Indonesia has the chance for stable economic growth

Indonesia has the chance for stable economic growth

Osman Rzyttka, Research Fellow, Department of Geography, University of Bonn
Germany

Indonesia's economy at the moment seems to be operating far
below its potential. Higher growth and employment rates could be
achieved, if more emphasis is put on the implementation of reform
in the judicial, financial and political systems targeting
corruption and collusion. Such behavior has negative impacts on
common welfare and leads to suboptimal state revenues at the cost
of constraining governing capabilities.

Indonesia has experienced difficult times since the economic
crisis hit Asia in 1997. Massive capital flight and the drastic
devaluation of the rupiah triggered roaring unemployment rates,
whilst the GDP fell by 13.4 percent in 1998. Recovery is slow
compared to its Southeast Asian neighbors: Reforms to restructure
financial an decision-making mechanisms in the administration
only started in the beginning of 2001.

Several factors seemed to have contributed to the Indonesian
crisis in 1997/1998:

First, the monolithic structures of the Soeharto
administration have proven incapable of providing balanced growth
for all members of society. The resulting disparities caused
social friction and an insecure business environment in the
follow up.

Second, foreign financial institutions provided unhedged loans
at relatively low interest rates to Indonesian businesses despite
the weak financial supervising authorities. With import-based
consumption remaining on a high level although productivity was
decreasing, Indonesian foreign debts became critical, business
confidence deteriorated and investors from abroad hurried to save
their assets.

Third, the Indonesian banking system proved to be inefficient
in administering the larger sums made available by the economic
boom years. Rent-seeking behavior seemed to be widespread and
supervising authorities were non-existent.

Provided that every percent growth in GDP creates one million
new jobs, Indonesia needs jobs and thus investments to address
its huge informal sector. With a GDP growth projection of 3.4
percent for 2003 and a population increase of a 2.9 million every
year, the job surplus could siphon off the workforce from the
informal shadow economy.

Since its non-transparent networks do not contribute to the
state budget through taxes and levies, government policy should
focus on minimizing informal activities as far as possible. As
observers doubt that there will be significant investments in
Indonesia prior to the elections in 2004, the time remaining can
be seen as a period of scrutiny, opening the chance to quickly
proceed with economic and democratic reforms and gain confidence.

As it seems, Indonesia has the options of a doom scenario of
ongoing instability, low or even decreasing capital inflow,
mainly restricted to infrastructure projects. On the contrary,
larger FDIs creating jobs and higher government revenues in all
sectors seem possible if the security situation improves and
democracy is able to consolidate. Only this will bring back what
has been deeply shaken by the Oct. 12 Bali bombing: Confidence,
especially since Indonesia has chosen to end the IMF program.

Government policies like the decentralization program
addresses the problems Indonesia has been facing: Regions are
allocated a larger share of funds and competence in decision-
making, whereas auditing institutions, regional councils and a
free press should be able to check the application of funds in
the sense of common welfare. This system of checks and balances
could minimize the costs of using pressure groups to achieve
political goals.

Resources then can rather be focused on education,
infrastructure and social systems. All three are key factors for
development: Recent research shows that significantly enhancing
the quality of education just for primary and secondary school
levels perhaps costs an additional Rp 10 trillion annually.

Infrastructure is another precondition for attracting
investments: by balanced spatial planning, the growth of clusters
for certain sectors according to potentials can be stimulated.
Research needs to be done on available regional human and natural
resources, what is produced out of the latter and how the overall
Indonesian share in value-addition can be increased. Domestic
capital to accomplish this can be either generated through labor
or the exploitation of natural resources. Sustainable growth
however, is based on labor, which tends to be more productive if
social standards apply.

There are three elements as a precondition to enhance the
reforms:

First the codes of conduct for institutions in general should
change from predatory patterns to more cooperation and
accountability, with common welfare and economic development as
the main objectives. If some representatives of the government do
not change their behavioral patterns in allocating and sharing
funds, state revenue will remain low, as will salaries and
budgets for administration, social services, education,
infrastructure and defense.

Second, some minor adjustments in revenue sharing seem
possible, allocating tax-generated funds from richer provinces to
poorer ones. Also, the option of increasing funds for the Dana
Alokasi Khusus (The Allocation of Special Fund) and specializing
it for infrastructure projects in poor regions might have a
balancing effect on development. These two instruments have the
potentials to create a solid foundation for growth, with the
stronger lending a helping hand to the weaker ones.

A lot has been already achieved: The foundation for
sustainable and balanced growth has been set by decentralization.
Now the larger framework for reestablishing business confidence
worldwide can be addressed: Government policy should focus on
creating an accountable supervising authority for the financial
sector, a constitutional court to handle disagreements between
different authorities, a fully computerized and accountable tax
system. A precondition to all of the above are well-qualified
civil servants.

A serious problem to be resolved is internal security: an end
of the bombings, stability in Poso, Maluku, Papua and peace in
Aceh would send the signal to the world that Indonesia is a safe
country to invest and operate in. The work done by the Indonesian
police in the Bali case already shows the right direction.

If Indonesia is able to create a stable and safe environment
through continuing the reforms, increasing capital inflow from
late 2004 or 2005 onwards seems possible.

The writer is also researcher at the Centre for Strategic and
International Studies (CSIS) in Jakarta.