Modern Indonesia is potentially a highly attractive business proposition — and not for the reasons most people assume. The conventional wisdom is that Indonesia is the 16th largest economy in the world because it has a large population and is rich in natural resources such as coal and oil. But the fact is that robust growth of the past decade has been powered by improving productivity and consumption. Moreover, Indonesia's macro-economic management has been impressive.
According to new McKinsey Global Institute research, over the past 20 years, labour productivity improvements have accounted for more than 60% of economic growth, and these gains came largely from improvements within sectors rather than a shift out of agriculture. Mining, oil, and gas account for only 11% of Indonesia's nominal GDP, while services account for roughly half of economic output.
Over the past ten years, Indonesia's economic growth has been less volatile than any mature economy in the world, government debt as a share of GDP has fallen by 70% and is now lower than in 85% of OECD countries, and inflation has fallen from 20% into single figures.
But Indonesia is now at a critical juncture. It stands to benefit from a number of powerful trends, notably its location in Asia, the world's fastest-growing economic region, a young population, and continuing urbanisation that is driving incomes higher across the region and in Indonesia itself. By 2030, Indonesia is on track to add 90 million people to its consuming class, a larger number of additional consumers with discretionary incomes than in other economy in the world apart from China and India.
To capitalise on those strengths, Indonesia needs to move urgently and decisively to remove constraints on growth in key sectors, continue its productivity growth, and aggressively develop its pool of skills.
Arief Budiman is a principal at McKinsey & Company and Raoul Oberman is a Director.
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