensions are beginning to bubble to the top igniting public discord. This potential for public discord combined with an emerging lame duck presidency has stifled further political reform and effectively left it politically rudderless until the outcome of the presidential election is known. Not only does this put at risk recent years of relative social harmony but it also creates a leadership vacuum that more extreme political and religious groups may seek to exploit. Indonesia s rising levels of inequality will only add to the risk of social discord and unrest. Youth unemployment and corruption levels above the international median present as core challenges. Indonesia s softening economy is already fuelling underlying protectionist tendancies. Last year the government announced requirements for foreign miners to sell at least 51 per cent of their Indonesian operations to locals after ten years of operation. That followed a decision in late 2012 to impose a 20% tarrif on imports of wheat flour and the exploration of policies to limit tea imports, which currently attract no duty fees.
Mineral exports have also been subject to political risk with a government ruling in the first half of 2012 limiting the export of minerals considered essential to the Indonesian economy. This decision has added to the risk of social discord with mining companies terminating more than 200,000 workers sine the decision. The Government has recently affirmed that policy. The banking sector is another industry confronted by political change with proposals to limit foreign ownership to around 50%. Of most concern to investors is that many of these recent decisions have been made with little or no consultation. As a result there are heightened concerns about political risk in Indonesia. Domestic threats continue to weigh on Indonesia s internal stability and firms should monitor closely the extent of extremist activity, particularly in regional areas. Extremism may increase as the economy shows signs of slowing. Overall, political risk in Indonesia is rising and it is recommended investors increase their monitoring of the Indonesian political environment. For more information on risk in Asia read the Political Monitor Asia Political Risk Index.