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Insight: The 2016 government budget: A conservative play
President Joko ââJokowiââ Widodo on Friday unveiled the 2016 state budget proposal, which is conservative both in its profile and conservative assumptions for the key economic indicators
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resident Joko ''Jokowi'' Widodo on Friday unveiled the 2016 state budget proposal, which is conservative both in its profile and conservative assumptions for the key economic indicators. The lesson from the 2015 and the key message from the 2016 draft budget is that timely spending is more important than having an unrealistic set of targets.
The International Monetary Fund has projected global growth in 2016 to rise by 0.5 percent. The main driver will be the US (2.5 to 3 percent), Europe (1.5 to 1.7 percent) and Japan (0.8 to 1.2 percent). Emerging economies will also see a rise in gross domestic product (GDP) growth, except for China, which will slow down to 6.3 percent from 6.8 percent this year.
This will raise global trade, which will benefit Indonesia's export volume but not its price. This is because China is the main consumer of raw material and energy.
The 5.5 percent GDP growth assumption next year is realistic with some downside risk. The main growth driver will remain consumption, which will rise a realistic 5 percent. The 2.5 percent rise in exports also looks achievable. Meanwhile, the 7.3 percent rise in investments will entail extra effort on government spending. It will also need an improvement in the investment climate.
The inflation assumption of 4.7 percent will depend on the absence of an oil price shock, which is in line with market expectations. The upside risk will come from El Niño that will likely intensify toward the end of 2015 and into February 2016. Should domestic food prices rise, importation will not help much as the severe weather will likely affect most of Southeast Asia.
Currencies are the most difficult to project. and the rupiah is even more so. State investment company PT Danareksa views the rupiah, recently seen at 13,700 against the US dollar, as undervalued. The difference between the fundamental levels and actual levels reflects negative sentiment.
The rupiah along with other emerging market currencies will remain under pressure as long as the US Federal reserve has not raised its rates. In the past a rate hike is usually preceded by US dollar strengthening and then a decline. This will mean the rupiah has a chance to strengthen later this year.
Commodity exporters like Indonesia have seen their currencies depreciate more than other emerging economies.
Plus there is also the question about the delivery of government spending. The new government came in late last year with high expectations even in the face of surmounting global challenges. The market has had to adjust to the reality, an adjustment that has already been priced in.
The recent Cabinet reshuffle shows a strong desire to achieve policy coherence and from the new members' initial statements we see a chorus to tone down expectations.
Going forward, the financial market is expecting delivery on government projects and better coordination. This can reduce some of the negative sentiment within the financial market, particularly against the rupiah.
Raising total expenditure by only about 7 percent in 2016 does not represent a huge stimulus in its own right, especially against the backdrop of more than 10 percent nominal GDP growth next year. But if we look at the revenue estimates, this becomes reasonable.
Total revenues will grow only 4.9 percent, with domestic tax revenues rising only 5.8 percent. Non-tax revenues are also projected to rise only 4.2 percent.
Central government expenditure will rise by only around 1.5 percent. Meanwhile line ministries will see their budgets slashed and some of the rise in expenditure will go to increasing regional transfers. A significant increase will be in the form of funds for villages.
The bottom line is a rise of the budget deficit from 1.9 to 2.1 percent this year. This will result in a Rp 51 trillion extra bond issuance, which the market should be able to absorb without much difficulty.
Reduction in spending by line ministries will also apply to infrastructure. The public works and transportation ministries' budgets will be cut by a total of Rp 22 trillion, with funds to flow to the regions to the tune of Rp 38.4 trillion. There are two reasons for this: first is the huge amount of funds that will be carried over from the 2015 budget in those two ministries. Second, there is a mandated rise in village fund transfers. The government is also injecting Rp 11 trillion into infrastructure-related state companies.
There are two concerns with this approach: First, absorption capacity at the village-level may not be enough. Second, a village level development focus may not concern itself with developing links to other villages.
The government recently raised the non-taxed income level by an average of 48 percent. This should return Rp 14.5 trillion to the people's pockets. The extra village fund will also put money in the pockets of many people at the lower end of the income spectrum. If spent on public works projects, it can help absorb workers previously employed in the mining and plantation sectors.
Overall, our broad view of next year's budget is: This is a conservative budget. It also reflects lessons learned from the 2015 budget and it fits with the rhetoric from the new ministers: Stabilization is the priority in the short term.
At the same time spending implementation needs to accelerate and progress showcased. Aside from its growth impact, this will also raise confidence, which will in turn lead to private sector investment.
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The writer is the chief economist at PT Danareksa. The views expressed are his own.
