Increasing fiscal discipline

Increasing fiscal discipline

The House of Representatives approved on Monday the draft
state budget for 2004 with slight changes in the key economic
assumptions but the central theme of the spending plan remains
the same -- high fiscal discipline.

The House and the government shared a more optimistic outlook
for the economy, expecting bigger external demand for Indonesian
goods due to the stronger growth of the global economy. The
Indonesian economy is estimated to expand by 4.8 percent next
year, up 0.3 percent from the earlier assumption used in the
budget plan when it was proposed in mid-August.

They also were equally upbeat about the monetary condition,
predicting an average short-term interest rate of 8.5 percent (as
against the earlier assumption of 9 percent), inflation at 6.5
percent (7 percent), international oil price at $22/barrel ($21)
and the average exchange rate of the rupiah against the dollar at
Rp 8,600 (Rp 8,700).

The changes in the key economic assumptions are, however, too
small to effect significant changes in the aggregate figures on
spending and revenues. The bottom line is nevertheless quite
encouraging because the new assumptions will enable the
government to lower its budget deficit to as low as 1.2 percent
of the gross domestic product, as against 1.9 percent estimated
for the current year.

The smaller deficit will be made possible by the combination
of larger tax receipts due to the higher economic growth and
smaller service burdens for domestic debts as a result of the
decline in the central bank's short-term interest rate.

However, the smaller deficit is still quite challenging,
especially next year when the government will no longer be
entitled to a debt-rescheduling facility from the Paris Club of
sovereign creditors. This factor alone will increase the service
burdens of the government's external debts by $3 billion. On top
on this, about Rp 20 trillion in government bonds will mature
next year.

The decline in the budget deficit is nevertheless quite
impressive as it reflects a high sense of budget discipline even
in an election year when most governments usually launch populist
programs, the distribution of political goodies to attract
voters.

But again, as analysts and the House have repeatedly warned,
all these budget figures, however conservative they may be, are
simply estimates that have to be realized through action
programs.

Fiscal discipline should be maintained to achieve the key
assumptions for inflation and interest rates which, in turn
heavily influence the rupiah rate and budget deficit. Budget
discipline is especially crucial next year in anticipation of a
steep increase in private consumption as political parties
escalate campaigns throughout the country.

Excessive spending outside the budget guidelines not only will
increase inflationary pressures but may also force the central
bank to expand its open-market operations and raise its benchmark
short-term interest rate to soak up excess liquidity.

This monetary tightening will in turn hurt businesses as they
have to pay larger interest costs on their loans. Further down
the line, business risks may also rise, prompting banks to
refrain from lending, preferring instead to put their excess
liquidity in the central bank's instruments.

Budget discipline means not only spending fully according to
the fixed appropriations but also seeing to it that all fees from
public services are transferred to the state coffers and that the
tax base continue to expand to increase revenues without
harassing businesses.

But the fiscal discipline should still be supported by
concerted efforts to improve trade-facilitation services such as
customs, port handling and transportation, the regulatory
environment and licensing system, otherwise Indonesia will not be
able benefit from the stronger economic growth expected in the
U.S. and Europe.

Hence, all in all, the 2004 state budget is quite
conservative. But it is the high spirit of fiscal discipline that
will make the market comfortable in the 2004 election year.

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