Indonesia's industrial sector is in the midst of a shift away from producing raw materials and toward new high value-added products. Historically, industry and manufacturing have been overshadowed by agricultural production and, more recently, hydrocarbons, but the last decade has brought a shift away from these traditional strongholds and toward services and industrial production. The manufacturing that has historically dominated has been low-skilled textile and rubber production, which has provided a consistent source of export earnings but failed to build the skills and infrastructure needed for long-term economic development. As Indonesia looks to become a new kind of economy, it is focused on building a robust industrial infrastructure that can help lift its citizens out of poverty while giving them the skills they need to succeed.
Indonesia's largest manufacturing sectors as a share of GDP in 2016 were food products, textiles, chemicals, electronic equipment, and transport equipment. Of these, food products, chemicals, and transport posted the strongest YoY growth, with all growing by more than 5% over the previous year. In total, however, manufacturing's economic impact has been falling in recent years. In 2007, Indonesia's manufacturing industry amounted to 27.4% of the nation's GDP; by 3Q2017, however, the industrial output made up only 21% of GDP. This figure, industry's smallest share of GDP since 2000, was largely due to disruptions in the price of inputs. The manufacturing sector was not immune to the larger macro disruptions Indonesia's economy dealt with in 2017; a rise in inflation weakened the rupiah, lowering output by making the importation of raw materials needed for production more expensive.
At the same time, manufacturers had to deal with a lower volume of orders as demand fell across sectors due to worsening economic conditions. Industries ranging from construction to auto suppliers saw diminished activity that cascaded down to the manufacturing sector. The Nikkei Indonesia Manufacturing Purchasing Managers' Index (PMI), an industry-wide measure of growth, fell to 49.3 in December 2017. As 50 is neutral performance, this reflected a contraction in the market. Though not at the lows of 2015, when the index reflected a year-long contraction, the index throughout 2017 stayed within a point above or below 50, a mark of the stagnation of the market.
However, late 2017 brought signs of a rebound that had industry participants optimistic for the future of the sector. One factor that contributed to the sector's troubles was heavy flooding that disrupted logistics and made what was already a complex transportation situation even more difficult. Industry leaders are optimistic that infrastructure investment has the nation better prepared to deal with such disruptions in the future. The manufacturing sector has also seen a steady influx of foreign investment as major firms look to stake a claim in one of the world's largest emerging markets. 2017 saw Japanese firm Yamaha announce that it would open a USD43-million musical instrument manufacturing facility in West Java, which is scheduled to begin operations in late 2018. Later in the year, Unilever Indonesia announced it would invest USD500 million in expanding production capacity at its nine manufacturing sites across the country, and state-owned Krakatau Steel announced the opening of a new coke oven plant with annual production capacity of 550,000 tons.
These investments suggest that despite the current slowdown, the underlying health of the market is sound due to Indonesia's size and rapid economic ascension. As the industry looks to the future, analysts expect electronics manufacturing to begin to displace textiles and rubber as an economic centerpiece; Indonesia has projected that its domestic manufacturing sector will be worth more than USD20 billion by 2020. Japanese firms have become a key part of the market, and Indonesia has been eager to provide lower-cost labor and easy logistical access to key international markets. The Indonesian government has helped bolster the sector by mandating that smartphone importers manufacture at least 20% of all imported phones in the country, and the policy has helped spur new development from mobile firms. Indonesia also sees this as a necessary first step to improving high-tech manufacturing capacity with the goal of eventually establishing a thriving technological sector of its own.