Can Indonesia Overcome Stagnant Foreign Direct Investment?

Foreign Direct Investment (FDI) has long been a crucial driver of economic growth and development in Indonesia. However, in recent times, the nation has faced the challenge of stagnant FDI levels, prompting concerns among policymakers and economic analysts alike. 

This article discusses factors contributing to the fluctuation of FDI growth and how FDI can affect Indonesia’s development. By analyzing the factors contributing to the stagnation and examining potential solutions, we aim to shed light on the importance of revitalizing FDI for Indonesia’s sustainable economic prosperity. 

The current FDI situation in Indonesia

The World Bank predicts a slowdown in Indonesia’s economy in 2023, partly due to a decrease in foreign direct investment. It shows a stagnant contribution to the country’s gross domestic product (GDP) compared to pre-pandemic levels.  

According to the recent Indonesia Economic Prospects (IEP) report by the World Bank, net FDI is projected to rise to 1.3% GDP in 2023, an increase from 1.1% in the previous year. However, this figure remains below the 1.8% GDP recorded in 2019. 

This disparity raises pertinent questions about the underlying factors affecting FDI inflows and their impact on Indonesia’s economic trajectory.

 Read more: 8 Potential Cities for Foreign Direct Investment in Indonesia

The factors contributing to the stagnation of FDI

Several factors contribute to the stagnation of FDI, and isolating individual elements is challenging due to numerous variables. Those factors are highlighted below points:

1. High wage rates

The higher the wage rates in a particular country, the smaller likelihood for investors to inject their funds into outsourcing labor-intensive production and vice versa. 

2. Lack of skilled labor

While a country might offer low to medium wage rates, the lack of skilled labor may make investors reluctant to start their business in a particular country.

3. High tax rates

Countries with high tax rates tend to be less favorable for investors because they can reduce business profitability and returns on investment.

4. Inadequate transport and infrastructure

Investors prefer countries with advanced transportation and infrastructure to ensure a smooth shipping process within the country.

5. Poor economic outlook

Countries with pessimistic economic outlooks are less desirable for investors to start their businesses. On the contrary, a positive economic outlook can attract investment by instilling confidence in investors about the potential for growth and profitability.

6. Political instability

An unstable political climate introduces uncertainties for businesses and investors, causing them to adopt a cautious “wait and see” approach in their investment decisions. This approach can result in slow progress in implementing investment plans.

7. Lack of key commodities

Essential commodities such as nickel, palm oil, or bauxite are critical in attracting FDI. The absence of high-demand commodities makes a country less visible to investors.

8. Fluctuated exchange rate

The volatility of exchange rates has the potential to deter investment. On the other hand, a depreciated exchange rate in the host country can incentivize more significant FDI as it lowers the cost for multinational corporations to acquire assets.

9. Limited track record in a specific sector

Foreign companies are frequently drawn to invest in sectors that have already attracted FDI. Conversely, countries with limited experience or a proven track record in specific investment areas may need help attracting new investment.

10. Minimum access to the free trade area

Limited access to non-free-tariffs barriers might be a consideration for businesses to hold their investment decisions in a particular country.

Read more: Indonesia Embraces US Investment Opportunities 

Strategies for overcoming the FDI stagnation

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An Organization for Economic Co-operation and Development (OECD) report in 2010 stated that FDI in Indonesia has played a significant role in raising employment and productivity and generating exports.

Other than economic impacts, FDI has the potential to contribute to social and environmental objectives, which might include the following:

1. Enhancing domestic productivity

Foreign companies bring added value and job opportunities, directly contributing to domestic productivity. They can also positively impact productivity by transferring knowledge and expertise to local companies.

2. Promoting local labor

The arrival of foreign investments or foreign investors’ acquisition of domestic companies can lead to changes in local labor demand, affecting employment levels, wages, and the composition of the workforce, such as gender balance and skill requirements.

3. Financing renewable infrastructure

With favorable market conditions, FDI can finance renewable infrastructure and contribute to reducing emissions. Foreign companies also play a significant role in disseminating renewable energy technologies across borders.

Conclusion

With the potential to extend far beyond the economic sphere, Foreign Direct Investment (FDI) presents enticing business prospects for actively contributing to Indonesia’s development goals. Businesses emerge as crucial allies in the government’s pursuit of growth and progress.

Nonetheless, a cautious Indonesia FDI outlook, influencing the nation’s economic slowdown, may also impact the business landscape. Skillfully navigating these economic uncertainties can help businesses stay ahead of the curve, overcoming challenges.

InCorp Indonesia stands ready to provide financial and operational resilience, offering accounting services to ensure sustainable business growth despite domestic economic obstacles. 

Fill out the form to contact our consultants for expert guidance in navigating your business through economic uncertainty.