Saturday, January 21, 2012

Indonesia Earns Investment-Grade Bond Rating


Moody’s Investor Service—one of the “big three” credit-rating agencies—raised Indonesia’s credit rating to “investment grade” with a stable outlook for the first time since 1997. The decision by Moody’s comes on the heels of a similar decision by Fitch Ratings in December, and analysts expect Standard & Poor’s will also upgrade Indonesia’s bond rating in the coming months.

In 1997, Indonesia’s bonds were downgraded to “junk” status due to the ongoing negative economic effects of the Asian financial crisis, unstable leadership, and a mounting public debt. Since then, the economy and political environment have improved drastically. Under the leadership of President Susilo Bambang, Indonesia’s economy has expanded by at least 5% in seven of the last eight years. Some of this economic growth is due to increased domestic demand from the growing middle class, but much of it is due to Indonesia being the world’s largest exporter of coal and palm oil. The country has also improved its fiscal situation. In 2000, the public debt accounted for 90% of Indonesia’s annual gross domestic product, but now that figure has been trimmed to 25%.

Despite strong economic growth, stable leadership, and less public debt, Indonesia requires infrastructure improvements if its economy is to keep pace with recent growth rates. Companies are increasingly citing congestion on roads, and at ports and airports as burdens to Indonesia’s business climate. In response, Indonesia has stated that it needs more than $400 billion over the next thirteen years to upgrade its infrastructure.

Fortunately, borrowing to fund infrastructure improvements will be less costly if Indonesia can retain its “investment grade” credit rating. Last week, 30-year Indonesian bonds reached a record-low yield of 5.375% due to investors being willing to pay higher prices (yields drop as bond prices rise). Shortly after Moody’s recent announcement, 10-year Indonesian bonds fell to a record-low yield of 5.83%–another encouraging sign. The ability to issue bonds at low yields is important because it has the effect of lowering Indonesia’s borrowing costs: rather than paying 7% annual interest on new 30-year bonds that it issues, as Italy currently does, Indonesia only has to pay 5.375% interest. Put another way, an upgrade in bond rating from credit-rating agencies signals to investors that Indonesian-government bonds are at less risk of default, and could increase much needed investment in the growing economy.

If Indonesia is able to upgrade its infrastructure, it will continue to attract foreign investment, which creates jobs and raises wages for the country’s citizens. Indonesia’s net foreign investment (foreign investment coming into the country less Indonesian investment in foreign countries) has tripled to more than $15 billion in the last three years, and improved infrastructure—funded with lower borrowing costs—will increase foreign investment. Furthermore, both Moody’s and Fitch have stated that if Indonesia is successful in improving its infrastructure, the country may see another credit-rating upgrade, which would lower borrowing costs once again. For a country that “became a poster child for emerging economies run amok” in the 1990s, these trends are encouraging developments.

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