Industrial Policy and the Limits of State Capacity
Industrial policy, if well-designed, can serve as a catalyst for growth. However, if misguided, it has the potential to become an expensive illusion that hampers Indonesia’s economic future.
Jakarta (ANTARA) - The question of when the state should intervene to promote certain industries is not a new one.
From the era of empires to modern states, governments have always been tempted to “tilt the scales” to accelerate economic growth. In Indonesia, this debate has become relevant again amid the grand ambition to become a high-income country by 2045.
The government faces strategic choices: To what extent should industrial intervention be carried out, and how to do it without causing harmful distortions in the long term?
Global experience shows that industrial policy is something that cannot be avoided. Almost all countries, both advanced and developing, use this instrument in various forms. The latest data indicate that more than 180 countries have strategies that explicitly target specific sectors, from manufacturing and energy to digital technology. Indonesia itself has long done so, from downstreaming natural resources like nickel and bauxite, to developing electric vehicles and the digital economy.
However, the success of industrial policy is never automatic. History shows many failures, especially in developing countries that use policy instruments too broadly and inaccurately.
This is where Indonesia’s challenge lies. In recent years, the government has increased various fiscal incentives, from tax holidays and tax allowances to energy subsidies and industrial financing. In 2024, for example, the total tax incentives provided by the government are estimated to reach more than Rp350 trillion.
On the other hand, energy subsidies remain around Rp300 trillion per year. The question is: Does all this truly drive economic transformation, or does it create dependency?
The main problem with industrial policy in many developing countries is the tendency to use “blunt instruments” such as high tariffs and broad subsidies whose impacts spread throughout the economy.
Indonesia is not entirely immune to this problem. Import tariffs for some strategic commodities are still relatively high, while policies restricting exports of raw materials, such as nickel, have triggered negative responses from trading partners. Indeed, the nickel downstreaming policy has increased export value from around US$3 billion in 2015 to more than US$30 billion in 2023.
However, this success is also accompanied by risks: Dependency on a single commodity, environmental pressures, and potential international trade disputes.
Empirical evidence