Ari Kuncoro: Momentum of Economic Expectations and Prospects for 2020
Several domestic and foreign institutions predict Indonesia’s economic growth for 2020 to be around 5 percent per year with a slight variation on it.
In line with the concept of endogenous growth in terms of aggregate demand — while export performance is still depressed — consumption and investment will still be the main sources of growth for the Indonesian economy in 2020.
Thus, the behavior and the cycle of spending and investment are important to predict the future direction of the economy. Government spending can still affect the consumption and investment cycle, either through a multiplier process, regulation or deregulation, and the effect of notification of a new policy direction (announcement effect).
Without factors of concern about recession and trade wars, political years usually have minimal impact on these economic variables. However, with the progress of information technology as it is now in forming expectations, negative news is usually more easily accepted and will last in memory for quite a long time. Meanwhile, good news requires several verification times.
Thus, the behavior and the cycle of spending and investment becomes important to predict the future direction of the economy.
Information Environment
Last 2019 was a year full of challenges. There are four storm systems which, if united, have the potential to create a perfect storm for Indonesia.
First is the potential for recession in the US which is marked by the emergence of higher short-term interest rates compared to long-term interest rates (inverted yield curve). Second, the US-China trade war which slowed world growth.
Third, the political year in Indonesia where there is a huge feast of presidential elections. Kempat, disruption of technology that has the potential to eliminate some work that is manual, routine and repetitive so that it can be replaced by automation.
This last thing makes people more worried about the prospect of getting job opportunities in the future and has an impact on the shopping cycle so that it can affect economic growth.
However, compared to other countries, a combination of prudent macroeconomic policies, a large population and also little luck from portfolio capital inflows as a result of uncertainty in the US and European Union, keeps Indonesia achieving growth of around 5 percent per year.
Some have dared to state that the emergence of inverted yield curves several times in 2019 is only a false alarm. This is mainly supported by data on the labor market in the US which still shows increased employment opportunities despite a massive strike at the General Motor automotive company.
US economic growth is also not as pessimistic as originally described. After declining from 3.1 percent in quarter I-2019 to 2.0 percent in quarter II, the growth rate edged up to 2.1 percent in quarter III. Far from being a sign of recession, a decline in growth in two consecutive quarters.
Fresh air also began to blow in mid-December 2019, when it was reported that the US-China had agreed to the first phase of a peaceful trade. It seems that this makes the IMF a little more optimistic for 2020 with 3.4 percent growth and not 3.0 percent as in 2019, although it is possible that recovery will only occur in a few regions.
Employment and economic behavior
In 2019, the Consumer Confidence Index (IKK) published by Bank Indonesia (BI) reached the highest score in May 2019 when the presidential election ended. A score of 128.2 is the highest since 2012, the last year of the commodity bonanza.
Looking back, since January 2019, the value of this index has increased closer to the presidential election in April 2019. This index has begun to decline along with the filing of the presidential dispute to the Constitutional Court to reach its lowest point in October 2019 with a score of 118.4.
Accordingly, consumption growth declined from 5.05 percent year on year (yoy) in quarter II-2019 to 5.02 percent in quarter III. In November community expectations began to improve with the IKK value of 124.2. This gives a signal that the growth in public consumption will improve.
The question arises, is the successive decline in the CCI from May to October solely due to negative expectations stemming from information about recession, trade war and the 2019 presidential election residues or other factors? IKK is only one component that is used to monitor consumer confidence.
In addition there is also the current economic condition index (IKE) and the consumer expectations index (CEI). One of the highlights is the employment availability index as part of IKE. Technology disruption has the potential to replace human labor with automation especially for repetitive jobs (McKinsey, 2018).
In 2019, the Consumer Confidence Index (IKK) published by Bank Indonesia (BI) reached the highest score in May 2019 when the presidential election ended.
Fear of losing job (job security) leads to endogenous expectations which help explain why information overload can lead to changes in consumption behavior that become a successive effect adding to slowing consumption expenditure.
Based on the category of education level, high school and diploma graduates tend to be pessimistic about the availability of employment for most of 2019. While bachelor graduates have a more positive view of the availability of employment.
In terms of expenditure categories, all age groups remain pessimistic until the latest data in November 2019. However, for almost all age or education categories, the outlook for job availability in six months is optimistic.
However, paying more attention to current hot news, especially with the increasingly widespread communication through social media, including WhatsApp groups. It may be that the news about the roaming of cobra children in parts of Jakarta is more interesting than the first phase of US-China trade peace news that has an opportunity to improve employment in 2020.
In the long run, the relationship between marginal propensity to consume (MPC) tends to be stable. However, fluctuations in the proportion of income spent in the short term are crucial for short-term economic growth.
Based on the category of education level, high school graduates and diplomas tend to be pessimistic about the availability of employment for most of 2019.
For this reason, the proportion of savings to income (marginal propensity to save / MPS) as opposed to MPC can be used as an indicator. The MPS group has a monthly expenditure of up to Rp. 3 million, around 18 percent, while for the expenditure group above it is 20 percent. The smaller the MPS, the greater the impact on purchasing power circulation through the multiplier process.
Until October 2019 there was an increase in MPS to an average of 19.3 percent for groups spending up to Rp 3 million. Meanwhile, groups with higher expenditure experienced an increase in MPS to 20 percent. Both of them also explained the slowdown in consumption growth in quarter III-2019.
The good news, although the employment availability index is still in the pessimistic zone, November 2019 recorded a new spending cycle with a reduction in MPS for all income groups to an average of 18.5 percent. This decline was accompanied by improved prospects for purchasing durable goods such as electronics and household furniture.
After reaching the lowest pessimistic index in October 2019, the desire to buy durable goods began to recover in November 2019, almost to the level of February, two months before the presidential election. The improvement in this sentiment can be a momentum for the first quarter of 2020, although it is estimated that economic growth in 2020 will not exceed 5.3 percent.
Sectors that are expected to remain under pressure are agriculture, mining, property and the manufacturing industry with growth below 5 percent. While sectors that continue to grow above the average national economic growth are wholesale and retail trade, transportation and warehousing, provision of accommodation and food and drink, information and communication, education and health services.
Investment behavior has also led to endogenous expectations that are interlocking especially after 2000. Investment follows economic prospects, such as an unbroken circle, whichever comes first, chicken or egg. Growth requires investment, but investment only happens if the economic outlook is good enough.
Investment behavior has also led to endogenous expectations that are interlocking especially after 2000.
A recent example, a decline in consumption growth from 5.17 to 5.02 percent in quarter III-2019, followed by a decrease in investment growth from 5.01 to 4.21 percent. The micro level picture shows that there is a slight improvement in investment in machinery and equipment following the improvement in the IKK.
If you look at patterns of purchasing durable goods that are improving at the end of the year it seems that investment can get a boost from this momentum. Nevertheless, to be able to obtain higher growth, regulatory breakthroughs are needed to solve the current investment behavior.
Simple calculations show that to achieve economic growth of 5.3-5.4 percent per year, investment growth is needed between 8 to 9 percent per year. This is a difficult business, considering that the highest growth in real investment since 2013 was 7.94 percent yoy, occurring in quarter III-2018.
The formation of expectations in Indonesia has changed from exogenous expectations to endogenous expectations, which are not always conducive to aspirations to grow more than 5 percent.
To maintain the momentum of economic growth requires the existence of dynamic exogenous factors such as new developments abroad, changing regulations that impede and interlock, changes in consumption / investment behavior, new policy directions from the government and technological changes.
Simple calculations show that to achieve economic growth of 5.3-5.4 percent per year, investment growth is needed between 8 to 9 percent per year.
The government can change expectations by making use of the noticeable effect of Indonesia.
Nevertheless, because the formation of people’s expectations in Indonesia is short-term and not too forward looking, the momentum of positive expectations needs to be maintained.
Several domestic and foreign institutions predict Indonesia’s economic growth for 2020 to be around 5 percent per year with a slight variation on it.
One of the policy implications is that, to shift the growth path to a higher trajectory, each new policy initiative is quickly followed by its derivative regulations, along with technical instructions, to take advantage of the upswing economic cycle towards the first and second quarters of 2020.
(Ari Kuncoro Chancellor of the University of Indonesia)