(Bloomberg) -- Indonesia’s President-elect Prabowo Subianto plans to fund his spending promises by steadily increasing the debt ratio to its highest in two decades.

He aims to raise the debt-to-gross domestic product ratio by 2 percentage points annually over the next five years, according to people familiar with the matter. The gradual increase would give his economic team room to adjust to any headwinds, compared with raising debt in one sweep, said the people, who asked not to be named discussing private matters.

That will bring the debt close to 50% of GDP by the end of his five-year term from about 39% this year, potentially notching its highest level since 2004. While Prabowo has broached the possibility of raising the nation’s indebtedness during his campaign, his commitment to doing so and details of how it would be done were previously unknown.

The move would mark an important shift for Southeast Asia’s largest economy, which has relied on a conservative fiscal policy to uphold investor confidence. The government has strictly adhered to a 3% of GDP budget deficit limit and maximum 60% debt-to-GDP ratio since the 1997 Asian Financial Crisis, except during the pandemic. That has helped its debt regain investment-grade rating despite persistently weak state revenue.

The 50% debt ratio is seen as the optimal level as it would reassure investors of Indonesia’s commitment to fiscal prudence, while anything higher than 60% could alarm markets, said the people. While this is the game plan for now, discussions are ongoing and the proposal might change, they added. 

Indonesia’s government bonds slumped, with the yield on 5-year notes rising 13 basis points to 7.05% on Friday, the biggest jump in two months. The rupiah fell 0.7% to 16,375 a dollar as of 11:35 a.m. in Jakarta, the weakest level since 2020.

Prabowo is focused on how to fit his programs, especially the food and nutrition ones, into the 2025 budget in line with targets set by the current government while ensuring fiscal prudence, said Thomas Djiwandono, a member of the president-elect’s economic transition team. “Any chatter beyond that is just opinions and not our formal position,” he added.

The former general said in a Bloomberg interview last month that Indonesia can be “more daring” with government spending. “We have one of the lowest debt-to-GDP figures in the world, so now I think it is time to be more daring within a good governance,” he said.

Free Lunches

Prabowo, who will be sworn in as president in October, needs the funds to fulfill his campaign pledge of free lunches for children among other welfare plans that are expected to cost as much as 460 trillion rupiah ($28 billion) a year, more than the entire 2023 budget deficit.

Even if he raises Indonesia’s ratio to 50%, the country’s indebtedness would still be below that of neighbors Malaysia, Thailand and Singapore that surpassed 60%.

Raising the ratio isn’t without cost. The high interest-rate environment will make borrowing an expensive endeavor, whether it’s done locally or globally, said Jakarta-based Josua Pardede, chief economist at PT Bank Permata. On top of that, currency volatility could make pricing unreliable, given the rupiah recently touched a four-year-low.

Spending Quality

Any extra borrowing would also add to the already-higher indebtedness that President Joko Widodo, better known as Jokowi, has left the government with. He raised the debt-to-GDP ratio by 5 percentage points during his first term to fund an infrastructure spree, and by another 5 percentage points in his second term to deal with the pandemic crisis.

That increase has had knock-on effects over the years. The government will spend 500 trillion rupiah this year on interest payments, eating up 15% of its entire budget.

The purpose and quality of spending is key to assuring markets, said Tamara Henderson, an economist at Bloomberg Economics. Raising the debt ratio makes sense if the money is spent wisely, such as to close key infrastructure gaps and boost human capital, she said.

“A slow increase in the debt ratio would be better than a sharp jump, because you don’t want to spook investors or rating agencies,” Henderson said. “Also, you want to make sure the money is put to good use — contracts going to the best providers for the job, and not ending up in someone’s personal bank account.”

--With assistance from Matthew Burgess.

(Updates with market movement in sixth paragraph.)

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