YEARLY O U TLOOK

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D AN A R E K S A R E S E A R C H

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Ri/982/yo/2010

January 2010

YEARLY OUTLOOK

Toward Faster Growth!

DRI Forecast on 2010 GDP Growth (%YoY) Inflation (%YoY) SBI 1M (%p.a.) IDR/US$ (end of period) (average) 6.0 6.0 6.5 9,649 9,556

The outlook for the global economy is brighter in 2010. This should have a positive impact on the Indonesian economy. The Indonesian economy reached the lowest point of its downturn in February 2009 and since March 2009 has entered an expansionary phase. This expansion could last several years. Note that in the last business cycle, the Indonesian economy expanded for around seven years. We believe the Indonesian economy will grow faster in 2010, with a more balanced engine of growth:
Exports will grow in double digits Housing purchasing power will remain intact

PURBAYA YUDHI SADEWA, Ph.D. Head of Economic Research (62-21) 350 9777 ext 3600 yudhi@danareksa.com DAMHURI NASUTION Senior Econometrician (62-21) 3509777 ext 3602 damhuri@danareksa.com ASTI SUWARNI Economist asti@danareksa.com BRAMANIAN SURENDRO Economist ext.3605 bramanian@danareksa.com HANDRI THIONO Junior Economist handrit@danareksa.com

Interest rates are expected to stay at a low level. Strong demand shall eventually lead to brisker investment

activity.

(62-21) 350 9777 ext 3608 ext.3606

www.danareksa-research.com

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Contents
I. 2009 Economic Review
1.1 GDP ....................................................................................................................... 3 1.2 Inflation .................................................................................................................. 6 1.3 Exchange Rate ........................................................................................................ 6 1.4 Interest Rates .......................................................................................................... 7

II. Outlook for 2010

2.1 Forecast on Some Macro Economic Variables For 2010 ................................................. 8 2.2 Inflation .................................................................................................................. 8 2.3 Interest Rates .......................................................................................................... 9 2.4 Rupiah.................................................................................................................. 10 2.5 GDP Growth .......................................................................................................... 12 2.5.1 Household Spending ....................................................................................... 16 2.5.2 Government Spending .................................................................................... 17 2.5.3 Investment .................................................................................................... 19 2.5.4 Exports .......................................................................................................... 20

III. GDP Growth by Sector

3.1 Agriculture Sector .................................................................................................. 23 3.2 Mining and Quarrying Sector ................................................................................... 25 3.3 Manufacturing Sector ............................................................................................. 27 3.4 Construction Sector ................................................................................................ 29 3.5 Trade, Hotel & Restaurants Sector ............................................................................ 31 3.6 Transportation and Communication Sector ................................................................ 33 3.7 Finance, Leasing and Business Services Sector ........................................................... 34 3.8 Services Sector ...................................................................................................... 36

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1.2. Inflation: At a Very Low Level

Relatively stable commodity prices on the international markets have exerted downward pressures on domestic inflation since the beginning of 2009. Please note that back in mid-2008, oil prices rose to as high as US$ 145/ barrel, forcing the Indonesian government to hike domestic subsidized fuel prices. In the second half of 2008, however, oil prices started to fall sharply. And in December 2008 the oil price had fallen to as low as US$32.9/barrel. This gave room to the Indonesian government to lower domestic subsidized fuel prices twice in December 2008 and once in January 2009. As a result, Indonesia experienced deflation of 0.07 percent MoM in January 2009.

GRAPH 4. LOW COMMODITY/OIL PRICES LED TO LOW DOMESTIC INFLATIONARY PRESSURE

US$/BBL 100 80.11 75

50

34.03 25 Dec-08 Mar-09 Jun-09 Sep-09 Dec-09

Source : Bloomberg

The prices of oil and commodities on international

GRAPH 5. LOW INFLATIONARY ENVIRONMENT IN 2009 markets remained at relatively low levels in 2009. Hence, %YoY Inflation inflationary was benign in 2009. The year-on-year 14 %MoM Inflation (RHS) inflation rate was in a downward trend in 2009: from 9.13 percent in January 2009, the year-on-year inflation rate had fallen to 3.65 percent by June 2009 and 2.78 percent by the end of 2009 (graph 5).
12 10 8 6 4 2 2.41 11.06 %YoY Inflation

3.0 2.5 2.0 1.5 1.0 0.5 0.0 -0.5

1.3. Exchange Rate (Rp/US$): Strengthening Significantly

0 Jan-08 Apr-08 Jul-08 Oct-08 Jan-09 Apr-09 Jul-09 Oct-09

Source : Biro Pusat Statistik

The rupiah was weak in the first three months of 2009, hovering at above Rp11,200/US dollar (graph 6). This weakness owed principally to the global economic downturn that created negative sentiment toward currencies in the SE Asian region, especially the Indonesian rupiah (note that the rupiah has a history of performing poorly when speculative attacks hit currencies in the region).
8500 7500

GRAPH 6. T HE RUPIAH GAINED GROUND IN 2009

12500 11500 10500 9500 9090 9083 9318 9153 9480 IDR/US$

10950

N-07

N-08

M-07

M-07

M-08

M-08

M-09

was in 1997/1998. Firm domestic demand, combined

with appropriate monetary and fiscal policy responses Source : CEIC (low interest rates and additional fiscal stimuli) managed to prevent the Indonesian economy from falling into a deep recession. Thus, the Indonesian economy managed

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This time around, however, the situation was not like it

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to grow in the first quarter of 2009 and confidence in the rupiah was eventually restored. In addition, investors came to realize that the Fed had pumped a significant amount of money into the US financial system to stave off a long and deep recession. Against this backdrop, the rupiah slowly strengthened against the US dollar.

The rupiah started its strengthening trend in April 2009 and it appreciated to around Rp10,700 /dollar in that month. In the coming months, it continued to strengthen and by July the rupiah had broken down through the psychologically significant Rp10,000/dollar level. And by December 2009, the rupiah was traded below Rp9,500/ dollar.

1.4. Interest Rate (Rp/US$): Steady at an Historic Low

On the back of the slowing economy the central bank opted to cut rates in December 2008 by 25 bps to 9.25 percent. And in the following months, rates were cut further. Providing room to the central bank to cut rates were two factors: 1) the benign outlook for inflation and 2) the fact that many other central banks in other countries had already been cutting interest rates aggressively.
12500 11500 10500 8.75 11355

GRAPH 7. BI RATE AT AN HISTORIC LOW

10 9 8 9681 9500 8500 7500 J-09 F-09 M-09 A-09 M-09 J-09 J-09 A-09 S-09 O-09 N-09 D-09 BI RATE IDR/US$ 9485 6.5 7 6 5

By August 2009, the BI rate had fallen to an historic low of 6.5 percent, or down from 9.5 percent in November 2008. The low inflationary environment allowed the central bank to maintain its benchmark rate at its historic low for the rest of 2009.

Source : Bank Indonesia

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II. Outlook for 2010

2.1. Forecasts for Some Macro Economic Variables
TABLE 2. INDONESIAS KEY ECONOMIC INDICATORS, HISTORIC & FORECASTS
INDICATORS National Account Gross Domestic Product, (YoY Growth) Household Consumption, (YoY Growth) Gross Fixed Investment, (YoY Growth) Manufacturing Production, (YoY Growth) Consumer Price Index Inflation rate, e.p. Inflation rate, sum of %MoM Monetary Aggregates Money Supply, M2 (% YoY), e.p. Money Supply, M2, sum of %MoM Balance of Payments Non-Oil and Gas Exports Total Merchandise Exports Total Merchandise Imports Trade Balance Current Account Balance Interest Rate 3-month Deposit, e.p. 3-month Deposit Rate, Avg. BI Rate, %, e.p. BI Rate, %, Avg. Lending Rate: working capital, %, e.p. Lending Rate: working capital, %, Avg. Exchange Rate Exchange rate, e.p. Exchange rate, Avg.
Source: Danareksa Research Institute

UNITS % % % % % % % % US$bn US$bn US$bn US$bn US$bn % % % % % % IDR/US$ IDR/US$

2005 5.7 4.0 10.8 4.6 17.1 16.2 16.4 15.4 66.8 87.0 69.5 17.5 3.0 11.8 8.1 12.8 9.2 16.2 14.1 9,825 9,734

2006 5.5 3.2 2.9 4.6 6.6 6.4 14.9 14.0 80.6 103.5 73.9 29.7 10.9 9.7 11.4 9.8 11.8 15.1 16.0 9,020 9,134

2007 6.3 5.0 9.2 4.7 5.6 5.5 18.9 17.6 93.1 118.0 85.3 32.8 10.5 7.4 8.0 8.0 8.6 13.0 13.9 9,419 9,164

2008 6.1 5.3 11.7 3.7 11.1 10.6 14.6 14.0 107.9 139.6 116.7 22.9 0.1 11.2 8.5 9.3 8.7 15.2 13.6 10,950 9,753

2009F 4.7 4.8 4.3 2.2 2.7 2.7 11.3 10.8 99.3 119.3 88.4 30.9 9.8 7.0 9.2 6.5 7.1 14.0 14.5 9,445 10,360

2010F 6.0 5.0 12.0 3.9 6.0 5.9 15.8 14.8 111.3 135.8 103.4 32.4 8.7 6.2 6.2 6.5 6.5 13.4 13.7 9,649 9,556

2011F 6.4 4.6 11.8 4.2 6.2 6.0 16.5 15.4 132.4 159.2 124.8 34.3 7.6 6.2 6.3 6.5 6.6 12.3 12.9 9,795 9,737

2.2. Inflation: To Remain Benign!

Thanks to relatively stable global commodity prices, inflationary pressures remained subdued in 2009. And by December 2009, the year-on-year inflation rate only reached 2.78 percent, its lowest level in the last few years.
131 121 111 101 91 81 71 61 58.08 51 41

GRAPH 8. OIL PRICE FORECAST

West Texas Intermediate US$/BBL 123.95 97.94 90.75 75.46 64.97 58.35 78.00 79.67 76.90 75.67 68.20 81.33 59.48 42.90 118.05

Global oil prices are expected to remain fairly stable in 2010. After peaking in mid-2008, prices are likely to remain at relatively low levels for the foreseeable future. Past data suggests that oil prices stay subdued for several

1st 2nd 3rd 4th 1st 2nd 3rd 4th 1st 2nd 3rd 4th 1st 2nd 3rd 4th 2010

2007 2008 2009 years after a bubble bursts. Hence, the chances of the oil Source: US Energy Information Administration price surging back up again above the US$100/barrel

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level in 2010 - and staying there - are very remote. Moreover, say some experts, the supply of oil globally is currently sufficient to meet the expected increase in demand coming from a recovery in the global economy to its normal growth pace in 2010. For its part, the US energy Information Administration is predicting an oil price of around US$70 to US$80/barrel in 2010.

2.3. Interest Rates: To Stay at Historic Lows

On the back of low inflationary pressures, the Indonesian central bank was able to lower its benchmark rate to an historic low of 6.5% in 2009.

As such, the Indonesian government should be able to avoid having to hike the prices of subsidized fuel in 2010. The Indonesian government has decided not to hike electricity tariffs in 2010. This should help mitigate inflationary pressures. As such, supply side inflation (inflation caused by rising production costs) should not pose a major threat in 2010.

Going forward, we expect the central bank to maintain its benchmark rate at its current historic low. Inflation should not be a major concern for the central bank as it is expected to stay below 5 percent in the first half of 2010. In the second half of the year, however, inflation may tick up a bit due to higher commodity prices (on the back of higher demand). By the end of 2010, inflation is expected to rise to around 6 percent.

Hence, with inflation expected to remain benign, the central bank should be able to maintain its benchmark rate at 6.5% for the whole of 2010. Please note that the central bank usually maintains interest rates (the BI rate) in the range of 1-1.5 percent above the inflation rate. So, with inflation expected to edge up to around 6 percent only toward the end of 2010, BI should have time to wait for more convincing evidence of any emerging inflationary pick-up before increasing its benchmark interest rate. For 2010, the central bank is forecasting inflation of around 5 plus-minus 1 percent.

Furthermore, given the high correlation between the prices of crude oil and food commodities, we believe that the prices of food commodities should remain relatively benign for the whole of 2010. Hence, inflation in the food component should also be low.

Against this backdrop, we expect the year-on-year inflation rate to remain in single digits in 2010. Nevertheless, we do not expect inflation to be as low as it was in 2009 (it is extremely unlikely that fuel prices will be cut this year).

Hence, inflation is expected to converge to its long-run trend of around 6.0% in 2010.
3.0

GRAPH 9. T HE BI RATE IS EXPECTED

MoM, % 2.5 2.0 1.5 1.0 0.5 0.0 -0.5

TO

STAY AT ITS HISTORIC LOW

12.7 YoY, % BI Rate 11.2 9.7 8.2 6.7 5.2 3.7 2.2

Nov-08

Nov-09

Mar-08

Mar-09

Mar-10

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Source : Danareksa Research Institute

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2.4. Rupiah: Weakening Toward the End of the Year

GRAPH 10. G LOBAL INTEREST RATES ARE CURRENTLY AT LOW LEVELS

percent 7 FFR ECB BOJ 6 5 4 3 2 1 0 2004 2005 2006 2007 2008 2009 1 0.3 0.25

The US economy has been in recession since December 2007. In order to prevent a prolonged recession, the Fed started to cut its benchmark rate in September 2007. And by the end of 2008, the Fed Funds rate had been cut to the range of 0 25 basis points. The expectation of low inflation allowed the Fed to cut interest rates to such a low level. However, there are some indications that the

2001 2002 2003 US economy is now bottoming out and is poised to post Source : Bloomberg brisker growth going forward. Nevertheless, it is currently

too early to say that the recovery is sustainable. To support the economic recovery, the Fed is likely to maintain its economic stimulus, we believe; that is, the Fed Funds rate is expected to remain in the range of 0 25 basis points for most of 2010.
YoY% 21 Recession Period 18

GRAPH 11. FAST MONEY GROWTH SHALL EVENTUALLY LEAD TO A WEAK D OLLAR
Index 119

If, however, the US economic recovery proves to be sustainable, then there is a greater chance that the Fed hikes rates toward the end of the year.

15 Money Supply - M1 (LHS) 12 9 6 3 USD Index (RHS)

108

97

86

In the first half of 2010 we expect the dollar to remain weak. Low interest rates in the US are a key factor.

0 -3 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 75

Another reason why we expect the dollar to remain weak Source : CEIC is that when global economic recovery takes place, investors tend to become less risk averse in holding assets other than dollar assets. This is attributable to lower perceived risks and higher expected returns. In short, the safe haven status of dollar assets tends to diminish when the global economy (and the US economy) is recovering. As such, the rupiah is expected to remain strong in the first half of 2010. And it is even possible that the rupiah strengthens to break through the Rp9,000/ dollar level.

This tendency of the dollar to weaken after a recession is evident in the 2001 US economic recession. During the recession, the dollar appreciated significantly against the rupiah. In 2002, the US economy entered an expansionary period, and from that year on the dollar lost ground against the rupiah (and against other currencies) (graph 11).

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Nevertheless, we do expect the rupiah to lose some ground in the second half of 2010. As the US economic recovery gains momentum, the likelihood of hikes in US interest rates increases. This expectation may trigger a rally in the dollar. Thus, we expect the rupiah to lose some ground relative to the US dollar in the second half of the year. The rupiah is expected to weaken to above 9,500/US dollar.

GRAPH 11.T HE RUPIAH IS UNDERVALUED

140

120

100

80

Indonesia Korea

Thailand Philippines O- J- A- J- O06 07 07 07 07

Singapore

60

But on average, the rupiah is likely to stay below 10,000/

J- A05 05

J- O- J- A- J05 05 06 06 06

J- A- J- O- J- A- J- O08 08 08 08 09 09 09 09

US dollar. Using January 2004 as a reference, it can be Source : CEIC seen that the rupiah is undervalued compared to other Asian currencies (graph 12). The currencies of our neighbors experienced significant appreciation in the period of March 2006-March 2008 while, in that time, the rupiah did not strengthen to below 9,000/US dollar. Hence, compared to other currencies in the region, the rupiah is undervalued. As such, we dont believe that any depreciation of the rupiah to above 10,000 to the dollar level is sustainable.

Against this backdrop, we expect the rupiah to appreciate against the dollar. The rupiah is expected to strengthen to around 9,649/US dollar by the end of 2009 (with the full year exchange rate average of around 9,757/US dollar).

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