Change in base year a key turn

Change in base year a key turn

The Central Bureau of Statistics recently announced the change in the base year for calculating the Gross Domestic Product from 1983 to 1993. The significance is probably that it is now safe to talk about seven percent growth and not have to hold one's breath for fear of overheating, argues noted economist Mari Pangestu.

JAKARTA (JP): The base year is needed to calculate real Gross Domestic Product (GDP) growth; that is, to measure real growth in production and incomes in the economy, one must take out the price effect. Therefore, the value of production, measured in real terms, is simply the amount produced in physical quantities, times base year prices.

The revision of the base year itself is not an unusual practice and is undertaken to reflect major turning points in an economy.

Between 1983 and 1993 the structure of the GDP in Indonesia has changed considerably, due to changing external factors such as the fall in oil prices, deregulation and a more open economy. The share of the manufacturing sector, out of the GDP, has increased from 12.7 percent to 22.3 percent; the agriculture sector decreased from 22.9 percent to 17.9 percent; and the oil and gas sector decreased from 21 percent to 9.6 percent.

The choice of the base year should also be based on a year where the increase in prices are considered to be stable. Thus, the years 1989 to 1991 are not considered to be good base year candidates because this was a period of so called overheating and 1992 was a year of tight monetary policy, which led to lower than usual inflation. Even though inflation in 1993 was close to 10 percent, it is still considered to be a year of normal price increases because inflation was caused by supply side factors, such as the increase in fuel and electricity rates, rather than excess demand pressures.

The question that comes to mind is - so what lies beyond these statistical changes? The change in the base year has raised the growth rate by half a percent, from 6.81 percent (in 1983 prices) to 7.34 percent (in 1993 prices). The most frequent comment one hears is that the government is playing around with numbers and making growth look higher (for what ever reason). In this case, the higher growth figure, in 1993 prices, merely reflects the fact that while some prices have risen and some have fallen (such as oil), for the products included in the GDP over the 1983 to 1993 period, the net effect is one of a price increase.

Another reason for the higher growth is that there are new sectors included in 1993, compared with 1983. That is, sectors that did not exist or were not significant in 1983. The sectors are mainly in services related to telecommunications, business services, financial sector services and tourism. For instance, in 1983, financial services related to the capital market were very limited; now it is a significant sub sector.

Now let us talk about growth itself. The growth of the main sectors in 1994, manufacturing and the major service sectors, were more or less normal, whereas growth in construction was relatively high, due to the property sector boom, and in agriculture abnormally low because of the long drought, with rice production experiencing negative growth, so that overall agriculture growth was only 0.32 percent in 1994.

If growth in 1994 was 7.34 percent of 1993 prices, what will growth be in 1995? Previous estimates, by both the government and private forecasters, was for growth in 1995 to be much better than in 1994 due to the better world and domestic economic conditions, as well as expectations that the agriculture sector will rebound. Towards the end of last year and at the beginning of this year, government estimates and private forecasters were predicting a growth of seven percent to 7.5 percent in 1995, based on 1983 prices. Will this translate into a 7.5 percent to eight percent growth in 1993 prices?

Given the present situation, it is likely that the 1995 growth will only be slightly better than 1994, so that growth will be about 7.3 percent to 7.4 percent. The reasons being, first, that the rebound in agriculture may be less than expected due to the possibility of drought again and the limits posed by availability of cultivated land.

Second, is that given continued concerns about inflation and nervousness about the rupiah, the Central Bank is likely to keep a close eye on liquidity and thus interest rates may still go up. Inflation up to March is slightly above three percent, which is lower than the same period last year, but inflationary pressures will continue to build up due to price increases in cement and construction materials, sugar and due to cost increases caused by the increase in regional minimum wages. There is also still the possibility of international interest rates going up later in the year. Thus, higher interest rates domestically could slow down investments and reduce interest sensitive consumption, not to mention the problems that may arise in the property and banking sectors.

Third, is that growth in non-oil exports may not pick up as expected, due to the continued lackluster recovery in Japan and that realization of export oriented investments may still be slow.

To end on an optimistic note, 7.3 percent is still a good rate of growth for 1995 and will be mostly driven by the fast growing sectors, mainly manufacturing and services, especially infrastructure related services, and by a relatively rapid growth in domestic consumption and investment.

However, the higher growth figure should not mislead us into thinking that everything is rosy. First, what is high or low is relative, our neighbors are growing at above eight percent and without inflationary pressures building up. The homework to reduce structural and infrastructure bottlenecks, increasing productivity and technological capability remains. The key, as always, is continued deregulation, removal of distortions and inefficient monopolies.

Second, the distribution issue - whether it is by income group, by size of enterprise and by region - remains a priority issue.

Third, inflation is still relatively high, to the extent that inflation is a structural problem because of supply constraints that cannot respond quickly enough to increased demands. This means that bottlenecks, such as in infrastructure and inefficient monopolies in production and distribution, need to be overcome.

The homework to continue deregulation, increase efficiency, enhance technological capability and ensure equitable distribution continues to be important. Finally, a priority consideration is that if one took into account environmental degradation, will growth remain at 7.3 percent?

The writer is head of the economics department of the Centre for Strategic and International Studies and a lecturer at University of Indonesia.