Urgent fiscal policy tasks for RI

Urgent fiscal policy tasks for RI

By J. S. Uppal and Sukanto Reksohadiprodjo

YOGYAKARTA (JP): The revival of the Indonesian economy from
its recent crisis will depend on whether the government takes
immediate and important steps to deal with the crucial fiscal
policy issues highlighted in this article. Any further neglect
will be harmful for economic stability and financial
sustainability.

Economists sometimes make budgets sound technical, using
theoretical jargon. Governments often use different accounting
tricks to make them politically acceptable.

The term used to describe the latter way to present a budget
is called "budget trickery", and the government of Indonesia has
been doing exactly that for many years. While the government's
budget has been clearly in the red, it has been presented to the
nation as a balanced budget as per constitutional requirements.

Rather than simply taking the difference between domestically
raised resources from taxes and oil/gas revenues and total
government expenditure as a true indication of the budgetary
condition -- surplus or deficit -- the government covers up the
actual yearly deficit by ever-increasing foreign borrowing.

As a cash flow device this may be justified, but it also
reflects the reality of the government's chronic inability to
raise sufficient domestic revenues to meet its expenditure.

While the magnitude of the real deficit depends on how one
calculates and presents it -- there are different figures ranging
from 4.5 percent to 7.5 percent of the gross domestic product
(GDP) -- there is no denying the fact that the nation is in a
state of fiscal distress.

The government revenues, particularly tax yields, are lagging
seriously behind mounting government expenditure and the nation
is increasingly dependent on foreign borrowing to make ends meet.

The tax system is riddled with many budget loopholes designed
ostensibly for administrative purposes, but really to benefit
upper-income people.

The tax system has thus been seriously eroded. The tax base
has been narrowed further by massive tax evasion through
concealing incomes through noncompliance.

We discussed the sad state of Indonesian taxes in an article
in The Jakarta Post on Oct. 27. Suffice to say here only 1
percent of our population is even registered as income tax
payers, and only about half of them even care to file tax returns
for paying income tax based on voluntary compliance .

A massive amount of tax liability stands uncollected and the
rate of tax delinquency has recently increased. Value-added tax
(VAT), dubbed the "money machine" due to its high revenue
potential, has lost much of its steam as a result of changes
introduced after lobbying by businesspeople.

Against this shortfall in tax revenue, government expenditure
continues to increase. Without drastic cuts in routine and
development expenditure, including reducing subsidies on basic
goods introduced to help the poor, public outlays will continue
to grow.

Since the recent popularly-elected government has been
espousing the cause of poor and needy, it cannot easily reduce
subsidies or trim down the size of the government work force to
reduce government expenditure.

This means that unless the government raises tax revenues by a
substantial amount, it will continue to face serious fiscal
distress with a continuing dependence on foreign borrowing.

There is a serious need for the nation to ponder over this
vital question. How long and how much can it depend on capricious
and uncertain foreign borrowing just to keep its government
running?

The government should not lose sight of some serious
implications of the continuing budget deficit: inflation, an
adverse balance of payments and depreciation of the foreign value
of money. All these factors can also lead to the downgrading of
the credit rating of the country's bonds and other commercial
papers in the world markets. There is an urgent need to
restructure the Indonesian tax system and scrutinize thoroughly
government expenditure.

In a hurried attempt to pacify the demands for autonomy from
the provinces on the eve of the last elections, the government
passed laws aiming at political and fiscal decentralization
starting in 2001; not too far away from now.

The legislation contains only very broad outlines of the
fiscal relationship between the central and local governments.
The sources of self-raised revenues for the local governments
have been mostly left undefined.

There is a broad provision for 25 percent of the central
government resources to be allocated to local governments,
without any specific formula for intergovernmental resource
distribution.

Some resource-rich provinces will be able to claim as much as
80-85 percent of their income from their natural resources.
Resource-poor provinces have been assured balanced development,
however there is no mention where the resources are going to come
from.

Most of the central government's present functions, along with
its financial resources and personnel, will be transferred to
local governments, but no details have been worked out as yet in
this respect.

People will be able to elect local officials who will raise
the people's hopes and expectations for a better life and more
control over their local affairs. But they will not know where
the necessary resources will come from.

In short, in 2001 when the decentralization process will
start, Indonesia will find itself in serious financial chaos if
all the necessary details are not worked out well in advance.

Fortunately, however, Indonesia can benefit from the
experience of other federal systems with varying amounts of
administrative autonomy.

Regions in the United States have a high level of autonomy, so
much so that each of the more than 85,000 local governmental
units -- states, cities, towns, villages, school districts --
have their own taxing and spending powers.

On the other hand, Canada, India, Australia and other
democratic federal governments have well-defined and clearly
demarcated taxing and expenditure powers, vested in different
jurisdictions.

However, all these federations have a well laid out mechanism
for the distribution of central resources amongst local
governments. Indonesia can pick and choose from these
federations, depending on its region's political and economic
environments.

Indonesia should start right away to formulate policies to
deal with the forthcoming decentralization. Otherwise, it faces
impending chaos.

J. S. Uppal Ph.D and Sukanto Reksohadiprodjo Ph.D are
professors of economics at the State University of New York,
Albany, New York, and Gadjah Mada University, Yogyakarta,
respectively. This article is based on their continuing research
for the Sustainable Indonesian Growth Alliance, a United States
Development Agency (USAID) and Gadjah Mada University Project.

Window: People will be able to elect local officials who will raise
the people's hopes and expectations for a better life and more
control over their local affairs. But they will not know where
the necessary resources will come from.