President Prabowo Subianto's populist, interventionist rule is putting Indonesia's macro stability and long-term growth at risk, despite healthy headline numbers, Capital Economics said in a note on October 23.
Prabowo marked two years in office on October 20, and on paper the economy has held up. Official figures show GDP still growing at about 5% y/y, inflation contained, the current account in surplus and the budget deficit inside its 3% of GDP legal ceiling, wrote the London-based consultancy's Jason Tuvey, Gareth Leather and Jack Piper. Capital Economics forecasts growth of 5.3% this year and 5% in both 2027 and 2028, with inflation averaging 3.3% in 2026.
The note lands a week after index provider MSCI proposed stripping Indonesia of emerging-market status, sending Jakarta stocks to their steepest one-day fall since January 1998. Its argument is that the market rout is a verdict on how the country is being run, and that the verdict is justified.
"All of this belies growing investor unease," the economists wrote. Risk premia on Indonesian assets have widened, with five-year credit default swap spreads climbing. Partly on the MSCI threat, the stock market has lost nearly 40% this year, while the rupiah has dropped 7.5% against the dollar, the worst performance of any Asian currency. That has happened even though Indonesia is a net energy exporter and less exposed than its neighbours to the global energy shock, the note said.
The rupiah has weakened steadily since Prabowo took office in October 2024. Source: BIS via IntelliNews Lambda.
Capital Economics expects more weakness. It forecasts the rupiah at IDR18,250 to the dollar at the end of this year and IDR19,250 by end-2027, against around IDR18,076 on October 22.
A bigger state
The first thing unnerving investors is the more populist and interventionist role of the state, the note said. Prabowo has pressed on with his flagship free school meals programme despite setbacks, which have included budget cuts and unpaid kitchen investors and repeated food poisoning scares. The programme's budget was trimmed from IDR335 trillion ($18.5bn) to IDR229 trillion ($12.7bn) this year.
He is also rolling out the Red and White village cooperatives, which have been given rights to run mines and palm oil mills. And the sovereign wealth fund Danantara "has rapidly expanded its role in the economy", the economists wrote. The fund has absorbed four state investment managers and been told to hand state-company dividends to the budget.
Fiscal rules in play
The second worry is that Prabowo is undermining the guardrails of macro stability. The fiscal rules have so far restrained his policy ambitions, but "they appear under threat", the note said.
Finance Minister Purbaya Yudhi Sadewa was sacked in September, a move Capital Economics said "had more to do with disputes over a staff reshuffle than the direction of fiscal policy, which had drifted under his watch". His successor, Suahasil Nazara, pledged to keep the deficit below the 3% cap on taking office. Since then, however, parliament, which is dominated by Prabowo's allies, has begun debating whether to change the long-standing rules, and several coalition lawmakers have argued for more fiscal flexibility to support growth and welfare spending.
Central bank under pressure
Bank Indonesia's independence is also under threat, according to the note. Prabowo has appointed his nephew to the central bank's board, its mandate has been widened to include supporting growth and parliament has been given more oversight of its performance.
Governor Perry Warjiyo left in July shortly after overseeing 100bp of rate hikes. His successor, Destry Damayanti, initially reassured markets, but "this week's Board meeting underlined that the central bank is struggling to work out its policy priorities," the economists wrote. Economists polled before the October 21 meeting had been split down the middle on a hike, and the bank left its benchmark rate at 5.75%. Capital Economics expects it to stay there to the end of the year and to fall to 5% by end-2027.
"The economic costs of Prabowo's policies will take time to fully emerge. But investors are right to be concerned about the direction of travel," the note concluded.
If fiscal discipline keeps slipping and pressure on the central bank grows, the economists said, macro stability will be harder to maintain, leaving the economy more exposed to shocks and dragging on long-term growth.
Prabowo has shown little sign of changing course. He told his cabinet on October 21 that Indonesians fear no one, naming MSCI among the obstacles the country faces, while Fitch Ratings has warned that thinly traded, weakly governed firms will suffer most if the turmoil drags on. MSCI will rule on Indonesia's status by June 30, 2027.