RI's economy hinges on drifting legal framework

Umar Juoro, Jakarta

In every discussion about the main obstacles to doing business in Indonesia, the problem of the legal framework is almost always at the top of the list. However, the implication of this is different from one case to another. From the administration and House of Representatives (DPR) point of view, this means more laws and more regulations should be enacted. While, from the business point of view, generally, this means certainty and reliability. For the court system, this means making decisions in its own way based on their own interpretation of laws or even the Constitution.

During the Soeharto era, practically the entire administration under his strong leadership was the sole institution to interpret the Constitution, and the main actor in drafting and passing the laws. The House was a rubber stamp body. Meanwhile, the legal system was also under his direct control.

Nevertheless, in that situation, the legal framework at the time was able to give certainty to businesspeople. Business disputes were resolved, not through the legal process, but by the heavy handed state apparatus, whether bureaucracy or security forces. Certainly from a democracy and human rights point of view this measure is hardly acceptable, but for development, this approach was accepted as a way to propel high economic growth.

In the current reform era, things have been changing drastically, especially after the amendments to the Constitution. The House and the People's Consultative Assembly have more say, not only in drafting and passing the laws, but also in changing the Constitution. The creation of the Constitutional Court makes this body the sole interpreter of the legality of the Constitution.

Unlike the Soeharto era, where laws guiding economic activities were interpreted in order to accommodate economic liberalization, without necessarily amending the Constitution, now, the laws considered too liberal, such as opening to competition certain economic sectors, such as electricity and oil/gas, can be annulled or asked to be revised by the Constitutional Court if they are not consistent with the spirit of the Constitution.

Judging from that situation, one may be pessimistic that a reliable legal framework can be secured before doing business in this country. Just an example, the recent presidential decree on land acquisition for infrastructure projects was immediately challenged by several non-government organizations. They claim it is against the agrarian law that guarantees property and human rights in general. This case may go to the Constitutional Court and the court might annul the decree, thereby jeopardizing the investor interest in infrastructure development, which is desperately needed in this country.

In general, the legal framework will drift in the direction depending on which institution is involved in it.

This factor, in a very open sociopolitical environment, keeps the legal framework adrift, creating a high degree of uncertainty.

Under these circumstances, the bureaucrats, judges and state police, tend to make decisions that are most suitable to their own interpretations of certain laws and regulations and to their interests. They know that the government cannot intervene. This is why bureaucrats often do not even abide by decrees or regulations on reform measures made by the President and his ministers.

However, this does not mean business cannot flourish in Indonesia. Though there has not been much improvement in the legal framework, the economic growth in the first quarter of 2005 was 6.35 percent (year-on-year) spurred by investment, which expanded by around 15 percent.

When we look further into the base of this relatively high growth, it turns out that it was the sectors that do not rely on an extensive legal framework that have flourished, such as telecommunications (mainly wireless), construction (especially apartments, housing and malls), and trade (especially retail).

The financial sector also grew robustly, even though banks and financial institutions are heavily regulated, because the activities were mainly on the consumer and retail side that are much less regulated.

The sector that requires a solid legal framework, such as mining and oil/gas, suffered from disappointing downturns. Furthermore, we can infer that the less a sector requires solid legal framework or the less regulated is a sector, the better the performance, and vice-versa, a sector that relies on solid regulation will continue to languish.

We can also see the situation from the origin of investors. The domestic and other Asian investors, especially from Singapore, Malaysia and China, are able to understand the situation very well, realizing that the opportunity for business is large and the expectation is high, despite the existence of a weak and unreliable legal framework.

As long as their local business partner is reliable and well- known and prefers to resolve disputes out of court, high returns are guaranteed from the investment that they jointly make. However, for North American and European investors in general, and to some extent Japanese, that rely more on solid legal framework for investment, the situation is not yet attractive.

They need more time to decide on significant investment and will wait until the legal framework is reliable, except for short-term portfolio investors. So it is no wonder that the elite business and government people are starting to pay more attention to Chinese investors, especially in infrastructure and natural resource projects.

The question becomes, is that situation going to be sustainable? The answer is likely no. Simply tapping the opportunity and high expectation without a solid legal framework will eventually lead to severe difficulties to resolve disputes because of economic or political reasons that might come later on.

The three branches of government should work together for a common interest of the greater long-term welfare of the people. They should not pretend to be independent of each other while undermining each function in practice.

The writer is the Chairman of CIDES (Center for Information and Development Studies) and a Senior Fellow at the Habibie Center.