Indonesia throws its weight behind FDI

Fitch Ratings, one of three big credit rating agencies, issued a report in December 2017 upgrading Indonesia’s long-term foreign- and local-currency issuer default ratings. One Fitch statement supporting the agency’s ratings shift sent a message to foreign investors: “Accelerating growth is supported by the global pick-up in trade, stabilising commodity prices and rising investment (on the back of rising public infrastructure spending, lower borrowing costs and structural reform implementation).”

Fitch also had words of caution: “The government’s revenue intake is very low (particularly due to structurally weak tax revenue realisation). Among Fitch-rated sovereigns, only four countries have lower government revenue as a percentage of GDP. This undermines the ability of the government to invest in infrastructure projects, hence increase the reliance on state-owned enterprises [SOEs] to address the large infrastructure deficit.” 

Getting behind FDI

After years of talking about it, Indonesia’s government is trying to support the flow of FDI into the infrastructure sector. One important example of this effort is the Indonesian Infrastructure Guarantee Fund (IIGF), a state-owned enterprise established by the ministry of finance. As one of the government’s fiscal tools, IIGF is under direct supervision of the ministry and has a mandate to provide guarantees for infrastructure projects that fall within the approved Public Private Partnership (PPP) framework. IIGF is one part of the government’s larger efforts to accelerate infrastructure development, providing contingency supports and guarantees for the risks caused by the government’s actions, or inactions, which hurt the economic feasibility of the PPP.

“It is important for the government to keep up its good work in recent years,” said Fitch in its statement. “The government’s reform drive is improving a still-challenging business environment in Indonesia. Deregulation has sharply improved Indonesia’s position in the World Bank’s Ease of Doing Business ranking. In the latest edition Indonesia ranked 72nd (out of 190 countries), a rise of 37 places in two years. The improving investment and business climate of Indonesia contribute to stronger external finances, with foreign direct investment [FDI] picking up in recent quarters. In fact, Fitch Ratings expects net FDI to cover the country’s current account deficit over the next few years.”

Guarantee of quality

Guarantees can be provided for financial obligations made by Contracting Agencies (CA). These are the government’s representative or partner inside the PPP. CAs can be a ministry, another type of government institution, a local government, a state-owned enterprise or a local government-owned enterprise. The CA is responsible for providing infrastructure. Guarantees are triggered by the risk events allocated to the CA in the PPP agreement, provided the financial obligation can be quantified or there is a compensation formula stated in the PPP agreement. Some examples of the financial obligations that can be covered by infrastructure guarantee are the ones caused by the delay in obtaining permit/licence, change in regulation, absence of tariff adjustment and failure in integrating the network/facilities.

Indonesia’s efforts to establish a market for PPPs in infrastructure received an important shot in the arm when the World Bank’s board approved a project to support the IIGF. The bank’s project aims to enhance the capacity of government CAs to prepare PPPs. The project offers up to $25m to IIGF for financial guarantees, should it require any additional capital.