The government is risking piling big mistakes on top of huge errors, all at the expense of the basic foundation of the economy, by stubbornly refusing to bring domestic fuel prices closer to international market levels.
Maintaining current fuel prices far below their economic costs will only prompt more export smuggling and misuse by industrial users. Capping fuel prices, which are already less than 50 percent of international levels, would, at best, create artificial stability but mostly to the benefit of middle and upper-middle income groups, who account for less than 20 percent of the population.
Worse still for the future of the economy, the current policy is discouraging energy efficiency, conservation and diversification, which are vital for our economic competitiveness.
Experience has taught us that capping prices through subsidies will address only the symptoms of inflation, not the root cause. Government-mandated price curbs have always been a failure, because both producers and consumers get the wrong price signals. Consequently the forces of supply and demand do not work normally.
We find it impossible to understand why the government and the House of Representatives, in facing a persistent wave of steep fuel price hikes, are only tinkering with revenue and expenditure estimates, not taking the bull by the horns. Resolving the problem of increasingly costlier fuels without any reference to market prices is not a solution at all.
It does not make any economic sense to allow fuel subsidies to take up to one-fifth of total state revenues this year while the bulk of the subvention has been enjoyed by the middle and upper-middle classes, who can afford gasoline at international market prices.
Continuing the wasteful spending on fuel subsidies not only is a gross misallocation of scarce resources, but is also a future tax and burden on the economy.
We fully agree with economist M. Chatib Basri's recent observation that the steady increase in fuel imports should be blamed partly on the export smuggling of subsidized fuels. Even the supervisory agency for the distribution of subsidized fuels has acknowledged an increasing volume of subsidized fuels, notably regular gasoline, automotive diesel oil and kerosene, has been misused either for export smuggling or for sale to industrial users.
Nor does it make any political sense for the government to allocate more than Rp 150 trillion (US$16 billion) for fuel subsidies but not even half of that amount for education and health services.
If the government does not raise fuel prices or does nothing to slash fuel subsidies, the current budget will contribute almost nothing to pump priming, as it was originally intended, because fuel and food subsidies and interest payments on government debts alone would take up almost 45 percent of total state revenue.
If President Susilo Bambang Yudhoyono thinks it makes political sense to maintain fuel subsidies, in view of the 2009 presidential election, he must remember that Megawati Soekarnoputri, when she was the incumbent, lost the 2004 presidential election even though she did not raise fuel prices.
Floating gasoline prices on international market (Mid Oil Platts Singapore) quotations, as Megawati did in 2002, is theoretically the most economically, technically and politically feasible alternative. Such a policy would reduce fuel subsidies only gradually, protecting the economy from shocking inflationary pressure and sparing the government political bickering with the House every time international prices fluctuated wildly.
It would be a technical matter as to how such a fuel price flotation should be implemented to prevent inflationary pressure shock. After all, we have been on that road before. Most importantly is a national political consensus for such a bold move.
But whatever fuel reform policy the government and the House finally agree on, it will not be credible and effective unless it brings domestic prices closer to international ones.
Inevitably, any fuel price increase will increase inflationary pressure, but prices will eventually achieve their market equilibrium as the forces of supply and demand get the right price signals.
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