Finance minister: Meeting notes

We recently attended a meeting with the finance minister to listen to the current government's moves regarding the Indonesian economy as reflected in the proposed 2010 revised budget.

As widely reported, the government is proposing to revise the 2010 budget (RAPBN-P) in order to adjust for current economic conditions. While most of the macroeconomic assumptions such as the inflation rate, exchange rate and the average 3-month SBI rate would be revised, the government is likely maintain its 2010 GDP growth rate estimate at 5 percent, more bearish than BI's estimate of up to 6 percent, but more optimistic than our moderate growth figure of 5.2 percent.

Some important points were raised during the meeting and we apply our own analysis to the impacts on current economic indicators.

The government revealed that electricity tariffs would be raised by 15 percent starting July 2010 on the back of higher oil price assumptions and an increased margin for PLN (the state-owned electricity company) from 5 to 8 percent. The new electricity tariffs would automatically apply to more than 6,600VA capacity users consuming electricity at more than 50 percent of the 2009 national average for households, businesses and public customers. It is worth noting that this proposal still needs to be approved by the House of Representatives.

Potentially, we expect 0.5 percent higher inflation from the electricity tariff increase (if approved by the House), raising our inflation target this year to 6.1 percent up from the current 5.6 percent. Currently, the government has raised the inflation target closer to ours at 5.7 percent up from 5 percent previously.

However, if not approved, there could potentially be Rp 6.8 trillion in additional electricity subsidies to be used by government for other purposes. The government had initially proposed a 20 to 30 percent electricity tariff increase last year to be implemented at the beginning of 2010. But then, the plan was cancelled due to unfavorable political conditions coupled with the uncertain global economic recovery.

In the 2010 revised budget (RAPBN-P), the government's Rp 16.7 trillion plan to increase the electricity subsidy to Rp 54.5 trillion is the second largest subsidy increment after the oil subsidy, using an oil price assumption of US$77/bbl, compared to the year-to-date average world oil price of US$78/bbl. On oil price elasticity, the government estimates that every US$1 per barrel increase in oil price would lower the budget deficit by Rp 0.3 trillion.

Additionally, it is worth noting that the budget deficit figure is also affected by domestic subsidized oil consumption as well as daily oil lifting. The government also estimates that every 0.5 million kiloliters increase in oil consumption would result in Rp 1.5 trillion of additional budget deficit while every 10,000 barrel per day drop in oil lifting would raise the budget deficit by Rp 3.3 trillion.

However, in the past, the government's assumptions on oil lifting have been rather accurate, deviating lower by just 0.04 million barrels per day average since 2006. Thus, assuming a 2010 average oil price of USD80-85/bbl, the potential negative impact on the budget deficit would be minimal in our view.

At this stage, we also expect relatively subdued global oil price movements to have a lower impact on inflation this year. On the budget, the government is looking to raise the budget deficit from 1.6 to 2.1 percent of GDP amounting to Rp 129.8 trillion, up Rp 31.8 trillion from previously. This will be mostly financed by the 2009 budget surplus of Rp 38.3 trillion while the government's net bond issuance would only increase Rp 1.8 trillion.

Thus, going forward, the government's plan to keep the current bond issuance target or maintain the bond supply should support the bond market. Additional support should also stem from continued positive foreign inflows, which have risen Rp 7 trillion to Rp 127.8 trillion as of 12th March compared to February's last position, helped by an improved Standard & Poor's rating on Indonesia's sovereign bonds and a stable Fed rate of 0.25 percent.