Attracting foreign investment to the export-oriented sector and developing basic industries that produce raw materials would be the best long-term strategies for Indonesia to tackle its widening current account deficits, said economists.
Most of Indonesia's foreign direct investment (FDI) over recent years has come from companies keen to target the country's sizeable 260-million population.
In many cases, the plants they set up need to import raw materials as Indonesian industries cannot meet the demand, economists noted.
When these plants start making profits, capital flows out in the form of dividends to shareholders overseas. This widening current account deficit - imports of goods and services exceeding exports - is putting pressure on the local currency.
The rupiah has fallen about 9 per cent against the US dollar this year, making it the second-worst performer in Asia after India's rupee, which has lost 11 per cent.
Indonesia's current account deficit is expected to reach about US$25 billion (S$34 billion) this year if no action is taken to tackle it.
In past years, the deficit has largely been financed by foreign investors building factories and buying Indonesian stocks and bonds.
But the rout in emerging markets following financial crises in Turkey and Argentina - and most recently South Africa - has prompted global investors to pull out their funds and move them to safe havens, including the United States and Europe. "The FDI inflows do help, but they also accumulate dividend payments sent overseas every year," said an economist who spoke on condition of anonymity.
Crackdown on excessive imports
The emerging market rout is a "blessing in disguise" and a wake-up call for Indonesia to eradicate inefficiency in its industries, according to Coordinating Minister for Maritime Affairs Luhut Pandjaitan, a close aide to President Joko Widodo.
The crisis made Indonesia aware there are not only many industrial inefficiencies, he said, but many unnecessary imports from coffee to slab steel.
"State-owned Krakatau Steel in Java imports steel slab, while a producer in Central Sulawesi sells its products overseas," Mr Luhut said on a Kompas TV talk show on Wednesday, noting Krakatau Steel pays 20 per cent more than what the Central Sulawesi plant charges. "By sorting out just the steel sector, we could save at least US$1 billion (S$1.4 billion) a year."
Mr Luhut has been tasked to lead a new drive to raise the use of local content in project construction. He said some officials at state-owned firms prefer suppliers of imports who offer kickbacks, a practice the government will crack down on.
He said the government would ban the import of goods for projects if local plants can produce them. Imports will be allowed only if the goods cannot be produced locally, are of an insufficient quantity or fail to meet a required standard.
Dividends sent overseas totalled US$1.82 billion in the three months to June 30 compared with US$1.65 billion in the same quarter a year earlier, according to Bank Indonesia.
The bank also noted that total imports (by value) in the second quarter grew by 26.6 per cent, while exports rose only by 11.8 per cent.
Slower exports were partly due to weaker demand from some of the nation's top 10 markets, including Singapore.
The weakening rupiah has prompted Bank Indonesia to raise the benchmark interest rate four times this year, to 5.5 per cent now.
Economists see room for more hikes to stem the rupiah's volatility and keep the domestic financial market attractive.
"For the government, the bitter pill has to be swallowed: The economy has to slow to sub-5 per cent growth. No getting around it," analyst Harry Su told The Straits Times.
Slower growth could hurt President Joko Widodo's popularity ahead of next year's presidential election.
"The most crucial thing to do to guard the rupiah is to curb the current account deficit and to intervene in the currency market in anticipation of further foreign selling (of rupiah)," Mr Myrdal Gunarto, an economist with Maybank Indonesia, told The Straits Times.
Relying on FDI to reduce the deficit is not timely now, he noted, adding: "Investors are in a wait-and-see mode ahead of the election."
Indonesia raised import taxes yesterday on around 1,140 types of goods in a bid to curb fast-surging imports and avert a further drop of its currency value.
The import value of the goods being hit by the tax hikes was around US$6.6 billion (S$9.1 billion) last year, and came in at about US$5 billion from January to last month, according to the Finance Ministry.
Taxes are just one of the instruments the government is deploying to curb the problem.
It is also stepping up tourism promotion and pledged last week to increase the use of local biodiesel to help cut fuel imports.
Indonesia is the world's largest palm oil producer. It has expanded the use of 20 per cent palm oil-based blended biodiesel to all sectors from Sept 1.