Biting the bullet

We should commend President Susilo Bambang Yudhoyono's determination to make the unpopular-but-necessary decision to forge ahead and increase fuel prices. The increases will enable the government to allocate a larger share of resources to poverty alleviation and improve public services and other basic infrastructure in the country.

However, the effectiveness of this reform measure, which should have been taken by then-president Megawati Soekarnoputri in January last year, depends very much on leadership. It has nothing to do with popular legitimacy, as Megawati's failure to get reelected last September has convincingly proven.

But mishandling the policy, which removes the subsidies that affect the middle- and upper-income groups to help the poor, could still trigger massive street demonstrations and cause a social and political backlash at the expense of macroeconomic stability. The potential damage of such a backlash should not be belittled, given the lack of a nationwide, well-coordinated campaign to explain to the general public why prices will go up.

The government is right in arguing that it no longer requires approval from the House of Representatives to raise domestic fuel prices because the 2005 state budget, which was approved by the House late last year, allocates only Rp 19 trillion (US$2.1 billion) for the fuel subsidies, compared to an estimated actual need of almost Rp 60 trillion. Even this estimate is considered by many analysts to be conservative because the $35 a barrel average crude oil price used as the basis for the fuel prices could end up averaging at about $40 a barrel for the whole year.

Most analysts have concluded from the empirical evidence of the fuel price hikes between 2000 and 2003 that if future hikes are well managed they would not cause inflation to spiral out of control. They estimate that an average 30 percent price increase would cause inflation to increase by only between 1 and 1.2 percentage points, bringing up inflation for the whole year to about 7 percent.

Business leaders have estimated that a 30 percent rise in fuel prices would increase the production costs of goods and services, including transportation by 15-20 percent.

But all these assumptions about the moderate impact of higher fuel prices depend on the government's ability to sell the increases to the public; on people's perceptions of the fairness of the increase and of whether the government is acting out of a real sense of urgency and crisis.

Unfortunately, the government has done little to explain the increases and win over the public.

It seems to have wrongly assumed that since most of the fuel subsidies have always been enjoyed by the middle- and top-income segments of society that it needed only the understanding and support of the common people for the move. But the government should realize that within the political scheme of things here it is not the poor majority but the middle- and top-income groups that dominate the public opinion-making process. It is also businesspeople who could sabotage the reform policy through speculative measures. Vested-interest politicians in the House could make a lot of noise, confusing the issue to advance their hidden political agenda.

The House has insisted that it would support higher fuel prices if the government can guarantee that all the compensation funds for the poor reach their target beneficiaries, if the inflationary impact is well controlled and if the government works to stop waste and inefficiencies in fuel distribution.

While these requirements are important ones, they cannot be fulfilled overnight. It is therefore unreasonable for the House to impose these demands as the main preconditions of support of a badly-needed reform that has so long been postponed.

The government should indeed work harder to enlighten House leaders, university students, the media and other opinion leaders about the wider scope of the changes.

However, most important is for the government to improve inter-ministerial coordination to ensure that the compensation funds accrued from the rise in fuel prices reach their target beneficiaries, that the supplies of essential commodities remain adequate and their distribution remains smooth to prevent excessive price increases. All this would be necessary to prevent an excessively panicky reaction of the market.

More concerted efforts to prevent the waste and inefficiency caused by corruption -- bringing high-profile graft suspects to court within the next few weeks, for example -- would convey a clear message that the government was acting out of a real sense of urgency and crisis.

Increasing fuel prices are always likely to cause some protests and demonstrations but such rallies are likely to be short-lived if the government goes all out to ensure a smooth introduction.