Governance, infrastructure main barriers to investment

David Green, Jakarta

Last November I said in The Jakarta Post (Nov. 25, 2004) that the long decline in investment spending might turn around. It did: Both domestic and foreign business spending appear to be picking up. The turn-around is certainly welcome and will support generally faster overall growth.

The call -- that investment would pick up -- was made on the assumption that the extraordinarily calm and smooth national elections in Indonesia would encourage businesses to invest in the future. The clear progress in establishing broad based democratic institutions, I felt, would put to rest old fears that the instability, political and economic, seen in the Economic Crisis in 1997-1998, would return.

Instability is deadly to business investment. People do not generally invest in a new manufacturing facility if they fear it could be destroyed in communal strife. Equally people do not invest if they fear unpredictable inflation would raise wage or input costs above product revenues. We have had clear progress on ensuring businesses of continuing stability.

Unfortunately this is not sufficient to encourage high business spending in a sustainable fashion and to turn the present 'boomlet' into a long period of prosperity. There remain a large number of issues that face potential investors. These problems exacerbate legitimate business risks and discourage people from long-term investments.

We know this because we have been actively speaking with business people. Staff from the Asian Development and the World Bank, partnering with the Coordinating Ministry for Economic Affairs and the Central Board of Statistics, conducted a survey of more than 700, generally large or medium-sized firms operating in Indonesia. The core of the survey asked firms to report on obstacles they face in their operations.

The survey was conducted in 2003 and has not captured many important changes that have occurred. This is especially true with respect to stability. As I said above, events over the last year represent real progress. However, in other areas there are mixed results and there are clear needs and opportunities for the Government to change, clarify, or revise policy to improve the environment facing investors. Problems were faced in two broad areas; (i) governance and institutional capacity and (ii) infrastructure.

Governance and institutional strength refers to such issues as transparency in regulation and the balance with respect to labor market regulations between the interests of workers and management. Regulatory certainty is a big issue. Starting up a business, for example, apparently takes longer and is more expensive in Indonesia than in regional comparator countries. Compounding this, it was said to take 151 days to establish a company in Indonesia, more than 2-1/2 times what it takes in any other Southeast Asian country.

Labor issues are always on the table when firms are asked what their problems are and to some extent this needs to be seen as only listening to one side. However, when the complaint is that labor regulations are being applied in a non-transparent fashion, this hurts both sides. Close to half the firms surveyed consider labor regulations to be moderate to very severe obstacles.

These problems are compounded by the perception that corruption is a serious barrier to business. The survey reported that local and national corruption were both near the top of the list of the most important obstacles faced by businesses. The firms queried reported that between 9-10 percent of revenue is handed over to corrupt officials in informal payments.

Infrastructure complaints referred especially to the difficulties experienced in ensuring adequacy of communications and transport systems and the availability of electricity and water. Although there have been clear improvements in telecommunications over the last decade, other countries have not stood still. Indonesia's ratio of fixed and mobile phone connections to the population is a fraction of that found in most of Southeast Asia. Electricity supply is perhaps the most obvious problem with firms reporting production losses equal to 4 percent of revenues due to supply problems.

None of these problems are new to any observer. Nor are they new to the Government. This administration has been quite forthright about the problems the country faces and has shown a clear determination to face problems. The Infrastructure Summit held in the midst of the national agony over providing relief to the people affected by the tsunami in January was a clear indication that the Government understands that infrastructure investment must be encouraged. The recent actions by the administration to deal with allegations of corruption by government officials or in state-owned enterprises will also have a longer-term impact if carried through and followed up.

The hard work on political and economic stability has borne fruit in a greater willingness of people, both domestic and foreign, to invest in Indonesia's future. We can encourage this to continue, but only if we continue to address the other problems that face businesses.

The writer is Asian Development Bank (ADB) Country Director. The article is a personal view.