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Manufacturing in Indonesia: Key to Boost Export Performance

Wednesday, February 25, 2015 > 11:10:16
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(Indonesia Investments)

One of the key strategies to improve the economic fundamentals of Indonesia is to restructure and strengthen the country’s exports. This restructuring involves the transformation of Indonesian exports from being dominated by (raw) commodities to manufactured exports by developing downstream industries in Southeast Asia’s largest economy, including import substitution industrialization in order to curb the country’s demand for imported products amid Indonesians’ rising purchasing power.

The Indonesian government targets to raise the country’s export value to USD $458.8 billion in 2019 significantly up from USD $176 billion in 2014. The government calculated that USD $211.5 billion worth of investment is needed to achieve its export target in 2019.

As Indonesia currently lacks a well-developed manufacturing industry that produces value-added products, Indonesia needs to import various products to meet domestic demand (such as smartphones, machinery, and car spare parts). Furthermore, the country’s infrastructure and construction projects also require a high degree of imported material (such as steel). Together, and in combination with costly oil imports (Indonesia being a net oil importer after the country’s oil output has declined drastically over the past two decades), Indonesia’s trade balance has turned into a structural deficit thus placing additional pressures on the Indonesian rupiah exchange rate.

For Indonesia it is also a sensitive matter that the country runs trade deficits with its regional peers. The table below shows that Indonesia only has a positive trade balance with the Philippines but is plagued by deficits in its trade with Singapore, Malaysia, Thailand and Vietnam. These deficits indicate that Indonesia has a weak position in international trade. Knowing that by the year-end the ASEAN Economic Community (AEC) will come into effect - which aims to enhance regional economic integration by introducing a single market and production base characterized by a free flow of goods, services, and investments, as well as a freer flow of capital and skills - it is feared that Indonesia will be flooded by imported products. One of the problematic issues is that Indonesia is plagued by weak infrastructure which means that competitiveness of Indonesian companies is relatively low due to high logistics costs. Therefore it is sometimes cheaper to import foreign products than to transfer the same (domestically produced) product from one point to the other within the Archipelago.

Indonesia's Export-Import Performance with ASEAN members:



One key problem is that Indonesia’s manufacturing industry is weak and cannot meet domestic demand, thus necessitating imports. Currently manufactured products account for only 35 percent of the country’s total exports (the remainder being commodities). Suryo Bambang Sulisto, Chairman of the Indonesian Chamber of Commerce and Industry (Kadin), said that the government should attract investment in the manufacturing sector by providing incentives (for example cancelling export taxes) and by eliminating bureaucratic hurdles. Moreover, the Ministries of Trade and Industry should create policies that are more in tune with each other. Lastly, Sulisto emphasized that the government should provide a tax holiday for smelter development and power plants.

Ade Sudradjat, Chairman of the Indonesian Textile Association (API), said that the government needs to implement several strategic policies to improve the country’s export performance. These policies include the signing of free trade agreements with the European Union (EU) and Turkey. Currently, Indonesian products are hindered by 12-30 percent import duties in the EU, whereas countries such as Vietnam and Bangladesh can export products into the EU without such import duties. Sudradjat added that the Indonesian government should not let minimum wages rise too quickly as it makes businesses less competitive and in fact leads to businesses (shoe and textile manufacturers) being relocated to other countries where wages are more competitive. With the correct government policies, Sudradjat believes that Indonesia’s textile and textile products export can reach USD $40 billion by 2019, from USD $12 billion in 2014. However, the value of textile exports of Vietnam stood at USD $25 billion in 2014, more than double of the value of Indonesian textile exports, particularly due to supportive government policies.

According to data from the Indonesia Investment Coordinating Board (BKPM) foreign investment in Indonesia’s manufacturing industry declined 17.7 percent (y/y) from USD $15.8 billion in 2013 to USD $13 billion in 2014, partly due to the political year (as Indonesia organized legislative and presidential elections in 2014 which led to increased concerns about the country’s political stability) but also because Indonesia lacks free trade agreements with foreign investors’ export destinations, making products less competitive. Furthermore, foreign investors have been concerned about legal certainty in Southeast Asia’s largest economy.



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