There are now some signs that the slump may be ending, however, and
2016 growth may exceed five percent. What caused the last five years of
decline? What is causing the fledgling recovery and what are its
prospects for success?
The cause of this new, albeit modest, optimism are more efficient
government spending on infrastructure after a very slow start in the
fiscal year and President Jokowi’s clear determination to improve all
government efficiency and reduce red tape. The government is also trying
to provide some modest additional stimulation beyond infrastructure
spending, especially through tax incentives.
After more than a decade of increasingly inward-looking legal and
regulatory reforms that have steadily narrowed the space for
private-sector activity, restricted economic freedom, discouraged
investment and increased costs, several key government policymakers have
started publicly challenging the protectionist orthodoxy of previous
governments and acknowledge the need for a change in direction.
They are saying in public what only a few intrepid officials dared
whisper in the past decade: Indonesia must embrace the global economy as
a competitive and constructive player or it will be left behind by more
dynamic emerging market countries, particularly neighboring Vietnam,
but also the Philippines and India. This change in perception is very
recent and very fragile.
Although easy to miss at the time, the first public signal of this
new attitude came just four months ago with the August cabinet
reshuffle. While the changes in economic portfolios appeared modest on
the surface, it is now clear that President Jokowi is seeking to change
the direction of the economy.
The appointments of veteran warhorses Darmin Nasution and Rizal Ramli
to coordinating positions initially stirred little optimism because
both are closely linked to some of the more restrictive economic
policies of previous administrations, including currency controls and
limitations on foreign investments.
But apparently the President is not primarily seeking policy advice
from them. Insiders say the President has grown increasingly frustrated
and angered by the behavior of many career bureaucrats who have
consistently ignored his instructions and embraced regulatory complexity
as a means to increase their power vis-a-vis the private citizens they
are supposed to serve. Rather, what he sees in Nasution and Ramli is two
tough, wily bureaucratic infighters who can help him corral
obstreperous apparatchiks and start to bend the country’s recalcitrant administrative apparatus more to his will.
The appointment of a new trade minister was equally significant. The
trade ministry has traditionally adopted an inward-looking, defensive
posture, and this attitude hardened significantly in the past five
years, encouraging protectionist sentiments in the legislature.
The new minister, Thomas Lembong, is perhaps the most global
personality in the current cabinet. He is as comfortable in New York
boardrooms as he is in the backrooms of Jakarta policymaking. He does
not fear foreign investors. He frequently stuns the vast platoons of
Jakarta’s rent-seeking legionnaires disguised as economic nationalists
by bluntly saying things like it’s better to have foreign hospitals,
schools, doctors and teachers operating in Indonesia. It is better that
they are accessible to the general Indonesian public rather than having
Indonesians spending billions abroad and quality services only being
available to the wealthy few.
He has called the notorious Negative Investment List (DNI) the
“Import Encouragement List”, arguing that discouraging foreign companies
from manufacturing products locally just encourages the importation of
the same products or condemns Indonesian manufacturers and consumers to
pay more for lower quality products.
What Went Wrong: Denial
Indonesian policymakers have been slow to accept any responsibility
for the slowdown started in 2011. For the first few years after the
global crisis, the official mantra was “our policies are not to blame”.
Yes, growth is slowing, the leadership said, but global conditions are
bad and we’re still growing faster than our ASEAN neighbors and most
other emerging market economies.
The denial was, in fact, just rhetoric covering increasing
contractionary policies that discouraged private-sector trade and
investment. As a result, Indonesia’s growth now lags that of Vietnam,
the Philippines and India – all countries that have historically
experienced much slower growth than Indonesia, but have been undertaking
significant pro-market reforms over the past several years and are now
reaping the benefits.
Complacency
The first five years of the Yudhoyono administration was a period of
high commodity prices and heady growth. This lulled policymakers into a
sense of complacency. Growth was easy. Credit was loose. Profits were
high. Incomes grew.
Even as global growth contracted sharply in the wake of the 2008
Lehman crisis that brought many of the world’s largest economies to a
standstill, Indonesian growth continued to accelerate, reaching its
21st-century peak of 6.4 percent in 2010.
But Indonesia’s economic chalice was poisoned by the rapidly
expanding role of state-owned enterprises and steadily increasing
antipathy to the private sector within the bureaucracy and the
legislature, as reflected by a virtual flood of economic restrictions.
According to the World Bank, Indonesia instituted over 225 laws and
regulations restricting trade and investment since 2009. Vietnam, by
comparison promulgated about 60 and the Philippines less than 10 in the
same period.
The building list of policy failures of the previous administration
actually began with an ill-fated attempt to bring transparency to the
government’s negative investment list: the notorious DNI.
The DNI itself is a relic from the Suharto era that was originally
established with good intentions. Foreign investors seeking approval via
the national Investment Board (BKPM) frequently found themselves
shunted from pillar to post within the bureaucracy trying to find out
exactly what was allowed and what was forbidden. The first DNI was
published in 1989. This was a welcome improvement at the time and served
the country and potential investors well for many years, despite its
unfortunate name.
But a series of short-lived, weak governments followed the fall of
Suharto in 1998 resulting in frequent cabinet changes. Policy discipline
vanished. In an eight-year span from 1998 to 2005, the government had
six different finance ministers, five economic coordinating ministers,
four trade and industry ministers and three energy ministers. Indeed,
Indonesia, a country that had been led by only two presidents in its
first 53 years existence, suddenly experienced four more presidents in
six years from 1998 to 2004.
Given the lack of sustained leadership from the top, de facto
economic policymaking was often left in the hands of second and
third-tier bureaucrats, many of whom were repressed socialists who
resented the modest, neo-liberal reforms of the Suharto era and were
genuinely suspicious of, if not overtly hostile to, the private sector.
Many eagerly took advantage of the confusion at the top and more
policy initiatives flowed up from careerists seeking to expand their
power rather than downwards from technocrats interested in reducing
bureaucratic interventions and increasing administrative efficiency.
In 2005, the government wisely decided to try bring some order to its
increasingly opaque and chaotic investment regulatory process. The
trade minister was tasked to collect all restrictions on foreign
investment into one authoritative document that potential investors
could consult quickly.
The instructions were simply for each department to report all
restriction on foreign investment in their sections so they could be
compiled into a single document, a comprehensive DNI. This would make
restrictions on investment transparent and potential investors would not
have to spend weeks canvassing relevant departments just to find out if
they could invest in Indonesia.
As part of the exercise, it was stated that no changes were to be
made and that the government would establish a new protocol for enacting
restrictions on investment. A key change was to be a requirement that
any new restrictions on foreign investment be supported by an analysis
of the benefit of any proposed restrictions to Indonesia or the harm
that would be done if the investment were not restricted.
In the event, the departments resisted sharing information and
authority with the trade ministry and the President backed down. The
result was that effort took longer than intended, new restrictions were
added and the requirement to provide justification for changes was
ignored.
The lack of impact analysis of regulatory changes was to become a
hallmark of economic policymaking of that era and was to have its most
devastating effect with the imposition of on-shore smelting requirements
for virtually all mineral exports in 2014. The loss of export and tax
revenue that ensued contributed greatly to the continuation of the
country’s growth slowdown.
Whither Indonesia?
Extreme bureaucratic intervention and strong support for a privileged
public sector are deeply ingrained in the Indonesian psyche, especially
the establishment elites. These attitudes have proven to be difficult
to change. Unfortunately, they lead to the view that the private sector
should function as a tool of public policy rather than an independent
engine of growth. Much of Indonesia’s leadership elite actually fears
independent, undirected economic activity.
Since the turn of the century, Indonesia has increasingly reverted to
the dead-end policies of autarchy. Reflected in protectionist trade
policies and import substitution investment policies. These are the
policies that have failed many developing countries. They failed
Indonesia in the 1950s and 1960s, and they will fail Indonesia today.
As a small businessman, President Jokowi instinctively mistrusts
bureaucratic micromanagement. It hurts all businesses, but it is the
particular bane of small businesses everywhere. Let us hope his reform
efforts succeed.
James Castle is the founder of CastleAsia and a Board Member of the Australia-Indonesia Centre.
This article originally appeared in Tempo magazine.
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