By Truong Lang Last updated on August 26, 2019

In the period of January – September of 2018, FDI in Indonesia (excluding investment in banking and the oil and gas sectors) was 293.7 IDR Trillion (USD 20.2 billion)In the third quarter of 2018, FDI contracted 20.2 % year-on-year to USD 6.6 billion. It marked the second straight quarter drop in FDI, as investors were very cautious toward the country’s financial due to a fall in currency and Indonesia recorded a trade deficit. FDI in Indonesia averaged 74.10 IDR Trillion (USD 5.1 billion) from 2010 until 2018, reaching an all-time high of USD 7.7 billion in the fourth quarter of 2017 and a record low of USD 2.4 billion in the first quarter of 2010. As is widely known, many Singaporean companies that invest in Indonesia have their parent companies in China or India. According to BKPM Head Thomas Lembong, investment from India – through Singaporean units – has risen significantly in Indonesia in Q1-2018.

FDI Manufacturing:The manufacturing sector continued to be the main recipient of FDI, likely due to large investments in grain mill factories this quarter. Agriculture-related sectors also posted close to USD 1 billion in net flows, while net investment in the mining sector finally turned positive after several months of regulatory uncertainty.

Top industries for FDI manufacturing in Indonesia include: Auto/vehicles and Pharmaceuticals.

Trends:Foreign Direct Investment in Indonesia is expected to be 94.70 IDR Trillion (USD 6.5 billion) by the end of this quarter, according to Trading Economics global macro models and analysts expectations. Looking forward, we estimate Foreign Direct Investment in Indonesia to stand at 94.50 in 12-month time. In the long-term, the Indonesia Foreign Direct Investment is projected to trend around 98.80 IDR Trillion in 2020, according to our econometric models.

FDI OUT OF INDONESIA:The Outward FDI flow in 2017 was USD 2,612 million (0.26% of its GDP). Foreign Direct Investment (FDI) flows record the value of cross-border transactions related to direct investment during a given period of time, usually a quarter or a year. Financial flows consist of equity transactions, reinvestment of earnings, and inter-company debt transactions. Outward flows represent transactions that increase the investment that investors in the reporting economy have in enterprises in a foreign economy, such as through purchases of equity or reinvestment of earnings, less any transactions that decrease the investment that investors in the reporting economy have in enterprises in a foreign economy, such as sales of equity or borrowing by the resident investor from the foreign enterprise.

The primary destination of Indonesian ODI is ASEAN or China. Investments levels in China and India are not surprising given the size of these economies and their rapid growth levels. The literature on ethnic Chinese family groups suggests that Chinese Indonesians may be inclined to invest in their ancestral country, which may also play a role. To the extent that Indonesian business groups invest in developed countries, it is mostly in nearby Australia. This pattern of investments shows that most Indonesian business groups are at primarily regional players (rather than global players), a phenomenon that has been documented for other Asian firms.

While much of Indonesian ODI is destined for other emerging markets, including those in East and Southeast Asia, some firms have invested in more distant emerging markets in Latin America (Raja Garuda Mas), Africa (Kalbe Farma), the Middle East (Bakrie, Salim), and Central Asia (Bakrie, Salim). These trends are consistent with explanations that suggest emerging market firms are more likely to invest in other emerging markets because these markets share institutional characteristics that are similar to the country of origin home.

How will trade wars affect Indonesia?The United States has recently increased – or threatened to increase – the level of import protection vis-à-vis major exporters to the United States, chiefly China. Specifically, the United States has increased import tariffs by 25 percentage points on almost 1,300 products imported from China through two rounds of measures. On July 6th, the United States began applying tariffs on USD 34 billion worth of these Chinese goods; while the rest of the measures were imposed on August 23rd. China started applying the same measures on equivalent amounts of imports from the United States; while the United States has also threatened to target an additional USD 200 billion worth of Chinese imports with similar tariffs. In May, the United States had already imposed new tariffs of 25 percent on steel and 10 percent on aluminum vis-à-vis all countries except the European Union, Canada and Mexico.

The Indonesian economy may be affected by these ‘trade wars’ through four channels:– Financial market uncertainty: with greater uncertainty over global trade, investors may withdraw from riskier investments including emerging market equity and debt, exacerbating volatility in capital flows; the slow growth of exports and the expanding trade deficit as well as the low influx of FDI make Indonesia particularly vulnerable to this channel.– Direct trade channel: Indonesia might benefit from higher exports to the United States and China, as both countries substitute away from each other towards other suppliers. Our estimates suggest that the expected drop of Chinese exports to the United States for products that Indonesia also exports to the U.S. market is worth USD 3.6 billion, or 0.4 percent of Indonesia’s GDP.– Indirect trade and growth channels: In the short to medium term, Indonesia’s exports may be lower because of lower demand for intermediate inputs within supply chains, and importantly from reduced economic activity in the United States and China. Given the relatively low share of domestic value added linked to Chinese and U.S. demand, this is likely to be a relatively muted channel. At the same time commodity prices may also slump if specific commodities are targeted – as in the case of soybean, which Indonesia is a large importer of – or from lower growth and consequently lower commodity demand from China;– Direct investment channel: In the near term, greater uncertainty may dampen prospects of direct investment globally, as risk premium increase and investors wait for greater clarity. In the medium-term, however, trade wars should accelerate the process of Chinese investment overseas, as Chinese firms seek to expand to other markets, including as a potential way to by-pass U.S. import tariff hikes. The potential for the relocation of Chinese investments to Indonesia would be meaningful even though not as high as the potential for Vietnam and Malaysia, whose export baskets are more similar to the Chinese one. Both countries are also more integrated into global and regional supply chains.