Manajemen | Fakultas Ekonomi Universitas Maritim Raja Ali Haji 00074910802001546
Bulletin of Indonesian Economic Studies
ISSN: 0007-4918 (Print) 1472-7234 (Online) Journal homepage: http://www.tandfonline.com/loi/cbie20
SURVEY OF RECENT DEVELOPMENTS
Tao Kong & Arief Ramayandi
To cite this article: Tao Kong & Arief Ramayandi (2008) SURVEY OF RECENT DEVELOPMENTS,
Bulletin of Indonesian Economic Studies, 44:1, 7-32, DOI: 10.1080/00074910802001546
To link to this article: http://dx.doi.org/10.1080/00074910802001546
Published online: 16 Jul 2008.
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Date: 18 January 2016, At: 19:54
Bulletin of Indonesian Economic Studies, Vol. 44, No. 1, 2008: 7–32
SURVEY OF RECENT DEVELOPMENTS
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Tao Kong
Australian National University
Arief Ramayandi
Australian National University
and Padjadjaran University, Bandung
SUMMARY
Macroeconomic performance continued its steady improvement during 2007,
with quite strong growth, moderate inflation, a reasonably stable exchange
rate, and a strongly performing stock market. A promising sign has been rapid
investment growth, although the global economic slow-down predicted for 2008
is likely to reduce Indonesia’s exports, and therefore its growth rate. Moreover,
rapid increases in food and energy prices on world markets seem likely to require
some tightening of monetary policy to keep inflation in check.
The 2008 budget finalised in November assumed a world oil price of $60 per
barrel, even though the actual price was already closer to $90. By February it
reached $100, and the government announced its intention to revise the budget
further in light of this and of the likely impact of the coming global slow-down.
While the impact of higher oil prices on the budget deficit can readily be accommodated, the subsidy cost of holding domestic energy prices constant will be
enormous. Under-spending on infrastructure continues to be a problem—partly
because so much revenue is being pre-empted for subsidies, but also because
funding allocations are not being fully spent, and because coordination between
different government jurisdictions is lacking.
January 2008 saw the passing of former president Soeharto, whose 32 years in
power dramatically reshaped the Indonesian economy. Despite the well-known
human rights abuses and high level of corruption under his regime, the government observed a seven-day period of mourning, and there was a genuine display
of grief on the part of many ordinary Indonesians.
There have been worrying developments in relation to two institutions established as part of Indonesia’s post-Soeharto democratisation, and in relation to the
parliament (DPR) itself. The Business Competition Supervisory Commission’s
decisions on the mobile phone industry appear likely to do further damage to foreign investors’ perceptions of Indonesia, and to be harmful to consumers’ interests.
The DPR’s appointment of five new members of the Anti-Corruption Commission
(KPK) followed a closed-door selection process, the outcome of which suggested
that the commission faces capture and subversion by other public sector institutions seeking to block anti-corruption efforts. Finally, a case brought by the KPK
against officials of the central bank, including the current governor, has provided
strong evidence of the apparently widespread practice of government agencies
bribing DPR members.
ISSN 0007-4918 print/ISSN 1472-7234 online/08/010007-26
DOI: 10.1080/00074910802001546
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Tao Kong and Arief Ramayandi
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MAJOR EVENTS
On the international front, Indonesia successfully hosted the enormous UN Framework Convention on Climate Change meeting in Bali during December. The event
involved over 10,000 delegates and observers from 180 countries, and put Indonesia on the world centre stage for two weeks. There was some irony in the fact
that Indonesia is the world’s third-largest contributor to the production of greenhouse gases owing to the vast scale of forest-clearing activity. A new international
mechanism to encourage slowing deforestation was discussed, but at the core of the
negotiations was the question of what commitments developing countries would
make to limit greenhouse gas emissions in future, and the continued unwillingness
of the USA to commit to emissions targets. With high drama in the effort to obtain
consensus, the conference managed at the last minute to produce a ‘Bali Roadmap’
that set timetables and parameters for vital negotiations about the follow-up to the
Kyoto Protocol, which expires in 2012. For Indonesia this was a success in terms
of foreign policy. Both environment minister Rachmat Witoelar, as president of the
conference, and Indonesia’s President Susilo Bambang Yudhoyono, who involved
himself in the efforts to break the final deadlock, can claim some credit.
Of far greater impact on the general populace, former President Soeharto passed
away on 27 January 2008. Under his leadership from 1966 until 1998 Indonesia
achieved sustained high rates of economic growth and a considerable reduction
in poverty, and was transformed from the ‘prime economic under-performer’ in
Southeast Asia into a ‘newly industrialising economy’ (Thee 2001). His New Order
regime will also be remembered, however, for political repression, for widespread
human rights abuses (especially in East Timor, Aceh and Papua) and for the extensive system of corruption over which he presided, all of which resulted in his being
forced to resign when the economic crisis of the late 1990s robbed the regime of performance legitimacy. The final notable item in his long list of strong actions against
those who dared openly to criticise him was to secure in August 2007 a Supreme
Court reversal of earlier court decisions in favour of Time magazine, which Soeharto
had sued for defamation. The Supreme Court ordered Time to pay $106 million in
damages; a petition for a review of the ruling was lodged in February. Despite the
many black marks against the former president’s name, the government declared
a seven-day period of national mourning, and many observers were struck by the
genuine display of grief on the part of ordinary Indonesians at his passing.
MACROECONOMIC DEVELOPMENTS
Macroeconomic performance in 2007 was sound. Output (GDP) growth continued its steady upward trend through the third quarter, falling back a little in the
fourth, and exactly achieving the 6.3% expansion assumed in the budget for 2007.
Open unemployment has continued its gradual downward trend, from 10.5% in
February 2006 to 9.1% in August 2007. Consumer prices rose by 6.6% in the calendar year, almost exactly the same rate as assumed in the budget, and only a little
above the mid-point of the central bank’s target range (6 ± 1%). The exchange
rate against the US dollar has been reasonably stable, with a 4.4% depreciation
through 2007. The main stock market index showed a healthy return of more than
50% to investors over the year, notwithstanding a short-lived setback early in
the second half: the Indonesian stock market was the third-best performer in the
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region (Trimegah Research 2008). All categories of bank lending have been growing rapidly.
This solid performance was achieved despite recent turbulence in international
financial markets in the second half of the year. In July 2007 the ‘sub-prime lending’ crisis in the US found many financial institutions heavily exposed to high-risk
borrowers in the home mortgage market. This resulted in upward adjustments of
interest rates in many countries, and it is widely expected that world economic
growth will slow appreciably in 2008 as a consequence. The sudden upheaval
in global financial markets has been accompanied by rapid increases in oil and
food prices. These major external developments, and the way they are likely to
be handled by policy makers, call into question the likelihood that the Indonesian
economy will perform as well in 2008 as it did in 2007.
Economic growth
Year-on-year GDP growth continued to accelerate through the third quarter (Q3)
of 2007, reaching 6.5%—a rate exceeded in only one quarter (Q4 2004) in the postcrisis period—before declining slightly to 6.3% in the fourth quarter. Non-oil and
gas GDP continued to grow at a somewhat higher rate of around 7.0% for the last
three quarters of 2007 (table 1). Household consumption absorbs almost two-thirds
of GDP and, while still growing a little more slowly than the economy as a whole (at
5.6%), has continued to accelerate over the past six quarters, suggesting that individuals are increasingly confident about future prospects. Likewise, the growth of
investment spending, while much more volatile, accelerated significantly during
the last half of 2007, suggesting that this confidence extends to the business sector.
The capacity for future growth depends, of course, on investment.
The pattern of investment spending has been changing somewhat recently.
Although building construction growth accelerated noticeably in the second half
of 2007, to reach 9.9% in Q4, the acceleration of non-construction investment was
even more dramatic, with the growth rate moving from only 1.5% in December
2006 to over 19% a year later. This outcome was dominated by investment in
machinery and equipment, which recorded extremely rapid growth in the last
three quarters of 2007. A possible explanation for this is that businesses have
tired of waiting for the government to reform the labour market laws, and have
decided instead to substitute capital for labour in the production process. Investment in transport turned around dramatically in the second half of 2007, from
highly negative to quite strongly positive.
Both exports and imports have been growing a little more rapidly than the
economy as a whole, but import growth almost doubled in the December quarter, causing net exports to contract after growing strongly during the first three
quarters. Solid global demand and consequent price increases in the international
market resulted in record high export values in 2007. Total merchandise exports
in 2007 amounted to $114 billion, 13.1% higher than for the same period in 2006,
with an even larger increase of 15.5% recorded for non-oil and gas items, to $92
billion (CEIC Asia Database).1 Meanwhile, imports of raw materials have also
been increasing at a rapid pace, as has the much smaller category of capital goods
1 In this journal, ‘$’ refers to the US dollar. The exchange rate at the end of January 2008
was Rp 9,291/$.
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Tao Kong and Arief Ramayandi
TABLE 1 Components of GDP growth
(2000 prices; % p.a. year on year)
Sep-06 Dec-06 Mar-07 Jun-07 Sep-07 Dec-07
Gross domestic product
Non-oil & gas GDP
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By expenditure
Household consumption
Government consumption
Investment
Building construction
Non-construction investment
of which:
Machinery & equipment
Transport
Exports
Imports
Net exports
By sector
Tradables
Agriculture, livestock, forestry
& fisheries
Mining & quarrying
Manufacturing
Non-tradables
Electricity, gas & water supply
Construction
Trade, hotels & restaurants
Transport
Communications
Financial, rental & business services
Other services
5.9
6.6
6.0
6.6
6.1
6.7
6.4
7.1
6.5
6.9
6.3
7.0
3.0
1.7
0.8
8.5
–17.6
3.8
2.2
6.8
8.6
1.5
4.7
3.7
7.0
8.4
2.2
4.7
3.8
6.9
7.7
4.6
5.1
6.5
10.4
8.3
16.8
5.6
2.0
12.1
9.9
19.1
–25.8
–7.3
8.3
10.9
–2.6
–6.2
15.4
6.6
9.2
–1.2
12.6
–25.8
8.1
8.5
6.8
24.1
–28.6
9.8
6.5
25.0
26.3
–1.1
6.9
7.0
6.7
25.7
13.5
7.3
13.6
–14.2
4.1
2.6
3.9
2.6
3.4
–1.7
4.7
4.7
4.8
7.6
2.5
3.1
1.1
5.9
–0.0
5.8
6.2
5.2
3.2
5.1
1.0
4.5
–2.1
3.8
7.9
5.8
8.5
7.9
7.0
25.9
4.5
6.7
8.3
7.7
8.6
7.0
8.8
28.7
6.5
6.2
9.0
8.2
8.4
9.2
–0.0
31.0
8.1
7.0
8.2
10.2
7.7
7.6
0.8
28.8
7.6
7.0
8.3
11.3
8.3
7.9
4.4
26.6
7.6
5.2
10.0
11.8
9.9
9.1
5.6
31.7
8.6
7.2
Source: CEIC Asia Database.
imports; consumer goods imports have also been buoyant, reflecting accelerating
growth in consumption overall (figure 1).
On the production side of the national income accounts, growth of the nontradables sector remains consistently more rapid than that of the tradables sector,
with the differential between them widening significantly in the fourth quarter
of 2007 (table 1). Most of the sub-sectors within non-tradables have continued
to experience robust growth, with communications the stand-out performer.
Performance of the transport sub-sector was quite poor in 2007, however, consistent with a declining level of investment in the first half; this, in turn, may
have reflected insufficient spending by governments on transport infrastructure
(roads, ports, airports, railways and so on). Nevertheless, the growth rate in
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FIGURE 1 Imports by Major Category
($ million)
6,000
5,000
2,000
Raw materials, lhs
1,500
4,000
Capital goods, rhs
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3,000
1,000
2,000
Consumer goods, rhs
1,000
0
Dec–06
Feb–07
Apr–07
Jun–07
Aug–07
Oct–07
500
0
Dec–07
Source: CEIC Asia Database.
transport recovered to 5.6% by the end of the year, after a surprisingly large
adjustment in the most recently issued national accounts data to the September quarter growth rate of investment in transport: this was revised to –1.1%
from the previously reported –7.5%.2 Within the tradables sector, growth has
been generally sluggish, with the exception of the September quarter growth
in the rather volatile agriculture, livestock, forestry and fisheries sub-sector.
Manufacturing growth rates declined steadily for the entire period shown in
table 1, to just 3.8% in the December quarter of 2007; it will be interesting to see
whether the recent rapid expansion of investment in machinery and equipment
can arrest this decline.
Despite this generally rosy economic growth picture, there is no room for
complacency. The expected global economic slow-down is likely to hurt Indonesia’s growth performance through its negative impact on exports. In response
to the sub-prime mortgage crisis, 2008 growth forecasts for countries and regions
that are the main destinations for Indonesia’s non-oil and gas exports have been
slashed; for example, the most recently available IMF World Economic Outlook
Update (January 2008: IMF 2008) projects significant reductions in output growth
in 2008 in the US, the euro area, Japan and elsewhere (table 2).
Aside from the external threats of a global economic slow-down and persistent uncertainty in financial markets, Indonesia’s performance will continue to be
affected by problems of its own making—specifically, inadequate infrastructure
and rigidity in the labour market (Manning and Roesad 2006). The weakness
of investment spending in the transport sector (until recently) and the sluggish
2 GDP data can be significantly adjusted over time: the growth rate for investment in machinery and equipment was also revised upward by 2.8 percentage points in the September
quarter.
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Tao Kong and Arief Ramayandi
TABLE 2 Indonesian Export Destinations: Export Shares and GDP Growth Rates
Sharea
(%)
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Japan
Euro area
USA
Singapore
China
Total
14.6
14.4
12.3
9.9
7.2
58.4
GDP Growthb
2007
(% p.a.)
1.9
2.6
2.2
n.a.
11.4
2008
p.a.)
(%
1.5
1.6
1.5
n.a.
10.0
a For the period January–November 2007; non-oil and gas merchandise exports only.
b Growth rates are estimates for 2007 and projections for 2008.
Sources: Export shares: BPS (central statistics agency); growth rates: IMF (2008).
growth of this sector have already been noted. Neglect of the infrastructure needed
to control flooding, particularly in important commercial and industrial centres
such as Jakarta, was very clearly demonstrated when the capital was cut off from
the main national airport, Cengkareng, after heavy rains at the end of January.
Fiscal policy
The budget for 2008 was enacted in early November 2007 (table 3). There were
a number of relatively minor changes from the draft version submitted to the
parliament in August, such that planned revenues increased by Rp 20 trillion
and planned expenditures by Rp 18 trillion; the revised deficit is only negligibly smaller, at 1.7% of projected GDP. The main adjustments on the revenue side
are a surprisingly large (proportionate) rise in international trade taxes, together
with increases in oil and gas revenues and in dividends from state enterprises. On
the expenditure side, there are large but unfortunately non-transparent rises in
‘Other subsidies’ and in ‘Other expenditure’, together with a range of increased
transfers to regional governments, not least of which is an almost four-fold jump
in ‘Adjustment funds’.
Of much greater importance than these changes is the absence of any change
at all in one of the most important numbers in the entire document: the assumed
world oil price, which remained at $60 per barrel. This figure is a little lower than
the actual average price in 2006 of $64.30 per barrel, significantly less than the 2007
average of $71.10, and roughly a third less than the level of $87.60 at the end of that
year. World oil prices were on a rapidly increasing trend in 2007, from $57 in Q1 to
almost $88 in Q4 and, although they levelled off in January at $90.70, they exceeded
$100 per barrel during part of February.3 There is little reason to believe they will
3 These data are world crude oil spot prices from World Bank, ‘Prospects for Development’ (Commodity Price Data), .
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average $60 per barrel for the whole of 2008. The government, particularly the Ministry of Finance (MOF), risks being perceived as divorced from reality by making
this assumption.
Yet this is clearly not the case. Indeed, the MOF has undertaken its own analysis
of the impact on the budget of oil prices remaining near recent levels, and government ministers have discussed this analysis in public forums (e.g. Pangestu 2008).
If the average oil price turns out to be, say, $100 per barrel in 2008, oil revenues
(including income tax from oil and gas producers) are expected to increase by
$13.7 billion, while expenditures on domestic fuel and electricity subsidies and
additional transfers to regional governments are together expected to rise by $19.7
billion. The impact would be to increase the deficit by about $6 billion—almost
doubling it, to about 3.0% of GDP. This increase would be large, but by no means
catastrophic.
The MOF has put forward a list of nine anticipative policy measures in an
attempt to assure observers of the government’s preparedness to cope with the
impact of significantly higher oil prices. Unfortunately the two documents outlining these measures (Abimanyu and Megantara 2007; Pangestu 2008) give few
details, and appear to differ somewhat from each other. The discussion that follows is therefore necessarily based to some extent on guesswork. The list includes
both revenue-increasing and expenditure-reducing measures, and it is claimed
that together they would almost exactly offset the impact of oil price increases on
the budget deficit, thus leaving it at 1.7–1.8% of GDP even if the oil price should
rise to $100 per barrel. This claim seems somewhat lacking in conviction, however, because some of the items on the list are deficit-financing rather than deficitreducing measures.
Deficit-reducing measures
• Improving the efficiency (and thus the profitability) of Pertamina (the national
oil company) and PLN (the national electricity company), allowing an increase
in dividends from the former (which accounts for about half the dividend
income from all state-owned enterprises) and a decrease in subsidies to the
latter
It goes without saying that this is a desirable objective, but if it is feasible, this begs
the question of why the government would not move along these lines even if
there were no change in the oil price. Note also that, hidden in the brief discussion
of this item in Abimanyu and Megantara (2007) is the suggestion that Pertamina’s
efficiency could be improved by reducing the subsidy to consumption of fuels. Of
course it is profitability rather than efficiency that would be increased in this way,
but the interesting point is that these government officials appear here to be trying
to put the reduction of fuel subsidies back on the agenda for public discussion—
albeit with a high degree of circumspection.
• Increasing/’optimising’ tax revenue and dividends from the state-owned
enterprises (SOEs)
It is not clear how tax revenue from SOEs could be increased, since this depends
on their profits, which depend on their business success, rather than being a
matter for government discretion. And although it would be possible to require
them to pay higher dividends to their owner, this would simply shift the problem
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Tao Kong and Arief Ramayandi
TABLE 3 Budgets for 2007 and 2008
(Rp trillion)
2007
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REVENUE AND GRANTS
Taxes
of which:
Income tax
Oil & gas
Non-oil & gas
Value added tax
International trade taxes
Non-tax revenues
Resources revenues
Oil & gas revenues
Non-oil & gas revenues
State enterprise dividends
Other non-tax revenues
Grants
EXPENDITURES
Central government
Personnel
Goods & services
Capital expenditure
Interest payments
Subsidies
Fuel
Electricity
Food
Other
Social assistance
Other expenditure
Transfers to regional governments
Equalisation funds
Revenue sharing
Taxation
Natural resources
of which:
Oil
Natural gas
General funds allocation
Special funds allocation
Special autonomy & adjustment funds
Special autonomy funds
Adjustment funds
DEFICIT
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2008
Agreed
2008
Change (% GDP)
Revised
Draft
Agreed
693.7
492.0
761.4
583.7
781.4
592.0
20.0
8.3
18.1
13.7
251.7
37.3
214.5
152.1
17.5
197.8
114.6
107.7
6.9
21.8
61.4
3.8
305.3
41.0
264.3
186.6
15.4
175.6
119.8
112.3
7.4
20.4
35.5
2.1
306.0
41.6
264.3
187.6
22.0
187.2
126.2
117.9
8.3
23.4
37.6
2.1
0.7
0.7
0.0
1.0
6.6
11.6
6.4
5.6
0.9
3.0
2.1
0.1
7.1
1.0
6.1
4.4
0.5
4.3
2.9
2.7
0.2
0.5
0.9
0.0
752.4
498.2
98.0
61.8
69.2
83.6
105.1
55.6
32.4
6.6
3.6
49.7
30.9
254.2
244.6
62.7
32.4
30.3
836.4
564.6
129.5
52.4
101.5
91.5
92.6
46.7
27.8
5.5
3.9
67.4
29.6
271.8
262.3
64.5
36.3
28.2
854.7
573.4
128.2
52.4
101.5
91.4
97.9
45.8
29.8
6.6
8.2
67.4
34.7
281.2
266.8
66.1
36.3
29.7
18.2
8.8
–1.4
0.0
0.0
–0.2
5.3
–0.9
1.9
1.1
4.3
0.0
5.1
9.4
4.5
1.6
0.0
1.6
19.8
13.3
3.0
1.2
2.4
2.1
2.3
1.1
0.7
0.2
0.2
1.6
0.8
6.5
6.2
1.5
0.8
0.7
12.1
9.8
164.8
17.1
9.6
4.0
5.5
–58.7
12.5
10.2
176.6
21.2
9.5
8.1
1.5
–75.0
12.9
10.8
179.5
21.2
14.4
7.5
6.9
–73.3
0.3
0.5
2.9
0.0
4.9
–0.6
5.5
1.7
0.3
0.3
4.2
0.5
0.3
0.2
0.2
–1.7
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TABLE 3 (continued) Budgets for 2007 and 2008
(Rp trillion)
2007
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Revised
2008
Draft
Agreed
Agreed
2008
Change (% GDP)
FINANCING
Domestic financing
of which:
Government bonds
Foreign financing (net)
Foreign gross drawings
Amortisations (less)
58.3
70.8
75.0
91.7
73.3
90.0
–1.7
–1.7
1.7
2.1
58.5
–12.5
42.2
–54.8
91.6
–16.7
43.0
–59.7
91.6
–16.7
43.0
–59.7
0.0
2.1
–0.4
1.0
–1.4
ASSUMPTIONS
Nominal GDP (Rp trillion)
Real GDP growth rate (%)
Inflation (% p.a.)
Average exchange rate (Rp/$)
SBI average (3-month, % p.a.)a
Crude oil prices ($/ barrel)
Oil production (million barrels/day)
3,761
6.3
6.0
9,050
8.0
60
0.95
4,307
6.8
6.0
9,100
7.5
60
1.034
4,307
6.8
6.0
9,100
7.5
60
1.034
a SBI = Bank Indonesia Certificate.
Source: Ministry of Finance (2007).
elsewhere within the government sector—depriving the SOEs of cash resources
that they might otherwise have used for investment.4
• Prioritisation of government expenditures; and
• Use of unrealised expenditure in the budget
The government believes there is a potential for significant cuts to some items in
its budgeted expenditures, but does not reveal what these might include; explicitly
excluded, however, is any interruption to spending on poverty and infrastructure.
In addition, there appears to be an expectation of continued spending shortfalls
because of administrative bottlenecks of one kind or another, which obviously
would reduce the realised deficit.
• Modification of energy policy with regard to production and subsidisation of
oil and gas and power
Expanded crude oil production would increase government revenue, but the
budget already assumes an increased output of 1.034 million barrels per day (notwithstanding the fact that production has fallen short of budget assumptions for
the last three years), so it is difficult to imagine any additional deficit reduction
4 Changes in taxes and dividends paid by Pertamina as a result of higher oil prices are
presumably already taken into account in the ministry’s analysis of the budgetary impact
of the oil price.
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Tao Kong and Arief Ramayandi
BOX 1 MISSING THE BIG PICTURE: OIL PRICES AND ENERGY SUBSIDIES
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To focus on the implications for the deficit of potentially higher oil prices is almost
completely to ignore a key feature of the 2008 budget: the damage that is being done
by holding domestic fuel and electricity prices constant regardless of huge increases in
world energy prices. Indonesia’s oil and gas reserves are assets in the ground that have
the potential to be transformed into valuable assets of lasting benefit to current and future generations—such as schools, hospitals, other infrastructure and human capital.a
Instead, in the absence of policy adjustments, they are to continue to be plundered to
finance current consumption—with considerably larger benefits to the more wealthy
members of the community, whose direct and indirect consumption of energy is greater
than that of the poor. It is difficult to judge why the parliament would accept—or, indeed, favour—the patently unrealistic oil price assumption in the budget. Clearly it has
an important role to play in negotiating the details of the budget with the government of
the day, but items that involve assumptions about the state of the world in the fiscal year
in question should not be matters for bargaining, since they do not involve questions
of government policy. Requiring, or allowing, the government to assume an oil price of
$60 will not make it so in reality; requiring it to make a more realistic assumption would
force it to bring into the open the implication of its current policy of holding domestic
energy prices constant. If the average oil price in 2008 is indeed close to $100 per barrel,
the total cost of the implied subsidy is likely to be in the order of $26 billion (table 4). For
its part, the government’s commitment to the ideals of democracy, one of which is a high
level of transparency about its deployment of funds belonging to society, can hardly be
said to be strong if it is prepared to sign off on a budget that deliberately under-estimates
by perhaps $18 billion the cost of its policy of holding domestic energy prices constant.
a According to the Ministry of Finance (2007), combined spending by the ministries of education
and health accounts for 8.0% of the 2008 draft budget—less than the greatly under-estimated 8.9%
figure for energy subsidies based on the assumption of an oil price of $60 per barrel. (This sectoral
breakdown is not available for the agreed 2008 budget.)
potential here. On the consumption side, Abimanyu and Megantara (2007) state
that the success of the program to switch households away from (subsidised) kerosene to natural gas is vital to cutting subsidies, but there is no indication of how
this switch might be accelerated. Similarly, mention is made of bringing about a
switch in the fuel mix used in electricity generation, but it is not clear how this
would help to reduce the cost of producing electricity: presumably, producers are
already using the least costly fuels available to them.
Deficit-financing measures
• Issue more government bonds to the general public; and
• Issue bonds to regional governments in oil-producing areas
Both measures appear feasible. The rationale for the second measure is that
regional governments in oil-producing areas receive a windfall share of any
increase in the central government’s oil and gas revenues, which may leave
them with excess liquidity. If most or all of the additional transfers to local governments in oil-producing areas could be borrowed back by the central government, this would suffice to cover a significant proportion of the estimated
increase in the deficit caused by an oil price increase to, say, $100 per barrel (see
table 4 in box 1).
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BOX 1 (CONTINUED) MISSING THE BIG PICTURE: OIL PRICES AND ENERGY SUBSIDIES
TABLE 4 Estimated Impact of $100 per Barrel Oil on the Budget
Agreed 2008 Budget
Rp trillion
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Oil & gas revenues
Income tax, oil & gas
Natural resources revenues, oil & gas
Oil & gas expenditures & transfers
Energy subsidies
Fuel
Electricity
Oil & gas transfers to regional governments
Income tax, oil & gas
Natural resources revenues
Oil
Natural gas
Deficit
$ billiona
159.6
41.6
117.9
100.4
75.6
45.8
29.8
24.8
1.2
17.5
4.6
13.0
11.0
8.3
5.0
3.3
2.7
0.1
12.9
10.8
–73.3
1.4
1.2
–8.1
Add
New
Totals
$ billion
$ billion
13.7b
31.2
19.7b
17.6c
30.7
25.9
2.1d
4.8
–6.0b
–14.1
a
Rupiah values are converted to dollar values at the exchange rate of Rp 9,100/$ assumed in
the budget.
b The additions to the approved budget are from a presentation by the Minister for Trade (Pangestu
2008), based on an analysis by the Ministry of Finance, for an assumed oil price of $100/barrel.
c The additional value of energy subsidies is estimated as the addition to oil and gas expenditures
and transfers less estimated additional oil and gas transfers to regional governments.
d The additional oil and gas transfers to regional governments are assumed to be proportional to
the increase in the central government’s oil and gas revenue (78.1%).
Ross H. McLeod
Miscellaneous measures
• Use of contingency funds in the budget
The purpose of having a contingency fund is to provide a cushion against
unexpected and unfavourable future events. An average oil price much higher
than $60 per barrel in 2008 can hardly be described as unexpected; in any case,
using these funds would simply mean removing that cushion.
• Counter-cyclical fiscal policy measures
Counter-cyclical fiscal policy is running a deficit in order to increase aggregate
demand and thus stimulate economic activity (or running a surplus in order to
dampen it). Indeed, deficits in the various budgets and revised budgets in recent
years have been increasing, precisely with this in mind.5 Here, the ministry is arguing in favour of stimulating aggregate demand by offering income tax ‘facilities’ to
encourage both investment and the listing of firms on the stock exchange, as well
as a number of customs duty incentives. Such measures obviously tend to increase
5 Having said that, this strategy has been somewhat counter-acted by the ‘under-spending’
problem discussed below.
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Tao Kong and Arief Ramayandi
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rather than decrease the deficit, so it is hard to understand why they have been discussed in the context of the need to deal with an expected blow-out in the deficit.
In summary, the oil price is likely to be much higher than assumed, and this
will significantly increase the budget deficit in the absence of adjustments to other
expenditure and revenue items. None of the anticipative policy measures proposed seems likely to be able to achieve much in this regard, but the existence
of ‘fat’ in the budget and the inability of the government to spend as much as it
budgets for makes the problem less serious. In any case, it would not be difficult
to borrow by issuing additional government bonds to finance a larger deficit. For
a discussion of the likely impact of higher oil prices on the magnitude of subsidies
to energy consumption, see box 1.
In mid-February the government indicated that it would soon propose a further
revision to its 2008 budget in order to reflect the impact on the growth rate of the
probable slow-down in the world economy, and the likelihood of a much higher
oil price. The growth assumption was likely to be brought down to 6.4%, and the
oil price assumption increased to $83 per barrel (Nurhayati and Suharmoko 2008).
At the same time, the assumed inflation rate would be increased to 6.5%. Whether
a change in the oil price assumption will be accompanied by any change in energy
subsidy policies remains unclear. Reducing fuel and electricity subsidies is a complex issue, of course, and fraught with political risk to the incumbent government.
But we would argue that governments should always focus on the efficiency of
budget spending allocations in promoting superior economic outcomes, rather
than responding to populist or other pressures. It is important to avoid any negative relationship between government spending and economic growth, as was
evident in the pre-crisis period (Ramayandi 2003). Improved efficiency in allocating budget spending to infrastructure and other capital goods, in particular, has
to remain the core focus of the budget process.
Under-spending on infrastructure
That there was a significant reduction in spending on infrastructure in the aftermath
of the 1990s crisis is readily explained by the fact that the government had injected
a huge volume of its own bonds as new equity into the many banks that had failed.
Interest payments on these bonds immediately began to consume a large proportion of available revenues, which in any case were depressed as a consequence of
the deep recession that followed the crisis. More recently, however, the government
has turned its back on the opportunity presented by significant increases in the
world oil price to remedy this short-term forced neglect of infrastructure; it has chosen instead to bend to populist pressure to keep domestic fuel and electricity prices
low through heavy subsidisation. But even infrastructure spending for which funding is available in the budget has been hampered by administrative shortcomings,
especially at local government level. And in other infrastructure projects where the
government has tried to encourage private sector participation, this has been held
back by similar administrative and other institutional failings, and by the apparent
inability of the bureaucracy to formulate arrangements that would provide potential investors with an attractive rate of return relative to the risks involved.
Infrastructure inadequacies constitute an important part of the poor investment
climate overall, and impose a constraint on economic development (Lindblad and
Thee 2007: 25; Narjoko and Jotzo 2007: 159). Less than two-thirds of Indonesians
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have access to electricity, and blackouts are frequent (JP, 11/2/2008). More than
100 million people lack access to safe drinking water, and contaminated water is
the major cause of illness (USAID 2006). In 2004 only 58% of Indonesia’s 340,000
kilometres of roads were paved, and only around half were in good condition.
Traffic congestion continues to hamper the efficient operation of large cities like
Jakarta, Bandung, Medan and Surabaya, and satellite towns like Bogor, Bekasi
and Tangerang (World Bank 2008). City-wide flooding in Jakarta in early February claimed three lives and forced thousands to leave their homes (Antara News,
2/2/2008). The impact of torrential rain and high tides was compounded by rampant over-development and deforestation in the hinterland south of the city, and
by rivers and drainage canals being clogged with garbage.
Current infrastructure deficiencies can be attributed to three general factors:
inadequate budget allocations to infrastructure; under-spending of these allocations; and a lack of coordination between jurisdictions. In relation to the first factor,
recent overall budget allocations for infrastructure spending, at around 3% of GDP,
have been far lower than the pre-crisis levels of approximately 5% (World Bank
2004: 11). If existing infrastructure assets are to be adequately maintained and their
capacity increased, the financing needs are substantial. For example, according
to World Bank (2004) estimates, annual investments of $2–3 billion are needed to
meet even modest growth in electricity demand through to 2010; the roads sector
could easily absorb $700–750 million more per year for maintenance, betterment
and expansion; and $600 million per year is considered a conservative estimate of
the spending needed to meet the United Nations Millennium Development Goals
in relation to drinking water and sanitation. Raising Indonesia’s relatively low telecommunications density by one percentage point costs about $300 million.6
When the present government first came to office it had great hopes for overcoming its lack of revenue to devote to new investment in infrastructure by encouraging the involvement of the private sector through public–private partnerships
(PPPs) (McLeod 2005: 144–6). However, the implementation of this strategy has
been disappointingly slow. One of the reasons for this has been the administrative and political difficulties involved in land acquisition. McLeod (2005: 146–7)
described a new regulation that had been introduced precisely to facilitate the
resumption of private land for purposes such as the construction of public infrastructure. As is so often the case, however, the enactment of the new measure has
not been sufficient, on its own, to overcome the problem in question. Thus, for
example, the opening of the Cikunir toll road (part of the Jakarta Outer Ring Road)
in September 2007 had been delayed for two years owing to land disputes with
locals (Wongso 2008), despite the fact that the regulation clearly allows the government to resume land for such purposes upon payment of fair compensation to
its previous owners. More generally, problems with land acquisition are seriously
jeopardising the construction of major toll roads. By November 2007, only 250 of
the 12,000 hectares needed to construct the 40 toll roads currently planned had
been acquired, and land acquisition had yet to be completed for a single toll road
some three years after the 2005 infrastructure summit (Wongso 2008).
6 The lack of investment in fixed-line capacity by PT Telkom, the state-owned telecommunications company, is being offset by tremendous growth in mobile telecommunications,
where there is a strong private sector presence.
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Tao Kong and Arief Ramayandi
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Aside from the problem of delay, the evident ability of owners to hold out for
a higher level of compensation for resumption of their land creates an important risk for potential private sector investors. The government has responded by
guaranteeing to cap the land acquisition cost to be borne by private investors at
110% of the estimated cost (Wongso 2008); that is, the government guarantees to
pay the difference between the actual cost and 110% of the estimated cost.
The second factor contributing to infrastructure deficiencies is limited capacity at sub-national level to spend all the funds allocated to infrastructure. Since
2001, responsibility for the provision of infrastructure and public goods has been
devolved in large part from the central government to local governments, but the
latter still lack the technical capabilities to use the funds transferred to them for
planning and implementing infrastructure projects. To some extent, they also have
yet to embrace their new responsibilities as service providers. A consequence of
this is that a significant proportion of funds received from the central government
that could be used for infrastructure development have simply been deposited
with the banking system, often to be invested by the banks in Bank Indonesia
Certificates (SBIs), where they earn quite an attractive return. During the three
years to November 2007, sub-national governments’ bank deposits grew rapidly,
from Rp 59 trillion to Rp 141 trillion (CEIC Asia Database); the latter amount is
equivalent to over half of the total budgeted transfers from the central government to sub-national governments in 2007 (table 3). It is clear that the collective
capacity or desire of sub-national governments to spend is significantly lower
than the funds available to them.
A third problem with certain types of infrastructure arises from the need for
coordination between levels of government, and between different governments
at the same level. For example, national highways are the responsibility of the
central government, but they cross through provinces and districts, thus requiring coordination between these three levels of government. Even more difficult is the case of infrastructure related to water—irrigation, flood control, and
drinking water supply—all of which are very likely to involve the flow of water
across administrative borders. Despite the obvious need for it, examples of intergovernment cooperation in relation to infrastructure projects of this kind are few,
and there seems to be a lack of commitment to promoting such cooperation and
coordination. Much more thought will need to be given to creating appropriate
incentives for cooperation than has hitherto been the case. For example, cities
such as Jakarta and Bandung rely on adjacent jurisdictions for their water supplies, and are heavily affected by flooding after rain falls in adjacent jurisdictions,
but the latter have little or no incentive to supply water or to control rainfall runoff to the big cities downstream from them.
Financial markets and monetary policy
The stock market and the foreign exchange market
After a short-lived setback in August related to the emergence of the sub-prime
crisis in the US, the Indonesia Stock Exchange performed very well for the remainder of 2007 (figure 2).7 The Jakarta Composite Index (JCI) rose by 43% from its low
7 The Jakarta and Surabaya stock exchanges merged to become the Indonesia Stock Exchange (IDX), effective from 30 November 2007.
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FIGURE 2 Jakarta Composite Index (JCI) and Exchange Rate
JCI
3,000
Rp/$
12,000
JCI
2,500
10,000
Exchange rate
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2,000
8,000
1,500
6,000
1,000
4,000
500
2,000
0
3-Jul-2007
28-Aug-2007
19-Oct-2007
14-Dec-2007
0
12-Feb-2008
Source: Indonesia Stock Exchange (IDX); Pacific Exchange Rate Service.
point in mid-August through to the end of the year, indicating considerable confidence in the Indonesian economy, particularly on the part of foreign investors:
indeed, monthly net share purchases by foreigners were positive throughout the
year. However, the Indonesian capital market appears still to be vulnerable to continuing volatility in the world financial market as a result of the sub-prime crisis.
The index suddenly fell by some 19% in the middle of January 2008, although
a large part of this loss was quickly recovered. In such circumstances, it is very
much open to doubt whether the IDX can continue to perform as well as it did in
2007. Of course, Indonesia is not alone in this respect.
The rupiah exchange rate was relatively stable during the several months
through January 2008 (figure 2). While this tends to be interpreted positively,
many other currencies have been appreciating against the US dollar during the
second half of 2007. The weakness of the dollar is a reflection of both the subprime crisis and the dramatic loosening of US monetary policy in response to it.
Figure 3 compares exchange rate trends among five ASEAN economies (Indonesia, Singapore, Malaysia, Thailand and the Philippines), and shows that the
rupiah, alone among the currencies of this group, failed to appreciate against the
US dollar during the second half.
At first glance, this anomalous behaviour of the rupiah exchange rate seems to
suggest that the central bank (Bank Indonesia, BI) has been intervening heavily
in the market by purchasing dollars in order to keep the rupiah from appreciating like these other currencies—an argument that is bolstered by the observation
that BI’s foreign reserves jumped by about $6 billion in the second half of 2007,
to $57 billion. According to market participants and BI officials, however, BI did
not engage in large-scale purchases during this period; indeed, BI argues that it
has been consistently committed to allowing the rupiah to float by avoiding such
market intervention.
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Tao Kong and Arief Ramayandi
FIGURE 3 Dollar Exchange Rate Indicesa
(June 2007 = 100)
110
100
90
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80
70
SGD
MYR
THB
PHP
60
50
Jun–07
IDR
Jul–07
Aug–07
Sep–07
Oct–07
Nov–07
Dec–07
Jan–08
a IDR = Indonesian rupiah; MYR = Malaysian ringgit; PHP = Philippines peso; SGD = Singapore dol-
lar; THB = Thai baht.
Source: CEIC Asia Database.
The explanation for the paradox of rapid increases in reserves in the absence
of open market purchases of foreign exchange appears to be that there is a large
inflow of oil export dollars to the government’s deposit account at BI. These dollars are immediately converted to rupiah in the government’s account, presumably at the current market exchange rate. By contrast with the case in which BI
acquires dollars by purchasing them on the open market, there is no impact on the
supply of base money, since base money does not include government deposits
at the central bank. This means that there is no need for sterilisation—that is, no
need for BI to issue SBIs to offset the monetary impact—which explains why the
volume of SBIs outstanding remained virtually unchanged during this period.
One implication of these off-market purchases of foreign exchange from the government is that they send false signals to market participants. If instead the government were to sell its foreign exchange earnings on the market and deposit the rupiah
proceeds in its account with BI, either this additional large supply of dollars would
tend to cause the rupiah to appreciate, or BI would need to intervene to purchase
this additional supply if it wanted to prevent such appreciation. In other words, the
exchange rate observed in the market is artificially high as a consequence of the hidden sale of foreign exchange by the government to the central bank.
Inflation and monetary policy
At 6.6%, consumer price index (CPI) inflation for 2007 fell within BI’s target range
of 6 ± 1%, although the 5.8% rate achieved mid-year was not able to be sustained
(figure 4). The trend was upward during the second half, and the year-on-year
rate recorded in January 2008 reached 7.4%. This modest resurgence suggests that
BI may have been too eager to ease monetary policy (that is, to reduce interest
rates) during 2007. Further reductions were put on hold in January, which was
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FIGURE 4 Inflation and the Monetary Policy Interest Rate
(% p.a.)
14
12
Food prices
10
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8
SBI rate (30 days)
6
CPI
4
2
0
Dec–06
Administered prices
Feb–07
Apr–07
Jun–07
Aug–07
Oct–07
Dec–07
Source: CEIC Asia Database.
unsurprising given the central bank’s decision to lower its inflation target range
to 5 ± 1% in 2008.
When the CPI is disaggregated into its various components it can be seen that
food prices have been growing much faster than the index as a whole, while
administered prices under the control of the government have been growing
much more slowly (figure 4). Price movements within the food component of
the CPI are by no means uniform, however (figure 5). Prepared food prices have
FIGURE 5 Food Price Inflation: Selected Components
(% p.a.)
50
40
Fats & oils
30
Cereals, cassava &
related products
Eggs,
ISSN: 0007-4918 (Print) 1472-7234 (Online) Journal homepage: http://www.tandfonline.com/loi/cbie20
SURVEY OF RECENT DEVELOPMENTS
Tao Kong & Arief Ramayandi
To cite this article: Tao Kong & Arief Ramayandi (2008) SURVEY OF RECENT DEVELOPMENTS,
Bulletin of Indonesian Economic Studies, 44:1, 7-32, DOI: 10.1080/00074910802001546
To link to this article: http://dx.doi.org/10.1080/00074910802001546
Published online: 16 Jul 2008.
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Bulletin of Indonesian Economic Studies, Vol. 44, No. 1, 2008: 7–32
SURVEY OF RECENT DEVELOPMENTS
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Tao Kong
Australian National University
Arief Ramayandi
Australian National University
and Padjadjaran University, Bandung
SUMMARY
Macroeconomic performance continued its steady improvement during 2007,
with quite strong growth, moderate inflation, a reasonably stable exchange
rate, and a strongly performing stock market. A promising sign has been rapid
investment growth, although the global economic slow-down predicted for 2008
is likely to reduce Indonesia’s exports, and therefore its growth rate. Moreover,
rapid increases in food and energy prices on world markets seem likely to require
some tightening of monetary policy to keep inflation in check.
The 2008 budget finalised in November assumed a world oil price of $60 per
barrel, even though the actual price was already closer to $90. By February it
reached $100, and the government announced its intention to revise the budget
further in light of this and of the likely impact of the coming global slow-down.
While the impact of higher oil prices on the budget deficit can readily be accommodated, the subsidy cost of holding domestic energy prices constant will be
enormous. Under-spending on infrastructure continues to be a problem—partly
because so much revenue is being pre-empted for subsidies, but also because
funding allocations are not being fully spent, and because coordination between
different government jurisdictions is lacking.
January 2008 saw the passing of former president Soeharto, whose 32 years in
power dramatically reshaped the Indonesian economy. Despite the well-known
human rights abuses and high level of corruption under his regime, the government observed a seven-day period of mourning, and there was a genuine display
of grief on the part of many ordinary Indonesians.
There have been worrying developments in relation to two institutions established as part of Indonesia’s post-Soeharto democratisation, and in relation to the
parliament (DPR) itself. The Business Competition Supervisory Commission’s
decisions on the mobile phone industry appear likely to do further damage to foreign investors’ perceptions of Indonesia, and to be harmful to consumers’ interests.
The DPR’s appointment of five new members of the Anti-Corruption Commission
(KPK) followed a closed-door selection process, the outcome of which suggested
that the commission faces capture and subversion by other public sector institutions seeking to block anti-corruption efforts. Finally, a case brought by the KPK
against officials of the central bank, including the current governor, has provided
strong evidence of the apparently widespread practice of government agencies
bribing DPR members.
ISSN 0007-4918 print/ISSN 1472-7234 online/08/010007-26
DOI: 10.1080/00074910802001546
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MAJOR EVENTS
On the international front, Indonesia successfully hosted the enormous UN Framework Convention on Climate Change meeting in Bali during December. The event
involved over 10,000 delegates and observers from 180 countries, and put Indonesia on the world centre stage for two weeks. There was some irony in the fact
that Indonesia is the world’s third-largest contributor to the production of greenhouse gases owing to the vast scale of forest-clearing activity. A new international
mechanism to encourage slowing deforestation was discussed, but at the core of the
negotiations was the question of what commitments developing countries would
make to limit greenhouse gas emissions in future, and the continued unwillingness
of the USA to commit to emissions targets. With high drama in the effort to obtain
consensus, the conference managed at the last minute to produce a ‘Bali Roadmap’
that set timetables and parameters for vital negotiations about the follow-up to the
Kyoto Protocol, which expires in 2012. For Indonesia this was a success in terms
of foreign policy. Both environment minister Rachmat Witoelar, as president of the
conference, and Indonesia’s President Susilo Bambang Yudhoyono, who involved
himself in the efforts to break the final deadlock, can claim some credit.
Of far greater impact on the general populace, former President Soeharto passed
away on 27 January 2008. Under his leadership from 1966 until 1998 Indonesia
achieved sustained high rates of economic growth and a considerable reduction
in poverty, and was transformed from the ‘prime economic under-performer’ in
Southeast Asia into a ‘newly industrialising economy’ (Thee 2001). His New Order
regime will also be remembered, however, for political repression, for widespread
human rights abuses (especially in East Timor, Aceh and Papua) and for the extensive system of corruption over which he presided, all of which resulted in his being
forced to resign when the economic crisis of the late 1990s robbed the regime of performance legitimacy. The final notable item in his long list of strong actions against
those who dared openly to criticise him was to secure in August 2007 a Supreme
Court reversal of earlier court decisions in favour of Time magazine, which Soeharto
had sued for defamation. The Supreme Court ordered Time to pay $106 million in
damages; a petition for a review of the ruling was lodged in February. Despite the
many black marks against the former president’s name, the government declared
a seven-day period of national mourning, and many observers were struck by the
genuine display of grief on the part of ordinary Indonesians at his passing.
MACROECONOMIC DEVELOPMENTS
Macroeconomic performance in 2007 was sound. Output (GDP) growth continued its steady upward trend through the third quarter, falling back a little in the
fourth, and exactly achieving the 6.3% expansion assumed in the budget for 2007.
Open unemployment has continued its gradual downward trend, from 10.5% in
February 2006 to 9.1% in August 2007. Consumer prices rose by 6.6% in the calendar year, almost exactly the same rate as assumed in the budget, and only a little
above the mid-point of the central bank’s target range (6 ± 1%). The exchange
rate against the US dollar has been reasonably stable, with a 4.4% depreciation
through 2007. The main stock market index showed a healthy return of more than
50% to investors over the year, notwithstanding a short-lived setback early in
the second half: the Indonesian stock market was the third-best performer in the
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region (Trimegah Research 2008). All categories of bank lending have been growing rapidly.
This solid performance was achieved despite recent turbulence in international
financial markets in the second half of the year. In July 2007 the ‘sub-prime lending’ crisis in the US found many financial institutions heavily exposed to high-risk
borrowers in the home mortgage market. This resulted in upward adjustments of
interest rates in many countries, and it is widely expected that world economic
growth will slow appreciably in 2008 as a consequence. The sudden upheaval
in global financial markets has been accompanied by rapid increases in oil and
food prices. These major external developments, and the way they are likely to
be handled by policy makers, call into question the likelihood that the Indonesian
economy will perform as well in 2008 as it did in 2007.
Economic growth
Year-on-year GDP growth continued to accelerate through the third quarter (Q3)
of 2007, reaching 6.5%—a rate exceeded in only one quarter (Q4 2004) in the postcrisis period—before declining slightly to 6.3% in the fourth quarter. Non-oil and
gas GDP continued to grow at a somewhat higher rate of around 7.0% for the last
three quarters of 2007 (table 1). Household consumption absorbs almost two-thirds
of GDP and, while still growing a little more slowly than the economy as a whole (at
5.6%), has continued to accelerate over the past six quarters, suggesting that individuals are increasingly confident about future prospects. Likewise, the growth of
investment spending, while much more volatile, accelerated significantly during
the last half of 2007, suggesting that this confidence extends to the business sector.
The capacity for future growth depends, of course, on investment.
The pattern of investment spending has been changing somewhat recently.
Although building construction growth accelerated noticeably in the second half
of 2007, to reach 9.9% in Q4, the acceleration of non-construction investment was
even more dramatic, with the growth rate moving from only 1.5% in December
2006 to over 19% a year later. This outcome was dominated by investment in
machinery and equipment, which recorded extremely rapid growth in the last
three quarters of 2007. A possible explanation for this is that businesses have
tired of waiting for the government to reform the labour market laws, and have
decided instead to substitute capital for labour in the production process. Investment in transport turned around dramatically in the second half of 2007, from
highly negative to quite strongly positive.
Both exports and imports have been growing a little more rapidly than the
economy as a whole, but import growth almost doubled in the December quarter, causing net exports to contract after growing strongly during the first three
quarters. Solid global demand and consequent price increases in the international
market resulted in record high export values in 2007. Total merchandise exports
in 2007 amounted to $114 billion, 13.1% higher than for the same period in 2006,
with an even larger increase of 15.5% recorded for non-oil and gas items, to $92
billion (CEIC Asia Database).1 Meanwhile, imports of raw materials have also
been increasing at a rapid pace, as has the much smaller category of capital goods
1 In this journal, ‘$’ refers to the US dollar. The exchange rate at the end of January 2008
was Rp 9,291/$.
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Tao Kong and Arief Ramayandi
TABLE 1 Components of GDP growth
(2000 prices; % p.a. year on year)
Sep-06 Dec-06 Mar-07 Jun-07 Sep-07 Dec-07
Gross domestic product
Non-oil & gas GDP
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By expenditure
Household consumption
Government consumption
Investment
Building construction
Non-construction investment
of which:
Machinery & equipment
Transport
Exports
Imports
Net exports
By sector
Tradables
Agriculture, livestock, forestry
& fisheries
Mining & quarrying
Manufacturing
Non-tradables
Electricity, gas & water supply
Construction
Trade, hotels & restaurants
Transport
Communications
Financial, rental & business services
Other services
5.9
6.6
6.0
6.6
6.1
6.7
6.4
7.1
6.5
6.9
6.3
7.0
3.0
1.7
0.8
8.5
–17.6
3.8
2.2
6.8
8.6
1.5
4.7
3.7
7.0
8.4
2.2
4.7
3.8
6.9
7.7
4.6
5.1
6.5
10.4
8.3
16.8
5.6
2.0
12.1
9.9
19.1
–25.8
–7.3
8.3
10.9
–2.6
–6.2
15.4
6.6
9.2
–1.2
12.6
–25.8
8.1
8.5
6.8
24.1
–28.6
9.8
6.5
25.0
26.3
–1.1
6.9
7.0
6.7
25.7
13.5
7.3
13.6
–14.2
4.1
2.6
3.9
2.6
3.4
–1.7
4.7
4.7
4.8
7.6
2.5
3.1
1.1
5.9
–0.0
5.8
6.2
5.2
3.2
5.1
1.0
4.5
–2.1
3.8
7.9
5.8
8.5
7.9
7.0
25.9
4.5
6.7
8.3
7.7
8.6
7.0
8.8
28.7
6.5
6.2
9.0
8.2
8.4
9.2
–0.0
31.0
8.1
7.0
8.2
10.2
7.7
7.6
0.8
28.8
7.6
7.0
8.3
11.3
8.3
7.9
4.4
26.6
7.6
5.2
10.0
11.8
9.9
9.1
5.6
31.7
8.6
7.2
Source: CEIC Asia Database.
imports; consumer goods imports have also been buoyant, reflecting accelerating
growth in consumption overall (figure 1).
On the production side of the national income accounts, growth of the nontradables sector remains consistently more rapid than that of the tradables sector,
with the differential between them widening significantly in the fourth quarter
of 2007 (table 1). Most of the sub-sectors within non-tradables have continued
to experience robust growth, with communications the stand-out performer.
Performance of the transport sub-sector was quite poor in 2007, however, consistent with a declining level of investment in the first half; this, in turn, may
have reflected insufficient spending by governments on transport infrastructure
(roads, ports, airports, railways and so on). Nevertheless, the growth rate in
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Survey of recent developments
11
FIGURE 1 Imports by Major Category
($ million)
6,000
5,000
2,000
Raw materials, lhs
1,500
4,000
Capital goods, rhs
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3,000
1,000
2,000
Consumer goods, rhs
1,000
0
Dec–06
Feb–07
Apr–07
Jun–07
Aug–07
Oct–07
500
0
Dec–07
Source: CEIC Asia Database.
transport recovered to 5.6% by the end of the year, after a surprisingly large
adjustment in the most recently issued national accounts data to the September quarter growth rate of investment in transport: this was revised to –1.1%
from the previously reported –7.5%.2 Within the tradables sector, growth has
been generally sluggish, with the exception of the September quarter growth
in the rather volatile agriculture, livestock, forestry and fisheries sub-sector.
Manufacturing growth rates declined steadily for the entire period shown in
table 1, to just 3.8% in the December quarter of 2007; it will be interesting to see
whether the recent rapid expansion of investment in machinery and equipment
can arrest this decline.
Despite this generally rosy economic growth picture, there is no room for
complacency. The expected global economic slow-down is likely to hurt Indonesia’s growth performance through its negative impact on exports. In response
to the sub-prime mortgage crisis, 2008 growth forecasts for countries and regions
that are the main destinations for Indonesia’s non-oil and gas exports have been
slashed; for example, the most recently available IMF World Economic Outlook
Update (January 2008: IMF 2008) projects significant reductions in output growth
in 2008 in the US, the euro area, Japan and elsewhere (table 2).
Aside from the external threats of a global economic slow-down and persistent uncertainty in financial markets, Indonesia’s performance will continue to be
affected by problems of its own making—specifically, inadequate infrastructure
and rigidity in the labour market (Manning and Roesad 2006). The weakness
of investment spending in the transport sector (until recently) and the sluggish
2 GDP data can be significantly adjusted over time: the growth rate for investment in machinery and equipment was also revised upward by 2.8 percentage points in the September
quarter.
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Tao Kong and Arief Ramayandi
TABLE 2 Indonesian Export Destinations: Export Shares and GDP Growth Rates
Sharea
(%)
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Japan
Euro area
USA
Singapore
China
Total
14.6
14.4
12.3
9.9
7.2
58.4
GDP Growthb
2007
(% p.a.)
1.9
2.6
2.2
n.a.
11.4
2008
p.a.)
(%
1.5
1.6
1.5
n.a.
10.0
a For the period January–November 2007; non-oil and gas merchandise exports only.
b Growth rates are estimates for 2007 and projections for 2008.
Sources: Export shares: BPS (central statistics agency); growth rates: IMF (2008).
growth of this sector have already been noted. Neglect of the infrastructure needed
to control flooding, particularly in important commercial and industrial centres
such as Jakarta, was very clearly demonstrated when the capital was cut off from
the main national airport, Cengkareng, after heavy rains at the end of January.
Fiscal policy
The budget for 2008 was enacted in early November 2007 (table 3). There were
a number of relatively minor changes from the draft version submitted to the
parliament in August, such that planned revenues increased by Rp 20 trillion
and planned expenditures by Rp 18 trillion; the revised deficit is only negligibly smaller, at 1.7% of projected GDP. The main adjustments on the revenue side
are a surprisingly large (proportionate) rise in international trade taxes, together
with increases in oil and gas revenues and in dividends from state enterprises. On
the expenditure side, there are large but unfortunately non-transparent rises in
‘Other subsidies’ and in ‘Other expenditure’, together with a range of increased
transfers to regional governments, not least of which is an almost four-fold jump
in ‘Adjustment funds’.
Of much greater importance than these changes is the absence of any change
at all in one of the most important numbers in the entire document: the assumed
world oil price, which remained at $60 per barrel. This figure is a little lower than
the actual average price in 2006 of $64.30 per barrel, significantly less than the 2007
average of $71.10, and roughly a third less than the level of $87.60 at the end of that
year. World oil prices were on a rapidly increasing trend in 2007, from $57 in Q1 to
almost $88 in Q4 and, although they levelled off in January at $90.70, they exceeded
$100 per barrel during part of February.3 There is little reason to believe they will
3 These data are world crude oil spot prices from World Bank, ‘Prospects for Development’ (Commodity Price Data), .
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13
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average $60 per barrel for the whole of 2008. The government, particularly the Ministry of Finance (MOF), risks being perceived as divorced from reality by making
this assumption.
Yet this is clearly not the case. Indeed, the MOF has undertaken its own analysis
of the impact on the budget of oil prices remaining near recent levels, and government ministers have discussed this analysis in public forums (e.g. Pangestu 2008).
If the average oil price turns out to be, say, $100 per barrel in 2008, oil revenues
(including income tax from oil and gas producers) are expected to increase by
$13.7 billion, while expenditures on domestic fuel and electricity subsidies and
additional transfers to regional governments are together expected to rise by $19.7
billion. The impact would be to increase the deficit by about $6 billion—almost
doubling it, to about 3.0% of GDP. This increase would be large, but by no means
catastrophic.
The MOF has put forward a list of nine anticipative policy measures in an
attempt to assure observers of the government’s preparedness to cope with the
impact of significantly higher oil prices. Unfortunately the two documents outlining these measures (Abimanyu and Megantara 2007; Pangestu 2008) give few
details, and appear to differ somewhat from each other. The discussion that follows is therefore necessarily based to some extent on guesswork. The list includes
both revenue-increasing and expenditure-reducing measures, and it is claimed
that together they would almost exactly offset the impact of oil price increases on
the budget deficit, thus leaving it at 1.7–1.8% of GDP even if the oil price should
rise to $100 per barrel. This claim seems somewhat lacking in conviction, however, because some of the items on the list are deficit-financing rather than deficitreducing measures.
Deficit-reducing measures
• Improving the efficiency (and thus the profitability) of Pertamina (the national
oil company) and PLN (the national electricity company), allowing an increase
in dividends from the former (which accounts for about half the dividend
income from all state-owned enterprises) and a decrease in subsidies to the
latter
It goes without saying that this is a desirable objective, but if it is feasible, this begs
the question of why the government would not move along these lines even if
there were no change in the oil price. Note also that, hidden in the brief discussion
of this item in Abimanyu and Megantara (2007) is the suggestion that Pertamina’s
efficiency could be improved by reducing the subsidy to consumption of fuels. Of
course it is profitability rather than efficiency that would be increased in this way,
but the interesting point is that these government officials appear here to be trying
to put the reduction of fuel subsidies back on the agenda for public discussion—
albeit with a high degree of circumspection.
• Increasing/’optimising’ tax revenue and dividends from the state-owned
enterprises (SOEs)
It is not clear how tax revenue from SOEs could be increased, since this depends
on their profits, which depend on their business success, rather than being a
matter for government discretion. And although it would be possible to require
them to pay higher dividends to their owner, this would simply shift the problem
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14
Tao Kong and Arief Ramayandi
TABLE 3 Budgets for 2007 and 2008
(Rp trillion)
2007
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REVENUE AND GRANTS
Taxes
of which:
Income tax
Oil & gas
Non-oil & gas
Value added tax
International trade taxes
Non-tax revenues
Resources revenues
Oil & gas revenues
Non-oil & gas revenues
State enterprise dividends
Other non-tax revenues
Grants
EXPENDITURES
Central government
Personnel
Goods & services
Capital expenditure
Interest payments
Subsidies
Fuel
Electricity
Food
Other
Social assistance
Other expenditure
Transfers to regional governments
Equalisation funds
Revenue sharing
Taxation
Natural resources
of which:
Oil
Natural gas
General funds allocation
Special funds allocation
Special autonomy & adjustment funds
Special autonomy funds
Adjustment funds
DEFICIT
BIESApr08.indb 14
2008
Agreed
2008
Change (% GDP)
Revised
Draft
Agreed
693.7
492.0
761.4
583.7
781.4
592.0
20.0
8.3
18.1
13.7
251.7
37.3
214.5
152.1
17.5
197.8
114.6
107.7
6.9
21.8
61.4
3.8
305.3
41.0
264.3
186.6
15.4
175.6
119.8
112.3
7.4
20.4
35.5
2.1
306.0
41.6
264.3
187.6
22.0
187.2
126.2
117.9
8.3
23.4
37.6
2.1
0.7
0.7
0.0
1.0
6.6
11.6
6.4
5.6
0.9
3.0
2.1
0.1
7.1
1.0
6.1
4.4
0.5
4.3
2.9
2.7
0.2
0.5
0.9
0.0
752.4
498.2
98.0
61.8
69.2
83.6
105.1
55.6
32.4
6.6
3.6
49.7
30.9
254.2
244.6
62.7
32.4
30.3
836.4
564.6
129.5
52.4
101.5
91.5
92.6
46.7
27.8
5.5
3.9
67.4
29.6
271.8
262.3
64.5
36.3
28.2
854.7
573.4
128.2
52.4
101.5
91.4
97.9
45.8
29.8
6.6
8.2
67.4
34.7
281.2
266.8
66.1
36.3
29.7
18.2
8.8
–1.4
0.0
0.0
–0.2
5.3
–0.9
1.9
1.1
4.3
0.0
5.1
9.4
4.5
1.6
0.0
1.6
19.8
13.3
3.0
1.2
2.4
2.1
2.3
1.1
0.7
0.2
0.2
1.6
0.8
6.5
6.2
1.5
0.8
0.7
12.1
9.8
164.8
17.1
9.6
4.0
5.5
–58.7
12.5
10.2
176.6
21.2
9.5
8.1
1.5
–75.0
12.9
10.8
179.5
21.2
14.4
7.5
6.9
–73.3
0.3
0.5
2.9
0.0
4.9
–0.6
5.5
1.7
0.3
0.3
4.2
0.5
0.3
0.2
0.2
–1.7
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Survey of recent developments
15
TABLE 3 (continued) Budgets for 2007 and 2008
(Rp trillion)
2007
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Revised
2008
Draft
Agreed
Agreed
2008
Change (% GDP)
FINANCING
Domestic financing
of which:
Government bonds
Foreign financing (net)
Foreign gross drawings
Amortisations (less)
58.3
70.8
75.0
91.7
73.3
90.0
–1.7
–1.7
1.7
2.1
58.5
–12.5
42.2
–54.8
91.6
–16.7
43.0
–59.7
91.6
–16.7
43.0
–59.7
0.0
2.1
–0.4
1.0
–1.4
ASSUMPTIONS
Nominal GDP (Rp trillion)
Real GDP growth rate (%)
Inflation (% p.a.)
Average exchange rate (Rp/$)
SBI average (3-month, % p.a.)a
Crude oil prices ($/ barrel)
Oil production (million barrels/day)
3,761
6.3
6.0
9,050
8.0
60
0.95
4,307
6.8
6.0
9,100
7.5
60
1.034
4,307
6.8
6.0
9,100
7.5
60
1.034
a SBI = Bank Indonesia Certificate.
Source: Ministry of Finance (2007).
elsewhere within the government sector—depriving the SOEs of cash resources
that they might otherwise have used for investment.4
• Prioritisation of government expenditures; and
• Use of unrealised expenditure in the budget
The government believes there is a potential for significant cuts to some items in
its budgeted expenditures, but does not reveal what these might include; explicitly
excluded, however, is any interruption to spending on poverty and infrastructure.
In addition, there appears to be an expectation of continued spending shortfalls
because of administrative bottlenecks of one kind or another, which obviously
would reduce the realised deficit.
• Modification of energy policy with regard to production and subsidisation of
oil and gas and power
Expanded crude oil production would increase government revenue, but the
budget already assumes an increased output of 1.034 million barrels per day (notwithstanding the fact that production has fallen short of budget assumptions for
the last three years), so it is difficult to imagine any additional deficit reduction
4 Changes in taxes and dividends paid by Pertamina as a result of higher oil prices are
presumably already taken into account in the ministry’s analysis of the budgetary impact
of the oil price.
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Tao Kong and Arief Ramayandi
BOX 1 MISSING THE BIG PICTURE: OIL PRICES AND ENERGY SUBSIDIES
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To focus on the implications for the deficit of potentially higher oil prices is almost
completely to ignore a key feature of the 2008 budget: the damage that is being done
by holding domestic fuel and electricity prices constant regardless of huge increases in
world energy prices. Indonesia’s oil and gas reserves are assets in the ground that have
the potential to be transformed into valuable assets of lasting benefit to current and future generations—such as schools, hospitals, other infrastructure and human capital.a
Instead, in the absence of policy adjustments, they are to continue to be plundered to
finance current consumption—with considerably larger benefits to the more wealthy
members of the community, whose direct and indirect consumption of energy is greater
than that of the poor. It is difficult to judge why the parliament would accept—or, indeed, favour—the patently unrealistic oil price assumption in the budget. Clearly it has
an important role to play in negotiating the details of the budget with the government of
the day, but items that involve assumptions about the state of the world in the fiscal year
in question should not be matters for bargaining, since they do not involve questions
of government policy. Requiring, or allowing, the government to assume an oil price of
$60 will not make it so in reality; requiring it to make a more realistic assumption would
force it to bring into the open the implication of its current policy of holding domestic
energy prices constant. If the average oil price in 2008 is indeed close to $100 per barrel,
the total cost of the implied subsidy is likely to be in the order of $26 billion (table 4). For
its part, the government’s commitment to the ideals of democracy, one of which is a high
level of transparency about its deployment of funds belonging to society, can hardly be
said to be strong if it is prepared to sign off on a budget that deliberately under-estimates
by perhaps $18 billion the cost of its policy of holding domestic energy prices constant.
a According to the Ministry of Finance (2007), combined spending by the ministries of education
and health accounts for 8.0% of the 2008 draft budget—less than the greatly under-estimated 8.9%
figure for energy subsidies based on the assumption of an oil price of $60 per barrel. (This sectoral
breakdown is not available for the agreed 2008 budget.)
potential here. On the consumption side, Abimanyu and Megantara (2007) state
that the success of the program to switch households away from (subsidised) kerosene to natural gas is vital to cutting subsidies, but there is no indication of how
this switch might be accelerated. Similarly, mention is made of bringing about a
switch in the fuel mix used in electricity generation, but it is not clear how this
would help to reduce the cost of producing electricity: presumably, producers are
already using the least costly fuels available to them.
Deficit-financing measures
• Issue more government bonds to the general public; and
• Issue bonds to regional governments in oil-producing areas
Both measures appear feasible. The rationale for the second measure is that
regional governments in oil-producing areas receive a windfall share of any
increase in the central government’s oil and gas revenues, which may leave
them with excess liquidity. If most or all of the additional transfers to local governments in oil-producing areas could be borrowed back by the central government, this would suffice to cover a significant proportion of the estimated
increase in the deficit caused by an oil price increase to, say, $100 per barrel (see
table 4 in box 1).
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17
BOX 1 (CONTINUED) MISSING THE BIG PICTURE: OIL PRICES AND ENERGY SUBSIDIES
TABLE 4 Estimated Impact of $100 per Barrel Oil on the Budget
Agreed 2008 Budget
Rp trillion
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Oil & gas revenues
Income tax, oil & gas
Natural resources revenues, oil & gas
Oil & gas expenditures & transfers
Energy subsidies
Fuel
Electricity
Oil & gas transfers to regional governments
Income tax, oil & gas
Natural resources revenues
Oil
Natural gas
Deficit
$ billiona
159.6
41.6
117.9
100.4
75.6
45.8
29.8
24.8
1.2
17.5
4.6
13.0
11.0
8.3
5.0
3.3
2.7
0.1
12.9
10.8
–73.3
1.4
1.2
–8.1
Add
New
Totals
$ billion
$ billion
13.7b
31.2
19.7b
17.6c
30.7
25.9
2.1d
4.8
–6.0b
–14.1
a
Rupiah values are converted to dollar values at the exchange rate of Rp 9,100/$ assumed in
the budget.
b The additions to the approved budget are from a presentation by the Minister for Trade (Pangestu
2008), based on an analysis by the Ministry of Finance, for an assumed oil price of $100/barrel.
c The additional value of energy subsidies is estimated as the addition to oil and gas expenditures
and transfers less estimated additional oil and gas transfers to regional governments.
d The additional oil and gas transfers to regional governments are assumed to be proportional to
the increase in the central government’s oil and gas revenue (78.1%).
Ross H. McLeod
Miscellaneous measures
• Use of contingency funds in the budget
The purpose of having a contingency fund is to provide a cushion against
unexpected and unfavourable future events. An average oil price much higher
than $60 per barrel in 2008 can hardly be described as unexpected; in any case,
using these funds would simply mean removing that cushion.
• Counter-cyclical fiscal policy measures
Counter-cyclical fiscal policy is running a deficit in order to increase aggregate
demand and thus stimulate economic activity (or running a surplus in order to
dampen it). Indeed, deficits in the various budgets and revised budgets in recent
years have been increasing, precisely with this in mind.5 Here, the ministry is arguing in favour of stimulating aggregate demand by offering income tax ‘facilities’ to
encourage both investment and the listing of firms on the stock exchange, as well
as a number of customs duty incentives. Such measures obviously tend to increase
5 Having said that, this strategy has been somewhat counter-acted by the ‘under-spending’
problem discussed below.
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Tao Kong and Arief Ramayandi
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rather than decrease the deficit, so it is hard to understand why they have been discussed in the context of the need to deal with an expected blow-out in the deficit.
In summary, the oil price is likely to be much higher than assumed, and this
will significantly increase the budget deficit in the absence of adjustments to other
expenditure and revenue items. None of the anticipative policy measures proposed seems likely to be able to achieve much in this regard, but the existence
of ‘fat’ in the budget and the inability of the government to spend as much as it
budgets for makes the problem less serious. In any case, it would not be difficult
to borrow by issuing additional government bonds to finance a larger deficit. For
a discussion of the likely impact of higher oil prices on the magnitude of subsidies
to energy consumption, see box 1.
In mid-February the government indicated that it would soon propose a further
revision to its 2008 budget in order to reflect the impact on the growth rate of the
probable slow-down in the world economy, and the likelihood of a much higher
oil price. The growth assumption was likely to be brought down to 6.4%, and the
oil price assumption increased to $83 per barrel (Nurhayati and Suharmoko 2008).
At the same time, the assumed inflation rate would be increased to 6.5%. Whether
a change in the oil price assumption will be accompanied by any change in energy
subsidy policies remains unclear. Reducing fuel and electricity subsidies is a complex issue, of course, and fraught with political risk to the incumbent government.
But we would argue that governments should always focus on the efficiency of
budget spending allocations in promoting superior economic outcomes, rather
than responding to populist or other pressures. It is important to avoid any negative relationship between government spending and economic growth, as was
evident in the pre-crisis period (Ramayandi 2003). Improved efficiency in allocating budget spending to infrastructure and other capital goods, in particular, has
to remain the core focus of the budget process.
Under-spending on infrastructure
That there was a significant reduction in spending on infrastructure in the aftermath
of the 1990s crisis is readily explained by the fact that the government had injected
a huge volume of its own bonds as new equity into the many banks that had failed.
Interest payments on these bonds immediately began to consume a large proportion of available revenues, which in any case were depressed as a consequence of
the deep recession that followed the crisis. More recently, however, the government
has turned its back on the opportunity presented by significant increases in the
world oil price to remedy this short-term forced neglect of infrastructure; it has chosen instead to bend to populist pressure to keep domestic fuel and electricity prices
low through heavy subsidisation. But even infrastructure spending for which funding is available in the budget has been hampered by administrative shortcomings,
especially at local government level. And in other infrastructure projects where the
government has tried to encourage private sector participation, this has been held
back by similar administrative and other institutional failings, and by the apparent
inability of the bureaucracy to formulate arrangements that would provide potential investors with an attractive rate of return relative to the risks involved.
Infrastructure inadequacies constitute an important part of the poor investment
climate overall, and impose a constraint on economic development (Lindblad and
Thee 2007: 25; Narjoko and Jotzo 2007: 159). Less than two-thirds of Indonesians
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have access to electricity, and blackouts are frequent (JP, 11/2/2008). More than
100 million people lack access to safe drinking water, and contaminated water is
the major cause of illness (USAID 2006). In 2004 only 58% of Indonesia’s 340,000
kilometres of roads were paved, and only around half were in good condition.
Traffic congestion continues to hamper the efficient operation of large cities like
Jakarta, Bandung, Medan and Surabaya, and satellite towns like Bogor, Bekasi
and Tangerang (World Bank 2008). City-wide flooding in Jakarta in early February claimed three lives and forced thousands to leave their homes (Antara News,
2/2/2008). The impact of torrential rain and high tides was compounded by rampant over-development and deforestation in the hinterland south of the city, and
by rivers and drainage canals being clogged with garbage.
Current infrastructure deficiencies can be attributed to three general factors:
inadequate budget allocations to infrastructure; under-spending of these allocations; and a lack of coordination between jurisdictions. In relation to the first factor,
recent overall budget allocations for infrastructure spending, at around 3% of GDP,
have been far lower than the pre-crisis levels of approximately 5% (World Bank
2004: 11). If existing infrastructure assets are to be adequately maintained and their
capacity increased, the financing needs are substantial. For example, according
to World Bank (2004) estimates, annual investments of $2–3 billion are needed to
meet even modest growth in electricity demand through to 2010; the roads sector
could easily absorb $700–750 million more per year for maintenance, betterment
and expansion; and $600 million per year is considered a conservative estimate of
the spending needed to meet the United Nations Millennium Development Goals
in relation to drinking water and sanitation. Raising Indonesia’s relatively low telecommunications density by one percentage point costs about $300 million.6
When the present government first came to office it had great hopes for overcoming its lack of revenue to devote to new investment in infrastructure by encouraging the involvement of the private sector through public–private partnerships
(PPPs) (McLeod 2005: 144–6). However, the implementation of this strategy has
been disappointingly slow. One of the reasons for this has been the administrative and political difficulties involved in land acquisition. McLeod (2005: 146–7)
described a new regulation that had been introduced precisely to facilitate the
resumption of private land for purposes such as the construction of public infrastructure. As is so often the case, however, the enactment of the new measure has
not been sufficient, on its own, to overcome the problem in question. Thus, for
example, the opening of the Cikunir toll road (part of the Jakarta Outer Ring Road)
in September 2007 had been delayed for two years owing to land disputes with
locals (Wongso 2008), despite the fact that the regulation clearly allows the government to resume land for such purposes upon payment of fair compensation to
its previous owners. More generally, problems with land acquisition are seriously
jeopardising the construction of major toll roads. By November 2007, only 250 of
the 12,000 hectares needed to construct the 40 toll roads currently planned had
been acquired, and land acquisition had yet to be completed for a single toll road
some three years after the 2005 infrastructure summit (Wongso 2008).
6 The lack of investment in fixed-line capacity by PT Telkom, the state-owned telecommunications company, is being offset by tremendous growth in mobile telecommunications,
where there is a strong private sector presence.
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Aside from the problem of delay, the evident ability of owners to hold out for
a higher level of compensation for resumption of their land creates an important risk for potential private sector investors. The government has responded by
guaranteeing to cap the land acquisition cost to be borne by private investors at
110% of the estimated cost (Wongso 2008); that is, the government guarantees to
pay the difference between the actual cost and 110% of the estimated cost.
The second factor contributing to infrastructure deficiencies is limited capacity at sub-national level to spend all the funds allocated to infrastructure. Since
2001, responsibility for the provision of infrastructure and public goods has been
devolved in large part from the central government to local governments, but the
latter still lack the technical capabilities to use the funds transferred to them for
planning and implementing infrastructure projects. To some extent, they also have
yet to embrace their new responsibilities as service providers. A consequence of
this is that a significant proportion of funds received from the central government
that could be used for infrastructure development have simply been deposited
with the banking system, often to be invested by the banks in Bank Indonesia
Certificates (SBIs), where they earn quite an attractive return. During the three
years to November 2007, sub-national governments’ bank deposits grew rapidly,
from Rp 59 trillion to Rp 141 trillion (CEIC Asia Database); the latter amount is
equivalent to over half of the total budgeted transfers from the central government to sub-national governments in 2007 (table 3). It is clear that the collective
capacity or desire of sub-national governments to spend is significantly lower
than the funds available to them.
A third problem with certain types of infrastructure arises from the need for
coordination between levels of government, and between different governments
at the same level. For example, national highways are the responsibility of the
central government, but they cross through provinces and districts, thus requiring coordination between these three levels of government. Even more difficult is the case of infrastructure related to water—irrigation, flood control, and
drinking water supply—all of which are very likely to involve the flow of water
across administrative borders. Despite the obvious need for it, examples of intergovernment cooperation in relation to infrastructure projects of this kind are few,
and there seems to be a lack of commitment to promoting such cooperation and
coordination. Much more thought will need to be given to creating appropriate
incentives for cooperation than has hitherto been the case. For example, cities
such as Jakarta and Bandung rely on adjacent jurisdictions for their water supplies, and are heavily affected by flooding after rain falls in adjacent jurisdictions,
but the latter have little or no incentive to supply water or to control rainfall runoff to the big cities downstream from them.
Financial markets and monetary policy
The stock market and the foreign exchange market
After a short-lived setback in August related to the emergence of the sub-prime
crisis in the US, the Indonesia Stock Exchange performed very well for the remainder of 2007 (figure 2).7 The Jakarta Composite Index (JCI) rose by 43% from its low
7 The Jakarta and Surabaya stock exchanges merged to become the Indonesia Stock Exchange (IDX), effective from 30 November 2007.
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FIGURE 2 Jakarta Composite Index (JCI) and Exchange Rate
JCI
3,000
Rp/$
12,000
JCI
2,500
10,000
Exchange rate
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2,000
8,000
1,500
6,000
1,000
4,000
500
2,000
0
3-Jul-2007
28-Aug-2007
19-Oct-2007
14-Dec-2007
0
12-Feb-2008
Source: Indonesia Stock Exchange (IDX); Pacific Exchange Rate Service.
point in mid-August through to the end of the year, indicating considerable confidence in the Indonesian economy, particularly on the part of foreign investors:
indeed, monthly net share purchases by foreigners were positive throughout the
year. However, the Indonesian capital market appears still to be vulnerable to continuing volatility in the world financial market as a result of the sub-prime crisis.
The index suddenly fell by some 19% in the middle of January 2008, although
a large part of this loss was quickly recovered. In such circumstances, it is very
much open to doubt whether the IDX can continue to perform as well as it did in
2007. Of course, Indonesia is not alone in this respect.
The rupiah exchange rate was relatively stable during the several months
through January 2008 (figure 2). While this tends to be interpreted positively,
many other currencies have been appreciating against the US dollar during the
second half of 2007. The weakness of the dollar is a reflection of both the subprime crisis and the dramatic loosening of US monetary policy in response to it.
Figure 3 compares exchange rate trends among five ASEAN economies (Indonesia, Singapore, Malaysia, Thailand and the Philippines), and shows that the
rupiah, alone among the currencies of this group, failed to appreciate against the
US dollar during the second half.
At first glance, this anomalous behaviour of the rupiah exchange rate seems to
suggest that the central bank (Bank Indonesia, BI) has been intervening heavily
in the market by purchasing dollars in order to keep the rupiah from appreciating like these other currencies—an argument that is bolstered by the observation
that BI’s foreign reserves jumped by about $6 billion in the second half of 2007,
to $57 billion. According to market participants and BI officials, however, BI did
not engage in large-scale purchases during this period; indeed, BI argues that it
has been consistently committed to allowing the rupiah to float by avoiding such
market intervention.
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Tao Kong and Arief Ramayandi
FIGURE 3 Dollar Exchange Rate Indicesa
(June 2007 = 100)
110
100
90
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80
70
SGD
MYR
THB
PHP
60
50
Jun–07
IDR
Jul–07
Aug–07
Sep–07
Oct–07
Nov–07
Dec–07
Jan–08
a IDR = Indonesian rupiah; MYR = Malaysian ringgit; PHP = Philippines peso; SGD = Singapore dol-
lar; THB = Thai baht.
Source: CEIC Asia Database.
The explanation for the paradox of rapid increases in reserves in the absence
of open market purchases of foreign exchange appears to be that there is a large
inflow of oil export dollars to the government’s deposit account at BI. These dollars are immediately converted to rupiah in the government’s account, presumably at the current market exchange rate. By contrast with the case in which BI
acquires dollars by purchasing them on the open market, there is no impact on the
supply of base money, since base money does not include government deposits
at the central bank. This means that there is no need for sterilisation—that is, no
need for BI to issue SBIs to offset the monetary impact—which explains why the
volume of SBIs outstanding remained virtually unchanged during this period.
One implication of these off-market purchases of foreign exchange from the government is that they send false signals to market participants. If instead the government were to sell its foreign exchange earnings on the market and deposit the rupiah
proceeds in its account with BI, either this additional large supply of dollars would
tend to cause the rupiah to appreciate, or BI would need to intervene to purchase
this additional supply if it wanted to prevent such appreciation. In other words, the
exchange rate observed in the market is artificially high as a consequence of the hidden sale of foreign exchange by the government to the central bank.
Inflation and monetary policy
At 6.6%, consumer price index (CPI) inflation for 2007 fell within BI’s target range
of 6 ± 1%, although the 5.8% rate achieved mid-year was not able to be sustained
(figure 4). The trend was upward during the second half, and the year-on-year
rate recorded in January 2008 reached 7.4%. This modest resurgence suggests that
BI may have been too eager to ease monetary policy (that is, to reduce interest
rates) during 2007. Further reductions were put on hold in January, which was
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FIGURE 4 Inflation and the Monetary Policy Interest Rate
(% p.a.)
14
12
Food prices
10
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8
SBI rate (30 days)
6
CPI
4
2
0
Dec–06
Administered prices
Feb–07
Apr–07
Jun–07
Aug–07
Oct–07
Dec–07
Source: CEIC Asia Database.
unsurprising given the central bank’s decision to lower its inflation target range
to 5 ± 1% in 2008.
When the CPI is disaggregated into its various components it can be seen that
food prices have been growing much faster than the index as a whole, while
administered prices under the control of the government have been growing
much more slowly (figure 4). Price movements within the food component of
the CPI are by no means uniform, however (figure 5). Prepared food prices have
FIGURE 5 Food Price Inflation: Selected Components
(% p.a.)
50
40
Fats & oils
30
Cereals, cassava &
related products
Eggs,