A look at the military's business ventures

Awan Wibowo Laksono Poesoro, Jakarta

Since the fall of Soeharto in 1998, the military has gradually pulled out of the political arena but has retained its presence in the economy.

It argues that the official defense budget, which is now around 4.5 percent of this year's total expenditure of Rp 542 trillion (US$ 49.2 billion), or 1 percent of the GDP, is too small and accounts for only one-third of its expenditure.

It would be helpful to examine the military's place in the economy. Economics textbooks tell us, the economy is usually divided into market and non-market sectors. In the market sector, goods and services are exchanged so that producers must cover costs of production with sales revenue. In the non-market sector, goods and services are given away and producers must look for other sources to cover their costs.

Using this criteria, the military's place in the economy becomes clear-cut, at least theoretically. Its expenditure -- including operational costs (salaries, training costs and others), weaponry procurement, and infrastructure development -- should be used to produce given-away public goods and services; namely, its defense function. This function should be funded with the defense budget made up from government tax income. Thus the military should be classified in the non-market sector.

Yet, the amount of military expenditure has been much larger than that given to it in the defense budget, and the military therefore finds additional funds through military businesses.

Compared to their market competitors, military businesses have some important advantages: extra political clout, special privileges for investment permits, the use of military assets -- including soldiers -- to utilize state assets, the abilities to exploit limited public infrastructure, to participate in government project bids and to attain privileged information about government policies.

These privileges also lead to negatives.

First, privileges create market distortions via high information and transaction costs -- the costs of searching relevant prices and of securing agreements, like billing costs and bad debts -- resulting in the misallocation of resources.

Second, they encourage corruption and collusion.

Third, they undermine soldiers' professionalism.

Fourth, they worsen civil-military relations by making the military independent of the budgetary control wielded by its civilian masters.

Indonesian military businesses can be classified into three kinds of activities.

First, formal military businesses. Here, the military as an institution is legally involved in commerce directly through military-run corporations owned by foundations and cooperatives and through the commercialization of military assets and security functions and indirectly via some degree of ownerships in certain private companies.

Each branch of the service has its own foundations. For example, the army has Dharma Putra (owned by the elite unit Army's Strategic Reserves Command, or Kostrad) and Kobame (owned by Army Special Force, or Kopassus), while the Navy has Bhumyamca and the Air Force has Adi Upaya. The foundations own an army of corporations, operating in the trade, insurance, financial, tourism, construction, property, forestry, transportation, banking, and health sectors. All branches also have cooperatives -- like Inkopal, Inkopau, and Inkopad -- which run plenty of business activities.

Second, informal military businesses, where the legal businesses are not owned by the military as an institution but by parties related to the military, like retired top brass.

Third, illicit military businesses, meaning the businesses are unlawful and run by some military members without headquarters' authorization.

It turns out that the formal military businesses on average only generate profits around 1.4 percent of the annual defense budget (Rp 23.3 trillion)-- not much of a contribution. This fact plus their negative impact make their existence more malign than benign.

The government should end these formal military businesses. In fact Article 76 of Law 34/2004 on the TNI, rules that in five years after the signing of the law, the government must take over all business activities owned and run directly and indirectly by the TNI.

The purpose of this bill is to pull the military out of the economy, improving budget accountability and transparency. Argentina's experience shows that though the privatization of its military the businesses only recovered one-seventh of the assets' book value, while this privatization reduced corruption, improved credit-worthiness, and attracted investment.

The government is expected to start dissolving military businesses soon. As the TNI supreme commander, the President is expected to issue a Presidential Regulation on the matter.

The next step would be the government transferring the military business ownerships to the Minister of Finance as the state treasurer. The minister then forms a divestiture body responsible for conducting due diligence processes; assessing these businesses' performance. Based on the due diligence results, the divestiture body can close these businesses, liquidate them, transfer them to state-owned enterprises, or sell them off to private companies.

To get optimal results, the President should commence the divestiture immediately. If the military manages to transfer assets from formal activities to informal ones, the divestiture would be futile. In new informal or illegal forms, these businesses would be more difficult to control.

Regarding the cooperatives, the government should restrict their business activities only to the provision of soldiers and their dependents. For example, cooperatives can run, as in the U.S., post exchanges, hypermarkets exclusively for soldiers and their relatives, and sell commodities like food, clothing, medicine, appliances, and electronics at discounted prices. The profits earned can then be used to enhance the soldiers' welfare.

The duty of financing the military rests solely on the government. Letting the military fund itself via off-budgetary income will demoralize our soldiers and create jealousies among the rank-and-file, as only a handful of servicemen will benefit. Soldiers should be proud of their ability to wage war, keep the peace or participate in civil defense, not about their ability to make a profit.

The writer is a researcher at the Indonesian Institute, Center for Public Policy Research.