RI's foreign investment and technological development

RI's foreign investment and technological development

By David Ray

MELBOURNE (JP): In my articles last year in this paper I
argued that producing and using "ideas" (technology) was crucial
to Indonesia's continued development. "Producing ideas"
essentially means product and process innovation as well as
research and development, while "using ideas" means exploiting
technology that is already available in advanced countries. The
focus of this article is on the latter.

For many developing countries like Indonesia, the most common
method of learning and using foreign technology is through some
form of contact with transnational corporations. Technology
transfer from such corporations to local firms can be generated
through a licensing agreement or through direct foreign
investment.

The type of foreign investment attracted to a country is
indicative of the host country's technological capacity. Higher
human capital levels and a better-developed science and
technology infrastructure would not only attract more technology-
intensive foreign investment but also facilitate greater
technology transfer.

In Indonesia's case however there is widespread skepticism
about the technological benefits from inflows of foreign
investment, or resulting spin-offs. Much of the recent inflows of
foreign investment have been in low-tech labor-intensive
manufacturing, such as textiles, garments, shoes, consumer
electronics consisting primarily of assembly operations using
imported parts and components.

Critics such as Technology Minister Habibie see such
investment as "footloose", suspecting that it will simply
relocate elsewhere whenever domestic wage rates get too high, and
can therefore not be relied upon to help generate a stronger
industrial structure.

Much of the dramatic increase in foreign investment approvals
over the past 7-8 years reflect the trend for relocation of
foreign industrial firms to Indonesia.

The recent liberalization of foreign investment laws, plus the
relatively low wages and less stringent environmental regulations
have made Indonesia a popular destination for relocation
investment from firms in Japan, the United Kingdom, the United
States, Taiwan and Singapore.

The key issue for Indonesia is whether these investments
represent the relocation of a number of "sunset" industries that
contribute very little to the host country's technological
development, or whether such investment is becoming more
knowledge-intensive commensurate with Indonesia's need to "move
up the technology ladder.

To explore this issue I shall use methods developed here at
the Center for Strategic Economic Studies as a means to construct
an index of technology composition for Indonesia's incoming
foreign investment.

Using this approach we can divide Indonesia's foreign
investment into 22 main industry groups according to their degree
of knowledge-intensity. This is measured by the average level of
Research and Development expenditure per unit of production in
those industry groups for the OECD countries taken as a whole.

The highest R&D-production ratios are found in industries such
as aerospace (20.2%), computers (12.4%) and electronics (10.8%)
whilst the lowest are in the wood and furniture (0.1%), paper and
printing (0.2%) and textiles and clothing (0.2%) industries.

The investment data are then weighted using these R&D ratios,
summed and rebased to produce an index of technology composition
whereby an index value greater than one indicates that inflows of
foreign investment are concentrated in industries with a high R&D
intensity, while a value less than one indicates a concentration
in industries with low R&D intensities.

Empirical results suggest that there is a general upward trend
in the technology composition index of foreign investment.
However, the series is very uneven due to the "lumpiness" of the
data, as there are large jumps in investment approvals for
certain industries. The upward trend of the technology index is
made significantly clearer using five year averages (see
graphic).

There are however a number of important caveats that need to
be mentioned before interpreting these results.

Firstly, it must be remembered that the index has been
constructed using R&D-production ratios from the OECD countries
from the late 1980s.

However for any specific country, be it developed or
developing, the R&D intensity of production might be quite
different to that of the OECD average, reflecting the unique
conditions of that country at that time.

One of the key problems with this approach is that it assumes
that the knowledge-intensity of activities in, say, the
electronics and pharmaceutical industries in the OECD countries
would be the same as that in Indonesia.

In the OECD such industries focus their activities more toward
research and design in stark contrast to Indonesia where the
electronic and pharmaceutical industries are involved in mainly
assembling and packaging with little or no R&D activities.

Another important caveat relates to what exactly the data
represents. Due to data constraints, the above empirical analysis
focuses on investment approvals rather than realized investment.

This has become standard practice for those researching both
domestic and foreign investment in Indonesia. Only about 40-50%
of approved investment is realized. This reflects, amongst other
things, the complicated bureaucratic procedures involved in
investing in Indonesia, and the fact that investors file multiple
applications and later seek capital backing for successful
projects.

Some Indonesian economists argue that there is little point in
relying on the BKPM (Investment Coordinating Board) data to
accurately measure the inflow of foreign investment. For the
purposes of this study, however, the BKPM data is able to show
what type of foreign investment is attracted to the Indonesian
manufacturing sector. As the above graph indicates, foreign
investment over the past few decades has gradually become more
knowledge-intensive commensurate with Indonesia's need to climb
the "technological ladder."

The writer is a researcher/doctoral candidate/consultant at
the Center for Strategic Economic Studies, Melbourne Australia.