December 4, 2003

Document of the World BankR

eport No. 27374-IN

D Indonesia

Developm

ent Policy Report

Report No. 27374-IND

IndonesiaDevelopment Policy ReportBeyond Macroeconomic Stability

Poverty Reduction and Economic Management UnitEast Asia and Pacific Region

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CURRENCY EQUIVALENTS (As of December 3,2003)

Currency Unit = Rupiah (Rp.) US$l = Rupiah 8,500

FISCAL YEAR: January 1- December 3 1

Regional Vice President: Country Director: Mr. Andrew Steer Chief Economist: Mr. Homi Kharas Task Team Leader:

Mi-. Jemal-ud-din Kassum

Ms. Mona E. Haddad

Acknowledgements

This report was written by a core team consisting of Magda Adriani, Vivi Alatas, Jehan Arulpragasam, Mona Haddad (TTL), Joel Hellman, Bert Hofman, Yoichiro Ishihara, Menno Pradhan, Kurnya Roesad, Megawati Sulistyo, and P.S. Srinivas. The team received inputs from Jasmin Chakeri, Anne-Lise Klausen, Anthony Kuek, Neil McCulIoch, Kathy Macpherson, Stefan Nachuk, Djauhari Sitorus and Anthony Toft. Peer Reviewers were Joachim von Amsberg, Chatib Basri (University of Indonesia) and Stephen Schwartz (IMF). The report was discussed with the Government on November 20 and 21,2003. The Sector Director is Homi Kharas, the Country Director is Andrew Steer. Nina Herawati and Dewi Widuri formatted the document and prepared it for printing. Cover Design: Grha Info Kreasi

ABBREVIATIONS AND ACRONYMS

ACC Adat ADB AGO ASABRI

ASEAN

ASKES BAPPENAS

BAPPEPAM BI BII BKPM BKPMD

BNI BPK BPKP BPN BPR BPS BRI BTN BULOG CAR CDD

CEIC CG CGI CLSA CPI DAK DAU DGT DPR FATF

FDI FSN FY GDP GFA GO1 GTZ

IA IS

IBRA

ICRG IGGI

Anti Corruption Commission Traditional land rights Asian Development Bank Attorney General’s Office Pension Fund for Police, Civi l Servants and Mil i tary Defense Personnel The Association o f Southeast Asian Nations Health Insurance National Planning Development Agency Capital Market Supervisory Board Bank Indonesia Bank International Indonesia Investment Coordinating Board

Regional Investment Coordinating Board Bank Negara Indonesia Supreme Audit Authority Central Government’s Internal Audit National Land Agency Bank Perkreditan Rakyat Central Bureau o f Statistics Bank Rakyat Indonesia Bank Tabungan Nasional National Logistics Agency Capital Adequacy Ratio Community Demand Driven Development CEIC Data Company Ltd. Corporate Governance Consultative Group on Indonesia Credit Lyonnais Securities Asia Consumer Price Index Special Allocation Fund General Allocation Fund Directorate General o f Taxation House o f Representatives Financial Action Task Force on Money Laundering Foreign Direct Investment Financial Safety Net Fiscal Year Gross Domestic Product Gross Foreign Asset Government o f Indonesia German Technical Cooperation Agency International Association o f Insurance Supervisors Indonesian Bank Restructuring Agency International Country Risk Guide Inter Governmental Group on Indonesia

ILGRP

ILO IMF INPRES IPO I-PRSP IPW ISIC

JAMSOSTEK

Kabupaten KADIN KDP KEPMEN KEPPRES KHL KHM Kota KPK KPKD

KPKPN

LAP

LNG LP3ES

LPS LTOs MDG MEMR

MFO MOF MOHA MOPS MOUs MPR NCCT

NGOs NPLs NTB NTT ODA OJK OPK oss PEM PERDA PLN PMDN PMON

World Bank Financed Local Governance Project International Labor Organization International Monetary Fund Presidential Instruction Initial Public Offering Interim PRSP Indonesian Procurement Watch International Standard Industrial Classification Provident Fund for Private Sector and SOEs District Indonesian Chamber of Commerce Kecamatan Development Project Ministerial Decree Presidential Decree Adequate Liv ing Needs Minimum Living Needs City Poverty Reduction Committee Regional Poverty Reduction Committee Commission for the Audit o f the Wealth o f State Officials World Bank Land Administration Project Liquefied Natural Gas Institute for Social and Economic Research Education and Information Deposit Insurance Corporation Large Taxpayers Offices Millennium Development Goals Ministry o f Energy and Mineral Resources Marine Fuel O i l Ministry o f Finance Ministry o f Home Affairs Mid Oi l Platts Singapore Memoranda o f Understanding People’s Consultative Assembly Non-Cooperative Countries and Territories Non Governmental Organization Non Performing Loans Nusa Tenggara Barat ’

Nusa Tenggara Timur Official Development Assistance Financial Services Authority Rice Subsidy Program One Stop Service Public Expenditure Management Regional Regulation State Electricity Company Domestic Investment State Debt Management Office

PP PPATK PPM PROPENAS

PRS PRSP Puskesmas RASKIN RBC RCA REER REPETA S&P SAKERNAS SARS SBI SGP SITC

SMERU

SMEs SOEs SUSENAS TAP TASPEN T I Tim Inti UNCOMTRADE UPP UUPK VAT WTO

Government Regulation Financial Intelligence Unit Post Program Monitoring National Five Year Development Program Poverty Reduction Strategy Poverty Reduction Strategy Paper Health Community Center Rice for the Poor Risk Based Capital Revealed Comparative Advantage Real Effective Exchange Rates Annual Development Plan Standard and Poors National Labor Force Survey Severe Acute Respiratory Syndrome Bank Indonesia Certificates Scholarship and Grant Program Standard International Trade Classification Social Monitoring and Early Response Unit Small and Medium Enterprises State Owned Enterprises National Social and Economic Survey Decision Pension Fund for Civ i l Servants Transparency International The Core PRS Team United Nation Commodity Trade Urban Poverty Eradication Program Basic Forestry Law o f 1967 Value Added Tax World Trade Organization

TABLE OF CONTENTS

PAGE No.

INTRODUCTION

EXECUTIVE SUMMARY i

CHAPTER 1 : MAINTAINING MACROECONOMIC STABILITY RECENT DEVELOPMENTS

Political Developments Market Sentiment The Real Economy Employment, Income and Poverty Monetary Policy and Inflation International Trade and Payments Fiscal Policy External Financing Needs in 2004 Medium-Term Macroeconomic Outlook

THE WHITE PAPER Maintaining Macroeconomic Stability Tax Reform Tax Administration Reform Public Expenditure Management Decentralization State Debt Management

CHAPTER 2: RESTRUCTURING AND REFORMING THE FINANCIAL SECTOR RECENT DEVELOPMENTS

Improved Performance of the Banking Sector IBRA i s Ready to Close Capital Markets and Mutual Funds

Financial Sector Safety Net and Financial Stability The Banking System Anti-Money Laundering Capital Markets Insurance and Pensions

THE WHITE PAPER: RESTRUCTURING AND REFORMING THE FINANCIAL SECTOR

CHAPTER 3: INCREASING INVESTMENT, EXPORTS AND EMPLOYMENT RECENT DEVELOPMENTS

Trends in Investment, Exports and Employment What Affects Investors?

Improving Investment Policy and Approvals Promoting Industry and Trade Harmonizing Regional Regulations

THE WHITE PAPER

1 1 1 1 2 4 4 4 5 6 6 7 8 9 9

10 11 12

15 15 16 18 18 19 19 20 21 22 23

27 27 27 28 29 31 33 34

Employment Infrastructure Developing Small and Medium Enterprises, and Cooperatives

CHAPTER 4: MEETING INDONESIA’S GOVERNANCE CHALLENGES GOVERNANCE AND THE WHITE PAPER

Public Financial Management Legal and Justice Sector Reform Public Administration Reform

ACCOUNTABILITY AND THE WHITE PAPER

CHAPTER 5: REDUCING POVERTY INDONESIA’S POVERTY CHALLENGE

ADDRESSING THE CHALLENGE: THE WHITE PAPER AND BEYOND An Emerging Poverty Reduction Strategy for Indonesia Opportunity Creation Empowerment and Accountability Human Capital Social Protection

TABLES IN TEXT Table 1.1. Table 1.2. Table 1.3. Table 1.4.

Table 1.5. Table 2.1. Table 2.2. Table 2.3. Table 2.4. Table 3.1. Table 3.2.

Table 4.1. Table 4.2. Table 5.1. Table 5.2.

FIGURES Figure 1.1, Figure 1.2. Figure 1.3.

Figure 1.4. Figure 1.5. Figure 1.6. Figure 1.7. Figure 1.8.

Sovereign rating comparison Sources of growth comparison in 2002 2004 Financing needs and CGI disbursement request International comparison o f major indicators upon the IMF graduation Macroeconomic stability measures in the White Paper Indonesian financial sector in 2002 Financial sector measures in the White Paper Market ranked by corporate governance by CLSA Insurance sector profi le in 2002 Indonesia revealed comparative advantage M a i n policy measures to improve the investment climate and promote industry and trade Legal and justice sector reform measures in the White Paper Public administration reform measures in the White Paper Change in poverty headcount index f rom 1996 to 2002 Poverty eradication measures in White Paper

Markets are supportive Non-oi l and gas trade growth rate slowed Exports were increasingly driven by foreign firms prior to the crisis Indonesia’s export to China and the wor ld Inflation further declining Private capital account turns positive Fiscal consolidation continues Medium-term growth projection

35 37 38

41 43 43 44 49 52

53 53 54 55 56 58 59 62

9 15 20 23 24 28 31

45 50 53 54

1 3 3

Figure 1.9. Figure 1-10. Figure 2.1. Figure 2.2. Figure 2.3. Figure 3.1. Figure 3.2. Figure 3.3. Figure 3.4. Figure 3.5.

Figure 3.6. Figure 3.7. Figure 3.8. Figure 3.9.

Figure 3.10. Figure 3.11. Figure 4.1. Figure 4.2. Figure 5.1. Figure 5.2. Figure 5.3. Figure 5.4. Figure 5.5 Figure 5.6.

Figure 5.7

BOXES B o x 1.1. B o x 3.1. B o x 4.1. B o x 4.2. B o x 4.3. B o x 5.1 B o x 5.2.

Inequality among local governments Government debt i s further declining K e y financial indicators o f banking system have improved Interest rate spreads are on the rise Mutual funds have soared Indonesia’s export performance lags i t s neighbors’ Competition f rom China i s rising Fewer f i r m s are set up Manufacturing employment i s falling Macroeconomic instability, policy uncertainty and corruption are the main obstacle Decentralization has exacerbated the problems Time and cost o f starting a business in Indonesia Productivity has not matched increase in real wages Comparison o f value added by labor in selected sectors, 2000- 200 1 Strikes are frequent and many production days are lost Perception o f infrastructure quality Extent o f consensus within government Perceptions o f key elements o f “governance” 2002 Where are the poor? Many Indonesians lack access to basic services L o w land registration in Indonesia Most roads in districts are o f inferior quality Road access i s not equally distributed Indonesia i s behind i t s neighbors in science and mathematics achievements The poor are vulnerable to adverse shocks

Overseas treasures White Paper priorities o f the business community The supreme court blueprints Reform o f the law on the Attorney General’s Office (AGO) Integrity pacts in Solok The doctor i s out.. . Expensive subsidized rice

12 12 16 17 19 27 27 28 28 29

29 32 35 35

36 37 42 42 55 54 57 58 58 60

62

5 30 46 48 51 61 63

STATISTICAL AMVEXES

EXECUTIVE SUMMARY

Indonesia i s entering a new phase in i t s economic management. At the end o f 2003, the country w i l l be the last among the countries affected by the Asian crisis to complete its IMF supported program. Over the last three years, Indonesia has made remarkable progress in achieving macroeconomic stability, in reducing the economy’s vulnerability, and in restoring external viability. The decision not to renew the IMF supported program was therefore broadly welcomed by the markets, the international community and Indonesians. The release o f the Government’s “Economic Policy Package Pre and Post ZMF,” better known as the White Paper, shows that Government i s committed to continued sound macroeconomic policies and financial sector restructuring. The Paper also sets out an ambitious agenda of measures to increase investment, exports and employment creation. Together these measures could lay the basis for higher growth, more jobs, and lower poverty. Higher growth i s a must: poverty benefited from macroeconomic stability, but i s s t i l l at 16 percent o f the population, and a majority of Indonesians earn less than two dollars a day. Keeping implementation o f the White Paper on track wi l l not be easy in the months ahead leading up to the elections o f 2004, but the Government’s real challenge w i l l be to ensure that critical measures are prioritized, and policy measures taken indeed support the White Paper’s goals.

RECENT DE VEL OPMENTS

The markets reacted calmly to Indonesia’ decision not to extend a program with the IMF, reassured by the Government’s achievements in stabilizing the economy and reducing macroeconomic risks. Growth remains modest at 3.5-4 percent, but the economy has performed better than expected. The Marriott bombing, SARS, and the Iraq war all had a limited effect on growth, a testimony to the country’s reduced vulnerability. Over 80 percent o f growth in 2002 and 2003 came from private consumption, which was boosted by declining interest rates and expanding credit. Investment has remained at 20 percent o f GDP, some 10

percentage points below levels achieved before the crisis, and i t s composition shifted dramatically toward property investment. Exports have contributed less to growth than in other Asian countries, but exports to China grew by 60 percent in 2003. For 2004, the Government expects growth to reach 4.8 percent, supported to some extent by an improving international environment and low interest rates.

A virtuous circle o f improved macroeconomic indicators continues to build up. Inflation has shown a remarkable slowdown over the year, mainly on account o f a stable exchange rate and modest base money growth. Lower inflation, now below 6 percent, enabled Bank Indonesia to bring down interest rates. Lower interest rates cut interest payments in the state budget, paving the way for further fiscal consolidation in 2003, despite higher fuel subsidies than initially budgeted. The 2003 state budget deficit i s expected at 1.9 percent of GDP. Public debt as a share o f GDP also continues to decline and w i l l reach 67 percent by end-2003. The 2004 budget approved by parliament in November demonstrates the Government’s commitment to further fiscal consolidation; the budget deficit i s projected at 1.2 percent o f GDP. Financing needs would increase in 2004, despite further fiscal consolidation, as exceptional financing dries up with the end o f the IMF program, and debt service w i l l increase from 31 percent o f revenue in 2003 to 37 percent in 2004. The amount being requested from the CGI i s in the range o f $2.5-3.0 billion.

THE WHZTE PA PER

The White Paper promises continuity in macroeconomic and financial sector policies, and aims for reforms to improve the investment climate. The document, issued as a Presidential Instruction and a parallel central bank Governor decree, includes an impressive set o f time-bound policy actions. The White Paper came about in a process o f consultation with major stakeholders, and for i t s implementation the Government has set up a secretariat that keeps track o f progress on the

i

paper’s policy actions. Early implementation progress i s promising: Of the 43 actions due end- September 2003, the government completed 36 on time. All the remaining action plans not completed in September were done in October. O f the 54 actions due in October, the Government completed 37 on time. Among those, the establishment o f the Investment and Trade Team and the Presidential Decree on Government procurement stand out.

Macroeconomic Stability. The White Paper comprises the measures needed to achieve a healthy fiscal position, lower inflation, and sufficient international reserves. The Government plans to offset lower exceptional financing wi th further fiscal consolidation through reforms and modernization o f the tax system, increased efficiency in government spending, and effective

‘ debt management. In addition, and quite remarkable for an election year, the Government also remains committed to continued privatization-10 enterprises in total w i l l be on the block to raise more domestic financing to cover the deficit. Together wi th the l ow domestic interest rates and stable exchange rate the central bank i s aiming for, the zero deficit and “Maastricht norm” debt level the Government i s aiming for by 2006 are well within reach.

Financial Sector Reform. The White Paper lays out a host o f measures to continue financial sector reform and restructuring. Progress has been made in restructuring and strengthening the banking sector. BRA has sold several banks taken over during the crisis, the Government has begun reducing i t s stake in state-owned banks, and commercial banks balance sheets show significant improvement wi th reductions in non-performing loans and stronger capital adequacy ratios. Behind such improvements, weaknesses remain. Restructuring o f non-performing loans was not always conducted on the basis o f commercial viability. The improved capital-adequacy ratios may overstate the robustness o f the banking system as government bonds and restructured loans in bank portfolios remain large. State-owned banks s t i l l comprise almost hal f o f Indonesia’s banking sector, and they suffer f rom weak internal controls and governance as recent events in BNI and BRI illustrate. The financial sector i s not wel l diversified, and relies heavily on the banking

sector, whereas capital markets remain underdeveloped, and their potential in financing development underutilized.

The measures in the White Paper are steps in the right direction to strengthen the financial sector. The plans to complete a financial safety net are sound, but require careful sequencing, coordination and timing in their implementation. Completion o f the sales o f banks taken over w i l l not only help the treasury, but also return more o f the banking system to the private sector. The measures in the White Paper w i l l need to be complemented wi th more forceful efforts to improve governance o f state-owned banks, including full enforcement b y the supervisor o f prudential regulations for those banks, and b y the Government o f accountability for results. Beyond the White Paper, the Government should strive for diversifying the financial sector, and further develop the capital market and sound institutional investors such as insurance and pension funds. This would yield the longer term risk financing that more rapid growth requires.

Investment Climate. Recognizing the dire shape Indonesia’s investment climate i s in, the White Paper aims to improve it. Indeed, according to a recent survey among f i rms , a host o f issues i s holding back investment. Critical obstacles are policy uncertainty, legal uncertainty, and corruption in both national and local governments. Many o f these obstacles have resulted f rom weak institutions, including tax and customs administration and the judicial system. The White Paper i s a good start to tackle some o f these diff icult issues, and the Investment and Trade Team established under the White Paper can play a major role in driving this agenda forward. The policy actions are helpful in their a im to simplify investment and clarify the roles and responsibilities o f the various levels o f Government. I t also promises to address the excessive regional taxes issued since the onset o f decentralization. On infrastructure, the announced implementation o f L a w 20/2002 and a regulatory body for Telecom are the most important steps. A better investment law would be helpful in increasing investment, although the current one i s probably not a major bottleneck. Improving i t w i l l require extensive

11

consultations with stakeholders before the draft i s sent to Parliament.

Trade. The measures proposed on trade are less promising, and hardly support the goal of accelerating export growth. Already, protectionist measures such as import registration and licensing have cropped up in recent years. The setback in the WTO negotiations have probably increased the pressures for protectionist measures, notably in agriculture. Indeed, higher tariffs on rice, soybeans, and corn-all staples for the poor-are being contemplated. And BULOG, the logistics agency, seems to be keen to use i t s new status as a non-profit enterprise for expanding its role in the trade of these commodities. The proposed trade law could in this respect be helpful, but could also be used to justify more of the same. The forthcoming draft law should therefore be carefully scrutinized. The announcement o f an expansion of counter-trade seems unproductive. Apart from the fiduciary concerns such measures bring with them, the measures do not help Indonesia’s image o f a country that has overcome the crisis, and restored external viability.

Governance. Better governance i s key for reducing policy and legal uncertainty, and therefore for improving the investment climate. Five years after Reformasi, governance continues to be the Government’s biggest challenge. Corruption has become less predictable, not least because of decentralization. Unpredictable and inconsistent court rulings issued by an unreformed justice sector continue to haunt investors, and tax administration and customs remain a major nuisance for business. I t i s important to recognize that these governance problems exist within a framework of tremendous political, economic and institutional changes. These changes have marked Indonesia’s transition to a more open, competitive society and provide new opportunities for improving governance. The results o f these remarkable changes are evident in the new level o f transparency and competition in Indonesian public l i fe, but now need to be complemented by rebuilding the institutions that would match this increased transparency with more accountability.

management, the Anti-Corruption Commission, the judiciary commission, and the reform blueprints of the Supreme Court are all encouraging. These initiatives need to be matched by the measures, budget, and people it takes to create strong institutions. A litmus test in that respect i s the Anti-Corruption Commission, whose members are about to be selected at the same time the CGI meets. On other areas, the White Paper measures need more work: the draft revised law on the attorney general’s office falls short o f the necessary overhaul o f this institution, and the planned public services law w i l l do l i t t le for services without complementary civi l service reforms.

Poverty Alleviation. Poverty reduction i s not the main focus o f the White Paper, but the macroeconomic stability and higher growth the paper aims for i s one o f i t s pillars. The other i s better services for the poor, and Indonesia i s lagging in this respect. More than half of Indonesians do not have access to one o f the basic services in health, education, water, or sanitation, and better governance i s required to improve this. The White Paper reconfirms the Government’s commitment to develop a comprehensive Poverty Reduction Strategy Paper (PRSP) by mid-next year, and presents a number of measures that can create opportunity for the poor, improve their human capital, and safeguard the vulnerable. The success of the forthcoming PRSP w i l l depend on whether i t w i l l ultimately yield an enhanced poverty focus o f government policies and programs. To this end, the strategy needs to be integrated with existing budgeting and planning procedures and sector strategies. The measures to improve services for the poor included in the White Paper need to be complemented with those that make decentralization work, and improve governance in service delivery. Access to land can catalyze credit for the poor and SMEs, and the Government i s encouraged to scale up its rather modest commitment on land titling made in the White Paper. Finally, the plans to revamp Indonesia’s social safety net need wide consultation to ensure that the desire for a more just society i s matched with the Government’s goal to create more productive jobs.

The White Paper i s a step along this journey. Measures supporting better government fiduciary

iii

i v

INTRODUCTION

The year 2004 wil l mark another crucial step in Indonesia’s long-term transition. The country w i l l go to the polls to elect new national and regional Parliaments, and for the f i r s t time in the history o f the Republic, to directly elect a President. This milestone in the country’s democratization i s accompanied by one in economic policy: for the first time since the onset o f the crisis, the Government w i l l not have a program supported by the IMF. The Government’s decision to graduate f rom i t s IMF program i s warranted by the strong improvements in the country’s macroeconomic conditions, and has been broadly welcomed by the markets and the international community.

The Government’s “Economic Policy Package Pre and Post IMF” or White Paper, issued as a presidential instruction on September 15&, has helped build confidence in the Government’s policies in the election year ahead. The policy package i s intended to “bridge the credibility gap” as Minister Boediono expressed it, a gap as important as the financing gap to be fi l led after Indonesia’s exit f r om the IMF-supported program and Paris Club.

The White Paper i s a unique document: i t i s the first time that the Government commits itself transparently to a time-bound action plan to implement policies,. Other Government documents, such as the annual plan (Repeta) and five-year plan (Propenas), include policy directions, but none o f these identifies specific policy actions and a specific timetable. The

document shows continuity in macroeconomic policies and financial sector reforms, but also proposes a set o f specific policy and institutional measures to address issues that have undermined the country’s investment climate. Whi le the timetable for adopting these measures i s a short term one - fifteen months - many o f the proposed measures address fundamental longer term problems, and some w i l l take several years to see through fully. The Government has set up a monitoring team in the Coordinating Ministry for the Economy. The private sector, which has a high stake in the measures included in the paper, has emerged as an independent monitor, wi th representatives f rom the Indonesian Chamber o f Commerce, the Jakarta Japan Club Foundation, AmCham Indonesia, the International Business Chamber, and a number o f independent economists. Other independent representatives o f the private sector and c iv i l society w i l l also be monitoring progress,

Since the White Paper i s so central to Indonesia in the year ahead, much o f t h i s CGI br ief i s devoted to discussing it. Beyond recent developments, the report discusses and analyzes the policy actions f rom the White Paper we feel are critical. The report also points at the White Paper measures that may not necessarily be in line wi th the stated goals o f the document. And finally, the report identifies policies that are needed beyond the White Paper to ensure Indonesia builds on the macroeconomic stability achieved to attain more rapid growth and poverty reduction.

CHAPTER 1: MAINTAINING MACROECONOMIC STABILITY

RECENTDEVEL UPMENTS

Indonesia’s decision to move to a post-program monitoring arrangement with the IMF marks the next phase in the country’s economic recovery. Indonesia i s the last of the former crisis countries to graduate from an IMF supported program, and this step was generally welcomed. Over the last few years, the country has regained macroeconomic stability. Although maintaining i t w i l l remain a challenge, Indonesia i s much better placed to do so than three years ago. Macroeconomic indicators continue to improve and vulnerability i s down. Growth, however, remains a modest 3.5-4 percent, and poverty i s stuck at 16 percent. An improving international environment may notch this up a bit over the coming year, but investment has yet to revive to levels that would sustain higher growth in the medium term. Maintaining ‘ macroeconomic stability remains key to achieve such growth, as i s tackling the remaining structural reforms, improving the investment climate, and addressing poor governance. The Economic Reform Package Pre and Post IMF attempts to address these issues. The White Paper, as i t i s popularly known, lays out an impressive time-bound ‘program o f economic reforms to maintain macroeconomic stability, restructure and reform the financial sector, and increase investment, exports, and employment. The challenge now lies in implementation, and in ensuring that individual measures are not only implemented on time, but contribute to the stated goals o f the program.

elected. Only parties or coalitions that have won 3 percent (in future elections 15 percent) of the Parliamentary seats in the April 2004 can propose candidates for the Presidential elections. The Presidential elections are likely to take two rounds: a first round in July, and if none of the candidates achieves a straight majority, a run-off between the two top candidates in September. Presidential candidates run on one ticket with the Vice Presidential candidates, whom they are required to announce before the first round o f elections without the possibility o f change after the first round. Some fear that the long election process, which may take up to 6 months, could create uncertainty and slow down political decision making, which in turn may affect Indonesia’s economy. Others point out that campaign spending may actually support the economy.

Market Sentzm ent Market sentiment has remained broadly favorable despite several shocks over the past year (Figure 1.1). Indonesia was less affected by the Iraq crisis in March and the SARS outbreak than neighboring countries. The Marriott bombing in August briefly hit the markets, but they recovered quickly with the Rupiah stabilizing at around Rp. 8,500 and the Jakarta Stock Exchange index reaching a 3-year high in October, on the back o f a global recovery in stock markets. The rating agency Moody’s upgraded Indonesia’s rating from B 3 to B2 in September followed by Standard and Poor’s from

Figure 1.1. Markets are supportive

Pod2icaZDeveZopm ents

The political situation remains stable, but electoral politics are expected to intensify in advance o f next year’s general elections. Laws on the Presidential Election, Political Parties, and Membership o f the DPR and MPR were passed during the year. During the next Parliamentary elections, voters have the possibility to “write in” candidates on party l i s ts . But parties have the right to recall elected representatives if they diverge from party lines. For the f i rs t time in Indonesia’s history, the President and Vice President w i l l be directly

~ ~ ~~~

exchange rate (RD/$) stock index (1983=100)

400 7800

350 7600 Jan-03 Feb Mar M a y Jun Aug Sep

Source: CEIC.

1

B- to B. These ratings have gained importance wi th the Government’s plans to issue a global bond to finance the 2004 budget deficit. Current ratings are s t i l l only at the level o f early 1998, or 5 notches below investment grade (Table 1.1).

The RealEconomy Growth i s s t i l l modest, but the economy performed better than expected. Since the crisis, Indonesia’s growth has by and large relied on consumption, and government consumption in particular. In other former crisis countries, reliance on investment (Korea, Philippines) or exports (Malaysia, Thailand) has been much stronger (Table 1.2). The Ba l i bombings, SARS, and the Iraq war al l had a l imited effect on Indonesia’s growth, although i t did strongly affect the tourism industry. GDP growth i s expected to be in the range o f 3.5-4 percent in 2003, slightly short o f the Government’s expectation o f 4 percent. An improving international environment and further declines in interest rates could support growth in the year ahead, although lagging investment i s l ikely to put l i m i t s on GDP expansion in the medium term.

Private consumption remains the main source o f growth, accounting for 9 1 percent o f GDP growth in 2002 and 83 percent in the first three quarters o f 2003. The recent decline in interest rates contributed to higher consumption growth, notably in durables. Bank Indonesia’s retail sales index sharply increased since mid-2003, and motorbike sales and car sales jumped by 32 percent (yoy) and 20 percent (yoy) in Q3 2003. The growth in food consumption has also accelerated since the third quarter o f 2002, and may continue to rise wi th the

Table 1.1. Sovereign rating comparison S&P Moody’s

Before Current crisis Before Current

crisis Country

Indonesia BBB B Baa3 B2 Korea AA- A- A1 A3 Malaysia A+ A- A1 Baal Philimines BB+ BB Ba2 Bal Tha i i kd A BBB A2 Baa3 Note: investment grades are BBB- for S&P and Baa3 for - Moody’s. Source: World Bank staff based on data from S&P and Moody’s.

Table 1.2. Sources of growth comparison in 2002

IDN KOR MYS PHL THA

GDP 98 124 111 117 105

109 118 112 118 105 Private consumption

112 105 142 108 114 Government consumption

Investment 69 94 65 103 61

Exports 96 184 126 96 148

Imports 70 136 108 94 116

Note: PHL- Philippines, and THA- Thailand. Source: CEIC, staff calculation.

IND- Indonesia, KOR- Korea, MYS- Malaysia,

l ikely positive impact o f the 2004 election (in the 1999 general election food consumption growth reached an a l l time high since the crisis at 5 percent). However, private consumption i s increasingly fueled by consumer credits: in September 2003 credit-financed consumption reached 31 percent o f total, up f rom 26 percent in the previous year.

Private consumption accounted for over 80

percent of growth

Investment i s s t i l l sluggish at 20 percent o f GDP, some 10 percentage points below pre-crisis levels. The composition o f Indonesia’s investment has been shifting to property investment, which now takes up almost 80 percent o f the total. In contrast, investment in machinery and equipment declined f rom 23 percent o f total in 2000 to 18 percent in the f i r s t three quarters o f 2003, a trend confirmed by the 50 percent decline in machinery imports shown in the most recent trade statistics. Continued macroeconomic stability could support a revival in investment in the coming year, but without major improvements in the investment climate (Chapter 3) such a rebound i s l ikely to be modest.

2

Figure 1.2. Non-oil and gas trade growth rate slowed

(year-on-year growth rate)

60 -

50 -

' // - non-oil imports -40%

Figure 1.4. Indonesia's export to China and the world (growth rate)

yoy growth rate (%) 70 7

to Chins /

.30 -6"% ~~~~~~~~~~~~~~~~lsi~l~liQ..$isriifrd;.:lii~ 2(H)1 2w2 2003 2000 2001 2002 2003

Note: growth rate for 2003 i s for the first quarter (yoy). Source: DOTS IMF. Source: BPS, staff calculation .

Indonesia's export performance has been mixed. Strong export growth in the first quarter o f 2003, driven largely by rising commodity prices, slumped in the course o f the third quarter. For the first half of 2003, overall exports increased by 11 percent (yoy) to $30 billion, while o i l and gas exports, aided by high o i l prices in the aftermath o f the Iraq conflict, rose by 24 percent. Non-oil exports grew by 8 percent (Figure 1.2), mainly driven by higher exports in palm oil, metal ores, rubber, and copper, which all benefited from a rise in international prices. The slow growth in manufacturing exports may reflect increased competition from countries such as China and Vietnam, which compete in the same low-skill labor-intensive products in which Indonesia has a

Figure 1.3. Exports were increasingly driven by foreign firms prior to the crisis

(share of manufacturing output exported, by foreign and domestic firms)

comparative advantage. I t also likely reflects the dismal performance in FDI over the years since the onset of the crisis: foreign-invested f i r m s were the main driver for export growth prior to the crisis, but have been losing ground in recent years (Figure 1.3). The real effective exchange rate, which has been appreciating since 2001, may also explain some o f the weak export performance such as textile, even though i t i s still 20 percent below the pre-crisis, a level comparable to other countries in the region.

Indonesia took advantage of booming trade with China. Most observers have tended to focus on concerns about growing import competition from China. However, the country i s rapidly emerging as a center for regional production networks and a market for exports o f intermediate inputs from elsewhere in East Asia. The inputs are assembled in China for export to the rest o f the world or for consumption within China. While Indonesia's exports to the world grew at 3 percent in 2002, i t s exports to China grew at 32 percent and as much as 60 percent (yoy) in the first half o f 2003 (Figure 1.4).

40% - 30% -

20% -

- Forrign Firms Exports to China rose

10%

0 % bv 60 Dement in 2003 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2wO 2001 J 1

Note: Domestic firms have less than 30% foreign ownership. Source: Industrial Census, BPS.

3

EmpZoyment, Income andPoverty Modest growth failed to make a dent in unemployment. B y February 2003, 8.5 percent of the labor force i s out of a job, one percentage point more than the year before. " Despite unemployment, minimum wages were raised significantly since 2000, when they began re- emerging as a key element o f economic and social policy. As a result, their levels in real terms in 2002 were considerably higher than their pre-crisis levels. Low growth and rising formal sector wages are likely to have affected formal sector employment. While industrial workers' real wages rose by 7.1 percent (yoy) in Q3 2003, rural wages (a proxy for the informal sector) rose by only by 1.6 percent (yoy) in June-August 2003. The trend in minimum wages i s starting to change, however: the increase for the Jakarta minimum wage in 2004 was in the order o f 6.4 percent, in line with inflation. Achieving higher growth, perhaps 6 percent per annum, would be critical if Indonesia i s to absorb the 2-2.5 mill ion new labor market entrants each year. Higher growth would also be critical to further reduce poverty. Macroeconomic stability helped reduce poverty to pre-crisis levels, as prices o f key commodities fel l ; more o f the same i s unlikely to happen going forward. Moreover, income per capita i s still some 10 percent below the pre-crisis levels-20 percent, if measured by the World Bank's Atlas method.

Monetary PoZzcy and I n fZation Monetary indicators have continued to improve in 2003. Inflation has shown a remarkable slowdown over the year, mainly on account o f a stable exchange rate and well-controlled base money growth. Inflation reached 5.3 percent in November 2003 (yoy) or more than 5 percentage points lower than the same month in 2002 (Figure 1.5). Although inflation may increase later in the year due to seasonal factors, the Government's revised target o f 6 percent i s s t i l l well within reach. Declining inflation enabled Bank Indonesia to bring down policy interest rates. The SBI 1-month rate stood at 8.5 percent as o f mid-November 2003, some four percentage points lower than at end- 2002. The decline in the policy rate contributed to lowering domestic interest payments in the state budget, but i t s impact on the real sector was

Figure 1.5. Inflation further declining (yoy growth rate o f CPI)

-5 J

Dec.01 Mnr-02 Jun.02 Sep.02 D o c 4 2 Mlar.03 Jun-03 Sop-03

Source: BPS.

limited, as commercial banks' lending rates remained relatively high."'

International Trade and Paym ents Indonesia's balance o f payments continued to improve. The current account surplus reached $7.8 billion in 2002, and i t s trade balance registered a surplus of $23.5 billion. Although Indonesia's deficit o f $15.7 bil l ion on the services account i s typical for a developing country, i t i s under- performing in one promising area: workers' remittances (Box 1.1). Since the second half o f 2002 net private capital has improved markedly. In part this i s due to a rise in portfolio investment (Figure 1.6), but private exceptional financing (arrears and write-offs) s t i l l play a significant role

Figure 1.6. Private capital account turns positive (Private capital f lows in the balance of payments)

US$ billion

6 1

2 41L

-10 J

Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3 QI 97 98 99 00 01 ot 03

Source: Bank Indonesia.

4

as well.'" Recorded net FDI also turned positive in the second quarter of 2003, although this i s mainly due to technical factors such as definition changes rather than actual resumption o f long-term private investment." External debt outstanding has been stable at around $130 billion, but while government debt outstanding has increased gradually, the private sector has further reduced i t s external obligations. Short term debt over reserves continued i t s declining trend, further reducing Indonesia's vulnerability to external shocks. International reserves topped $34.7 bil l ion by mid- November 2003, $3 billion higher than at end- 2002. Reserves are also considerably higher than previously expected, a fact that reinforced the Government's decision to graduate from the IMF- supported program, and Paris Club rescheduling.

Fz~caZPoficy Fiscal consolidation continues (Figure 1.7). The 2003 state budget i s well on i t s way to achieve the targeted deficit o f 1.9 percent of GDP."' Although the January 2003 decision to postpone fuel price increases almost doubled spending on ill-targeted fuel subsidies, this i s likely to be offset by higher o i l and gas revenues. Persistent under-spending o f development expenditures remains a concern. During the 2003 budget discussion last year, parliament opted for higher development expenditures to stimulate the economy and improve the deteriorating infrastructure which was

Figure 1.7. Fiscal consolidation continues (budget deficit as a percent o f GDP)

6% 7

5% i 4.8%

4%

Revised budget 3%

2%

1%

0% 2wO 2001 2002 2003 2004

Source: Ministry of Finance.

underfunded during the crisis. As a result, budgeted development expenditures were increased from 2.8 percent to 3.4 percent of GDP. But actual spending has remained well below budgeted, in part because o f continued delays in the release of spending authority to the project management units.

The 2004 budget approved by parliament in November demonstrates the government's commitment to further fiscal consolidation. The budget deficit i s projected at 1.2 percent of GDP. Non-oil and gas domestic tax revenues are projected to increase from 11.7 percent in the 2003 budget to 12.3 percent through reforms in tax administration. Such reforms w i l l be critical fo

I Box 1.1. Overseas treasures

As typical o f developing countries, Indonesia i s a net importer o f services (the services balance was in deficit by $15.7 billion in 2002). But i t could step up its services exports.

Total workers' remittances to Indonesia amounted to $1.3 billion in 2002, barely 0.5 percent o f GDP. The dollar value o f these remittances rose sharply following the financial crisis, but they remain lower than other neighboring countries such as the Philippines where remittances reached $7.2 bi l l ion in 2002, or 9.2 percent of GDP. Like many other developing countries, Indonesia holds a comparative advantage in the supply o f services delivered through the temporary movement o f individuals (so-called Mode 4). Occupational categories in which Indonesian workers enjoy exportable competitive abilities cover a wide range o f skill levels-from professions such as nurses, midwives, physiotherapists and accountants, to medium and lower skilled occupations such as construction crew, o i l and gas workers, sailors and providers o f personal care.

Apart from issues o f access, which Indonesia could help to solve in WTO's Doha round, ineffectual protection o f overseas workers, and exploitation at home deter more Indonesians from going abroad. As a result, Indonesia i s missing out on a relatively stable revenue stream that for many other countries i s far larger than aid and export credits combined. If Indonesia would solve these issues much of the hole in the service account could be filled.

5

fiscal consolidation. On the expenditure side, fuel subsidies are expected to decline substantially, from Rp. 24.5 trill ion in the revised 2003 budget to Rp. 14.5 trillion. This i s wholly on the account o f lower international o i l prices, as there i s no plan to resume the fuel price mechanism at the moment. Although higher than projected o i l prices ($22/bbl) w i l l lead to higher fuel subsidies, a $1 increase in o i l prices would have a net positive impact by roughly Rp.1.5 trillion. A 1 percent increase in oi l production would benefit the budget roughly Rp. 0.5 trillion.

Fiscal consolidation i s tightly linked to macroeconomic stability. Domestic interest payments are likely to decline in 2004 on account o f lower domestic interest rates, which in turn depend on inflation and perceived risks. A 1 percent decline in SBI interest rate roughly reduces domestic interest payments by Rp. 2 trillion or 0.1 percent of GDP. External debt interest payments are less affected by changes in international interest rates, as around 70 percent o f external government borrowing has a fixed rate. In contrast, a weakening o f the Rupiah still has a small positive impact on the deficit.

The Government made significant progress in debt management. Public debt as a share of GDP continues to decline and i s projected to reach 67 percent in end-2003, almost half of this i s domestic. But the Government's financing needs w i l l sharply rise in 2004, and developing the domestic bonds market i s therefore crucial for fiscal sustainability. Successful auctions and buybacks in 2003 are therefore encouraging.vii

External Fzhanczhg Needs z n 206'4 Despite a lower deficit, the Government's financing needs w i l l be larger in 2004 than the year before. First, amortization i s some $2.6 bil l ion higher than in 2003. And second, Paris Club rescheduling, which contributed some $3 billion to financing in 2003, i s no longer available. Therefore, the government has to raise $10.5 bil l ion from various financing sources. The Government i s increasingly relying on domestic sources for financing. The approved budget projects to raise some $2.2 bil l ion from domestic bank financing, and almost $3.8 bil l ion from bonds

Table 1.3. 2004 Financing needs and CGI disbursement request

US$ billion 10.5

2. Budget deficit 11 2.9 3. Amortization 7.6 olw domestic 21 2.4 olw external 5.2

10.5

3.8 1.2 0.5

2.5-3.0

1. Gross financing needs (=2+3)

4. Sources of financing (=5+6+7+8+9)

6. Government bond issuance 41 7. Privatization and IBRA asset sales 8. Non-CGI foreign financing 51

9. Total CGI financing requested I/ including grants in revenue 2/ scheduled amortization and debt buyback 31 draw down o f deposits 4/ including domestic and external bonds 5/ including export credits Source: staff estimates.

5. Bank financing 31 2.2

At $2.5-3 billion, the request for CGZ

financing is similar to that of last vear

issue (sum of domestic and external). The remaining assets o f IBRA, and privatization, should raise another $1.2 billion. Foreign financing remains necessary, however, not least to limit pressures on the balance of payments and the currency. Other non-CGI sources, such as export credits, could finance in the order o f $0.5 billion. This would imply a financing need from the CGI o f about $2.8 billion. Given the uncertainty that usually surrounds these numbers, the projected amount being requested from the CGI i s in the range o f $2.5-3.0 bil l ion (Table 1.3), around the same order o f magnitude as last year.

Medium -Term Macroeconomic Outlook GDP growth i s likely to accelerate in the coming years. On the back o f a projected international recovery, and assuming absence o f major disturbances in the run-up to next year's election,

6

growth i s 3.5-4 percent in 2003 to 5 percent in 2006 in the base case scenario (Figure 1.8). The base case scenario assumes continued macroeconomic stability, and a gradual improvement in the investment climate. The external environment i s expected to be favorable- the World Bank’s Global Development Prospects 2004 projects world GDP growth to accelerate from 1.9 percent in 2002 to 2.9-3.0 percent in 2004-05, and world trade volume growth to increase from 3 percent in 2002 to 7.9 percent in 2004-2005. The Government’s growth projection o f 4.8 percent for 2004 lies within the range o f the possible, albeit at the higher end of it. In this scenario, growth w i l l increasingly be driven by investment rather than consumption. Increasing Indonesia’s investment to GDP ratio i s key to the medium term growth prospects o f the country, but it w i l l not be easy to achieve. The saving rate declined to just above 20 percent in 2002 from well over 30 percent in the pre-crisis period (although arguably the pre-crisis level may not have been sustainable). In addition, the increase in external debt service pressures in the coming years means less financial resources for investment. Indonesia’s external debt service i s projected to increase from US$20 billion in 2003 to U S 2 3 bil l ion in 2004. I t i s therefore critical that Indonesia attracts new foreign savings to satisfy i t s investment needs by improving its investment climate.

Stronger reforms could lead to higher growth. Continued macroeconomic stability, a rapidly improving investment climate (Chapter 3), and better investment decisions by a stronger financial sector (Chapter 2) would lead to higher and more productive investments that would accelerate growth. The World Bank foresees that growth in such a reformist scenario could reach 6 percent by 2006. Many o f the needed reforms are included in the Government’s own Economic Policy Package

Figure 1.8. Medium-term growth projection Percent

7.0% 7

High Case Scenario

/- Base Case Scenario

4 0%

3.0% 4 2002 2003 2W4 1005 1006 2001

Source: staff estimates.

Pre-and Post IMF. Performance on this package i s therefore crucial for higher growth.

THE WHITE PA PER

The Government’s decision not to renew i t s IMF supported program was made in August 2003. This followed a 2002 MPR decree and an examination o f the options the Government had after the expiration of the Extended Fund Facility in end-2003. The decision was broadly welcomed by the markets and the international community, and i s warranted by the strong improvements in the country’s macroeconomic conditions in recent years and the achievement of external viability. Indonesia’s macroeconomic indicators are now broadly similar to those of other countries at the time of graduation (Table 1.4). Indonesia’s collaboration with the IMF wi l l continue through the post-program monitoring, a mechanism that allows for regular discussions between authorities and IMF on key policy issues.

The Government’s “Economic Policy Package Pre and Post IMF” or White Paper was issued on September 15th as a presidential instruction (Inpres No.5/2003). A separate instruction o f the

Table 1.4. International comparison of major indicators upon IMF graduation 1/ ~~

Country Last purchase Credit rating Real GDP Inflation rate Budget balance (S&P) growth rate (% of GDP)

Indonesia Dec 2003 B (current) 3.5-4 6.5 -1.9 Korea May 1999 BBB 10.9 0.8 Thailand June 1999 BBB- 4.4 0.3 Brazil Dec 1999 B+ 0.8 8.9

5.8 6.7 5.0

Mexico Dec 1995 BB -6.2 35.0 -0.2 1/ Indicators are at year o f graduation; Indonesia’s economic figures are the World Bank’s estimates. Source: World Bank staff.

7

Governor o f the central bank regarding monetary policy, and other measures wi thin the competency o f Bank Indonesia was issued at the same time. The objective o f the new package i s threefold: (i) maintaining macroeconomic stability, (ii) restructuring and reforming the financial sector, and (iii) increasing investment, exports, and employment. The document came about in a round o f consultations wi th a variety o f stakeholders. The Government set up a monitoring team in the Coordinating Ministry for the Economy. The team i s responsible not only for monitoring but also for prioritizing issues. The Coordinating Minister for the Economy every month reports the progress and prioritized issues to the President and relevant Ministers at a policy level. The Chairman o f the monitoring team calls for follow-up meetings at the technical level. The private sector has also emerged as an independent monitoring body for the implementation o f the White Paper, and academic groups plan to establish the same mechanism.

In the end the success o f the Economic Policy Package w i l l depend on i t s implementation, and the Government w i l l face several challenges in doing so. First, the sheer number o f measures i s large, and keeping these on track w i l l require careful monitoring and management o f the agenda. Second, the individual measures are clearly o f different orders o f priority. Some have major importance, such as new investment approval legislation and changes in the decentralization laws to reduce policy uncertainty. Others are minor measures that came in on the behest o f a ministry or agency in the (wrong) understanding that inclusion in the White Paper would guarantee additional resources. Prioritizing among the measures i s therefore crucial.

Third, several o f the policy actions included could be good or bad, depending on the substance o f the measures, which the White Paper does not describe in detail. For instance, the quality o f a Trade L a w or a L a w on Small and Medium Enterprises w i l l

depend on their contents. Ensuring that the individual measures indeed contribute to the stated goals o f the White Paper w i l l require vigilance on the part o f the monitoring team, especially in the run-up to the elections. This holds equally for measures not included in the White Paper, but that could derail those proposed for, which could undermine Indonesia’s prospects for employment creation.

Init ial progress in implementing the policy package i s promising. The White Paper contains over a hundred actions to be undertaken over the next 18 months. Of the 43 action plans wi th a deadline in end-September 2003, the government completed 36 action plans on time. Further progress was achieved in October. All the remaining action plans not completed in September were done in October. Of the 54 action plans in October, the Government completed 37 on time. In addition, the Government completed 3 action plans ahead of schedule.

Mazntaznzng Macroeconomic Stabih2y The objective o f the White Paper’s macroeconomic package i s to maintain macroeconomic stability over the medium term. This complements the measures included in the Instructions o f the Governor o f Bank Indonesia that aims to continue the prudent monetary policy o f recent years. T o maintain stability, the government has set the following direction for fiscal policy:

Reduce the budget deficit gradually to achieve a balanced position over the period

Reduce the stock o f government debt to GDP to a safe position; Reform and modernize the national tax system to create a reliable revenue source; Increase the efficiency o f government expenditures; Develop an effective debt management system.

2005 -2006;

8

Table 1.5. Macroeconomic stabilitv measures in the White Paper

e

e

e

e

e

e

e

a

Action Plans Outputs Date

Increase tax revenues, competitiveness and improve the Draft o f amendment o f tax Dec 2003 investment climate by simplifying the tax structure and rates comparable to best practice countries Broaden the tax base

Deliberate the Draft Law on State Treasury Operation

Reorganize the Ministry o f Finance by splitting the budget and treasury function Continue policy to l imi t regional borrowing in 2004 consistent with Law No. 1712003 and Government Regulation No.23/2003

Move the State Debt Management Office (PMON) to the Treasury Operations, consistent with M O F reorganization Optimize control o f the money supply through SBI auctions and money market instrument and other monetary policies

Foreign exchange sterilization I intervention to reduce Rupiah exchange rate volatility Maintain a safe current account balance with increasing support from non-oil and gas exports, tourism, overseas worker remittances Maintain adequate foreign exchange reserves to cover imports and official foreign debt service payments

law

Add 60 thousand individual tax payers and 50 thousand companies

Treasury Law

Presidential Decree

Ministerial Decree

Presidential Decree

Board o f Governor Decision

Board o f Governor Decision

Increased non-oil and gas exports

Dec 2003

After law passed

Mar 2004

2004

Mar 2004

On-going

On-going

2004-2006

On-going

Source: World Bank staff based on Presidential instruction No. 5/2003.

The White Paper contains appropriate policies to maintain macroeconomic stability-including maintaining a low inflation rate, a realistic exchange rate, and sufficient foreign exchange reserves. I t also pushes the reforms to their next phase by focusing on building critical institutions and systems (tax administration and customs, debt management unit), establishing procedures for checks and balances (government procurement, treasury, accounting standards), and strengthening the regulatory framework to improve public expenditure management and the fiscal decentralization system (Table 1.5). Such reforms would provide a much stronger and more sustainable foundation for fiscal consolidation. The government now has a proven record in adequately managing macroeconomic policies, although with the IMF exit and the elections the economic and political environment ahead i s more challenging. Implementation o f the deeper institutional reforms-including tax administration, customs administration, and public expenditure management-would provide a

stronger basis for fiscal consolidation in the years to come.

Tax Reform The objective of the tax policy reforms in the White Paper i s to create a sound and competitive tax system that encourages investment in Indonesia and i s comparable to best-practice countries. Indonesia’s tax system i s sound-it has in place a modem value added tax (VAT) and income tax, i t relies l i t t le on import duties, and i t has a balanced reliance on income and consumption taxes. But Indonesia’s non-oil and gas tax revenue to GDP i s relatively low at about 13 percent in the 2004 budget. Indonesia still relies on o i l and gas revenues, which account for about 20 percent of total revenue, but these are subject to fluctuations depending on o i l prices. Strengthening the tax system-mainly through improved tax administration but also through tax policy-would solidify fiscal consolidation, given that a large part o f the government’s expenditures are non-

9

discretionary. For that, the tax system can be further simplified and i t s economic efficiency improved.

T a A dm histration Re form Tax administration in Indonesia i s weak. No t only i s enforcement poor and collection low, but corruption in the tax administration i s widespread. The coverage ratio (revenue collectedrevenue potential) i s slowly rising, but i t remains low at around 75 percent in 2002. Moreover, weak implementation o f tax policy, such as VAT rebates, undermines the efficiency o f the tax system and adds a burden to taxpayers. The various action plans in the White Paper aimed at improving tax administration are in line wi th a major reform program in tax administration recently carried out by the Directorate General o f Taxation (DGT), which includes: (i) an annual revenue generation program aimed

at increasing tax collection in the short term through closer monitoring and enforcement;

(ii) a preliminary set o f structural reforms designed to create a foundation for strengthening the operations o f the DGT; and

(iii) a comprehensive modernization program.

DGT continues to make strong progress in implementing i t s reform agenda. However, the revenue generation initiative i s not l ikely to fully achieve tax revenue targets for 2003. Further actions need to be taken, including the expansion o f the large taxpayers offices (LTOs), extending the DGT’s governance framework to tax offices beyond LTOs; implementing a strategy for administering small and medium taxpayers on a pilot basis; enhancing the f low o f information between the budget and tax authorities; and simplifying refund and audit procedures. In particular, the VAT refund mechanism critically needs to improve as i t i s especially important for exporters. For that, it would be important to allow DGT not to automatically audit a l l claimants; reimburse interest on the refund; discontinue blanket requirements for a l l refund claimants to submit al l original invoices and the DGT to examine each invoice; accelerate the introduction of modern procedures for auditing refunds and making payments.

PubLC Expendzyure Management The White Paper contains several policy actions to increase the efficiency o f government expenditure. These include reorganization o f the Ministry o f Finance by splitting the budget and treasury functions, increase the efficiency and transparency o f government procurement, develop a new classification o f government expenditures consistent wi th international practice, and gear up for performance-based budgeting. Indonesia has now established the conditions f rom which to implement fundamental public expenditure management reforms. The passing o f the State Finances L a w (No. 17/2003) and the release o f the M O F restructuring blueprint provide an organizational and legal launching pad which to tackle public expenditure management reforms. The amount o f effort shown in the past year f rom the Financial Management Reform Committee i s most impressive.

The action plans to improve public expenditure management have different levels o f implementation diff iculty and priority. The complexity o f introducing a new expenditure classification (from sectoral to functional) should not be underestimated; and more time may be needed for i t s implementation (a draft classification i s proposed for December 2003). Similarly, transition to a medium term expenditure framework and more performance-oriented system needs to be carefully-staged. There are a number o f diff icult conceptual challenges in moving towards performance-oriented budgeting, not the least defining clearly what i s meant b y “performance”. Nevertheless, pushing budget processes in this direction for the next budget round i s a worthy goal, as long as it i s understood these reforms are l ikely to take several years to take hold.

The authorities’ decision to reorganize the MOF and create a new directorate general o f Treasury in the near future i s expected to accelerate the ongoing reforms in PEM. K e y reforms awaiting implementation at the DG Treasury on i t s creation are: a comprehensive overhaul o f the obsolete government payment and receipt systems; a consolidation o f the government cash resources currently held in thousands o f bank accounts; a

10

transition in measured steps to an accrual based government accounting and reporting system; and above al l enhancing the internal control framework and transparency o f government treasury operations. In addition to measures spelled out in the White Paper to increase the efficiency o f government expenditure, i t i s important for the maintenance of macroeconomic control that the scope o f entities covered in the state budget and their fiscal risks be expanded, and the information presented to Parliament be progressively enhanced to include a medium-term fiscal position. Moreover, decentralization o f services to lower government levels does not remove the central government’s responsibility for general government fiscal management, and there remains a need for coordination o f fiscal policy across government levels.

Decmfra&ufion

The White Paper commits the government to revising the key decentralization laws; L a w 2211999 and L a w 2511999, b y September 2004; and L a w 34/2000 on Regional Revenue by June 2004. The revisions, if wel l coordinated, can be an important factor in securing the medium- to long- term success o f decentralization. Regional autonomy i s now more firmly embedded in the country’s constitution. But the rapid decentralization and i t s hasty preparation have lef t much unfinished business. Some remaining issues could undermine the potential efficiency gains o f decentralization and even trigger fiscal imbalances and macroeconomic instability in the longer run.

Among the key issues that the actions in the White Paper should address are: (i) Clarify principles of functional assignments

across levels of government (Law 22). The intergovernmental fiscal system needs to be,

The richest local government had 32 times more revenues than the Doorest one

(ii)

(iii)

The

first and foremost, based on expenditure responsibilities, which are unclear at the moment. Firmly embed the principles on which the distribution of transfers should be based, and clarify the institutional arrangements, thereby creating a greater degree o f transparency and certainty in the allocation o f resources. Over time, the transitional elements in the DAU could then be phased out, and i t s equalizing function strengthened. Current inequalities are unacceptably high: in 2002, the richest local government had 32 times the revenues per capita o f the poorest one (Figure 1.9). At the same time, the role o f the DAK could be expanded, particularly to assist poorer regions in priority areas. Expand the regions’ revenue raising authority, while banning nuisance taxes by transferring control over more significant taxes (such as the Land and Building Tax) to local governments. The proliferation o f nuisance taxes (see Chapter 3) shows that local governments are looking for ways to boost their locally raised revenues. An expanded, but closed, l i s t o f local taxes would help curb this trend. Supervision o f local regulations-on tax and others-should be strengthened in tandem.

revisions o f L a w 22 and 25 are ongoing, and are scheduled to be completed by the end o f 2003. However, i t i s not clear whether this target i s realistic. L a w 34 was scheduled to be revised in parallel, but the MOF has not yet received a presidential instruction to prepare a revised draft. The DAK and DAU allocations for 2004 are currently being debated in the DPR. The DAK distributions to regions in four areas (education, health, roads and irrigation) w i l l be based on a set o f general, specific and technical criteria.

The White Paper sets a measure to improve regional government accounting systems in line w i th State Finances L a w (No. 1712003). All matters related to financial management, including accounting standards and systems, would thus be governed by the State Finances L a w and the forthcoming Treasury Law, as wel l as their respective implementing regulations. Implementation o f this measure would help

11

Figure 1.9. Inequality among local governments (per capita local government revenue in Rp. million, consolidated per province, 2002)

40% - 30% - 20% - 10% .

Banten

Jawa Timur

Yogyakarta

Bengkulu

Gorontalo

Sulawesi Tengah

Sumatra Barat

Maluku

Actual Projectionunderthe Basecase Scenario

rsl Carry-Over H Own Source Revenue OBorrowing 0 Other H Tax Shared Revenue 0 Non-Tax Shared Revenue InDALJ 1 0 DAK

Kalimantan Timur ', ' -- 1

0 500 1000 1500 2000 2500 3000 3.500

Source: Staff estimates based on information from MOF

remove the confusion created recently when the Ministry o f Home Affairs issued a decree (Kepmendagri 29/2002) which introduces new guidelines on regional financial management, including a new budget structure based on performance budgeting. This overlaps with the State Finances Law which stipulates that regional budgets have to be based on the accounting standards to be issued by the Central and Regional Accounting Standards Committee. As a result, 56 percent of regions are using the new format for their 2003 budgets, based on the M o m Decree 29, creating difficulties for the M O F to capture regional budget information in a consistent manner. Implementation o f the White Paper measure would help put in place a consistent framework to ensure adequate fiscal monitoring. Figure: 1.10. Government debt i s further declining

(Debt as a percent of GDP)

State Debt Management Although the Government's debt i s projected to decline further (Figure 1.10) i t s level i s s t i l l high, and prudent debt management remains o f paramount importance. The White Paper proposes two measures to consolidate state debt management. First, continue to limit regional borrowing in 2004. In the proposed measure, the M O F w i l l issue a decree explicitly banning regional governments f rom taking out loans, except through the central government. This measure would provide another year for the government to work out the regional borrowing framework, strengthen local government fiscal capacity, and put in place a local fiscal monitoring system. There also needs to be an inventory o f all liabilities of sub-national (including municipal) governments and quasi-governmental entities owned and operated by them, in order to get a handle on emerging (quasi) fiscal risks.

Second, move the state debt management office (PMON) to the Treasury Operations, consistent wi th M O F reorganization. The proposed consolidation o f the public debt management functions under a newly established Treasury

0% 4 2001 2001 2W3 2004 2W5 2006 2W

Source: staf f estimates.

12

Department in the MOF i s an essential f i r s t step towards comprehensive public debt management. Care should be taken to establish formal and frequent channels o f interaction between the other entities that w i l l be involved in domestic and foreign public debt related transactions (such as Bank Indonesia and the Ministry in-charge of monitoring State owned enterprises). Moreover, measures need to be taken to ensure adequate debt management. International good practice calls for the consolidation o f authority within the Government Debt Management Offices, wi th a clear separation f rom fiscal and especially f rom monetary policy; sound organizational structures allowing internal control; better information systems; and more technical staff. In Indonesia, two key legislations need to be made consistent (i.e. the Government Bond L a w 2002, and the draft External Debt Law) so as to make comprehensive public debt management in the Indonesian government possible.

Public debt management under the Treasury Department i s l ikely to mitigate operation risks, since policies and managements are expected to be conducted in the department. Apart f rom manage sub-national and SOEs debt, the challenge for the department i s (i) handling market risks such as interest rate risks, liquidity and refinancing risks, and exchange rate risks, and (ii) developing secondary government bond markets.

The measures in the White Paper give confidence macroeconomic stability w i l l be maintained in the year ahead. But accelerating growth and creating jobs requires more: (i) a financial sector that efficiently and safely intermediates between savers and investors i s crucial for financing growth without the risks that triggered Indonesia's past financial crisis; (ii) an investment climate that entices levels of investment significantly higher than the current 20 percent o f GDP; and (iii) policies that ensure that a l l Indonesians benefit f r om higher growth. The White Paper contains measures in each o f these areas, and it i s t o those this report now turns.

percent in 2003, after having slumped a cumulative 33 percent during 1997-2001. I' These figures are based on the latest quarterly labor statistics in February 2003. The sample household number (15k thousands) i s less than Sakernas (Annual Survey). The annual survey shows the unemployment rate increased from 8.1 percent in 2001 to 9.1 percent in 2002.

Working capital lending rate declined less than 2 percent during the first eight months o f 2003. Overall loan outstanding grew by 21 percent in September (yoy), but consumer credits outstanding grew faster at 34 percent (yoy). The surge in consumer credits supported strong private consumption of durable goods, but households are accumulating debt.

Exceptional financing i s the gap between actual payment and scheduled payment, and includes debt rescheduling, write-off and accumulation o f arrears. " To be consistent with IMF BOP manual version 5, privatization and IBRA asset sales purchased by foreign entities are now included in FDI. Thus, international sales o f Indosat and several IBRA banks was now counted as FDI. vi The original target was 1.8 percent. While the deficit did not increase, nominal GDP turned out lower. vii In April 2003, the government auctioned Rp. 2.7 trill ion o f bonds in the domestic market, with a coupon interest rate o f 12 percent and an 8-year maturity. M O F also arranged for a successful debt buy-back falling due in 2004 and 2005 in August. This was followed by a less successful treasury bonds auction in October, but the November auction again became a success, albeit at a yield that was higher than in April, following the international trend towards higher yields.

iii

iv

U S dollar prices for non-oil primary commodities rose 5 percent in 2002 and are expected to increase another 7

i

13

CHAPTER 2: RESTRUCTURING AND REFORMING THE FINANCIAL SECTOR

The health o f Indonesia’s financial sector has improved significantly since the 1997-98 crisis. Progress has been made in restructuring and strengthening the banking sector. B R A has sold several banks taken over during the crisis, largely to foreign investors. The Government has begun reducing i t s stake in state-owned banks. Banks have reduced their non-performing loans and increased their capital-adequacy ratios. And regulation and supervision o f the financial sector i s now better than before. However, recent events such as a large banking fraud and volatility in the mutual funds emphasizes that much remains to be done to satisfactorily restore i t s function as a sound intermediary and financier o f growth in Indonesia. The key issue facing the sector i s to move f rom a crisis management mode to a longer-term development mode. This requires first and foremost finishing the agenda o f restructuring the banking sector and creating an appropriate financial sector safety net. Second, i t requires increasing the role o f non-bank financial institutions in the sector, as they are better suited for development finance, and more eager to buy government bonds. The White Paper measures go a long way in addressing the banking sector agenda. The Government needs to go beyond the White Paper measures to lay a solid basis for the further development o f Indonesia’s non-bank financial institutions.

RECENT DE VEL OPMENTS

Indonesia’s economy traditionally relied predominantly on the banking sector to finance growth. The banking sector s t i l l accounts for over 90 percent o f financial system assets (Table 2.1). In order to finance higher levels o f growth that the Government expects to achieve, credits f rom the banking sector would need to grow substantially.’ Can the banking sector deliver such growth in a sustainable and a prudent manner? With state- owned banks s t i l l comprising hal f o f Indonesia’s banking sector, and weak internal controls and governance difficulties already manifesting themselves at one bank, i t w i l l be a challenge to

Table 2.1. Indonesian financial sector in 2002 Assets Share No. of

(Rp. trillion) (percent) institutions Banking 1,099 88.9 2,261 Commercial bank 1,089 88.2 138 BPR 9 0.8 2,123

Insurance 62 5.0 169 L i f e insurance 21 1.7 58 General insurance 15 1.2 102

Social Insurance Reinsurance

Pensions Employer Pension

State-owned Private

Financial Institution Multi-Finance Securities firms Pawn shop (pegadaian)

26 1

37 33 26 8 3 28 8 2

2.1 0.1 3.0 2.7 2.1 0.6 0.3 2.3 0.6 0.2

5 4

331 307 71 236 24 116 171 1

TOTAL 1,273 100.0 3,380 Source: Infobank Magazine (August 2003), ADB, Bank Indonesia, Investor Magazine (July 2003).

The banking sector accounts for around

90percent of financial assets

ensure that the banks operate on strictly commercial principles, while delivering high rates o f credit growth. Diversifying sources o f finance i s an important element o f reducing the vulnerability o f the economy as wel l as strengthening the financial sector. Capital markets, non-bank financial institutions, and institutional investors such as pension funds and insurance companies need to be strengthened to ensure that they mobilize and efficiently invest long-term domestic resources.

14

Figure 2.1. Key financial indicators of banking system have improved

indonesia

Korea

Malaysia

Philippines

Thailand

NPLs in commercial banks percent of total

1 Dec 1998

0 10 20 30 40 50 60 percent

Profitability of the banking system

rates of return percent

4 y indonesia

-1 8

-20 ! , 1997 1998 1999 2000 2001 2002 2003

Interest margins of banks percent percent

6

-10 I I

1997 1998 1999 2000 2001 2002 2003

Capital adequacy ratios of the banking system

percent

20

10

0 -

-10 -

-20 I I

1997 1998 1999 2000 2001 2002 2003

Source: World Bank. East Asia Update: Progress in Financial and Corporate Restructuring, November 2003.

Zmproved Performance of the Bankzng Sector

Key indicators o f the Indonesian banking system have drastically improved since the crisis, and are now at par with other East Asian countries (Figure 2.1). But the numbers alone hide some o f the underlying weaknesses of the sector.

Loan quality has been improving due to the on- going loan restructuring in the Indonesian banking

sector. As o f mid-2003, the non-performing loan (NPL) ratio stood at 7 percent, down from 12 percent a year ago. However, some banks reduced their NPLs by converting them into shares of unlisted and often financially distressed companies. While allowed by central bank regulations, such practice raises concern whether these banks can recover much on these converted loans in the future. Furthermore, some banks simply extended the tenor of overdue loans, rather

15

F i g u r e 2.2. Interest r a t e spreads a r e on the rise (percentage difference between rate) deposit and lending The Capital Adequacy

10 3

8 -

6 -

4 -

2 -

Ratio of banks reached 23 percent

governing mutual funds, and ongoing significant redemptions by mutual fund investors could reverse this trend.

Percentage l 2 1

W 0 Jsn-01 May-01 Sap-01 Jan-02 May-02 Sep-02 Jan-OS May03

Source: Bank Indonesia.

than restructuring them based on commercial viability o f the borrower. Many of these loans could return to problem status in the future.

The decline in the NPL ratio also reflects the rapid growth of new loans, the quality o f which w i l l only become evident over time. Banks have rapidly expanded lending on a gross basis since 2002, in particular in consumer credit. New bank loans amounted to Rp. 80 trill ion in 2002, an increase of 40 percent over the previous year. As o f August 2003, new loans had reached Rp. 50 trill ion or a similar level compared with the same period in 2002.

Banks have improved their profitability on the back o f increased spreads. The decline in deposit rates, and hence funding costs, was not matched by a similar decline in lending rates (Figure 2.2). Hence interest margins-and profit margins- increased in 2002 through the first half of 2003. Reflecting this, rates o f return to assets and equity also showed continued improvement in 2002 and the f irst half of 2003.

Banks have also reduced their reliance on government bonds for profits. Government bonds currently account for 30 percent o f total bank assets, compared to 36 percent a year ago. The proportion of banks’ income from interest on government bonds declined to 17 percent of total income, compared to 22 percent a year ago. Apart from the Government’s repayment of bonds due, much o f this decline can be ascribed to the shift of recapitalization bonds from banks’ balance sheets into mutual funds. Recent changes in regulations

Higher profits, combined with recent bonds issues o f some banks allowed the banks to restore their capital base. The capital adequacy ratio (CAR) of the banking system as a whole reached 23 percent in June 2003, indicating that for the banking system as a whole capital positions are adequate to support loan growth in the short-term. However, the large volume of government debt, many restructured loans in bank portfolios, and the existing off-balance sheet commitments to future lending suggest that these CAR figures overstate the robustness of the system. In addition, several banks have bought NPLs from BRA in recent auctions, against which they may have to provision in the future. To sustain higher rates o f credit growth, banks wil l have to further strengthen their capital positions.

Risk management remains an issue in most banks, both with respect to assessment o f credit risk and management of operational risk. Weak credit assessment s k i l l s as well as the unwillingness to take on fresh credit r isks partly explain the current situation where many banks are still holding excessive liquid assets, usually in the forms o f SBI (Bank Indonesia’s short-term certificates) and interbank loans, and are unwilling to make fresh commercial loans. Excessive liquidity i s also created due to the fact that most o f the deposits in the banking sector are short term. Around 66 percent o f time deposits are o f 1 month duration and 17 percent are o f 3 month duration. With such a short funding duration, banks are unwilling to provide much-needed long-term financing as i t would lead to significant asset-liability duration mismatches. Banks also face constraints on the overall quality of human resources. In areas such as credit origination, risk management, and technology, human resources are particularly weak, and institutions and programs to provide the

16

necessary s k i l l s are important for the overall development o f the sector.

Bank Indonesia’s regulations have been significantly upgraded over the years and are now broadly in line wi th international norms. However, the key issue remains one o f consistent supervision and enforcement, especially wi th regard to state- owned banks. Some important recent regulations (i) limit banks ability to buy loans f rom IBRA; (ii) require banks to include market risk in calculation o f capital adequacy ratio; (iii) limit banks equity investment in financial institutions; (iv) rule BI’s short-term lending; and (v) set risk management requirements in banks. Bank Indonesia recently commissioned a study o f banking architecture (or banking landscape) to develop a vision for the future o f the banking sector, based on six “pillars”: effective regulatory system; sound banking structure; strengthening internal conditions o f banks; independent and effective supervisory system; reinforcement o f supporting infrastructure; and protection and empowerment o f customers. The study i s expected to form the basis for detailed planning for each o f the six pillars. Implementation i s expected f rom 2004 to 2014.

/BRA zj. Ready tu CZum IBRA’s five-year mandate i s to end in February 2004 and the Government has announced that it w i l l be closed on schedule. B R A has already been gradually moving into a closure mode this year while continuing i t s various asset disposal initiatives. IBRA i s on track to meet i t s full-year 2003 budget contribution o f Rp. 26 trill ion. Until September 2003, i t had collected cash and bonds amounting to Rp. 15.2 trill ion. But i t i s l ikely that IBRA w i l l continue to hold some assets as o f i t s scheduled closing date. The Government has

IBRA is on track to meet its budget

approved IBRA’ s proposal to establish holding companies to house these residual assets for eventual return to the private sector and to resolve the legal claims.

Closing IBRA on schedule would signal a clear break from the crisis, and can be positive. However, the Government should ensure that some o f IBRA’s major responsibilities in the banking sector are to be transferred to other institutions and these are satisfactorily implemented. IBRA currently administers the deposit guarantee scheme and handles resolution o f troubled banks. The Government has already planned to establish a deposit insurance corporation (LPS) to assume these functions. A draft law on LPS has been submitted to parliament. The Government intends to establish a new unit in the Ministry o f Finance to take over IBRA’s deposit insurance role in the transition to the LPS. The White Paper includes several other measures that together would constitute the country’s financial safety net.

CapdaZMarkets andMutuaZ Funds Indonesian equity markets have been one of the best performing equity markets in the world this year. The Jakarta Stock Exchange index was up almost 43 percent in Rupiah terms and over 50 percent in U S dollar terms year-to-date (as o f Nov. 17, 2003). IPOs o f Bank Mandir i and BRI have added considerably to market capitalization, which stood at about $30 b i l l ion as o f end 2002. Government and corporate bonds have been trading in over-the-counter markets and in the Surabaya Stock Exchange.

Recent developments in mutual fund are worrisome. Mutual funds have recently increased enormously in size (Figure 2.3). Some recapitalized banks in cooperation wi th fund managers have created mutual funds, whose underlying asset i s government (recapitalized) bonds. These mutual funds buy recap bonds f rom the recapitalized banks, create an underlying pool o f assets, and sell claims on them to the public in the form o f mutual fund shares. Under the current contribution Of RP. 26 tax regulation, returns f rom mutual funds are tax- - “ A

exempt for the f i r s t f ive years. With this year’s significant decline in interest rates o n banks time deposits, these mutual funds became attractive as a

tr i l l ion

17

j Number of funds (LHS) T 180 J- y-:! 160 --

140 -- 120

, et asset value (RHS)

40

20 -- n , I I 1 ' 1 I ~. 1 1 1 1 i 1 ! i ~ 0

1996 1998 2000 2002 Jan-03 Mar-03 May-03 Ju1.03 Sep-03

- 100

-- so -- 40

-- 30

-- 20

-- i o

Source: Bapepam.

substitute, and the proportion o f time deposits in total banks deposits declined.

Since October 2003, mutual funds have witnessed rapid redemptions. Almost Rp. 6 tri l l ion worth o f funds were withdrawn f rom mutual funds in October alone and the trend i s expected to continue. Whi le some o f the redemptions could be driven by liquidity requirements, a more l ikely reason i s the recent clarifications issued by Bapepam that these funds are not covered under the blanket guarantee had a phycological impact. Some banks are bringing recapitalization bonds previously put into mutual funds back on to their own books. Thus far, these sizeable redemptions have not caused stress to the system, but close monitoring by the Government i s needed to ensure n o liquidity problems for banks.

THE WHITE PAPER: RESTRUCTURINGAND REFORMING THE FINANCIAL SECTOR

The White Paper aims at restructuring and reforming the financial sector. Specific proposed actions include (see also Table 2.2): 0 establishment o f a financial sector safety net,

including creation o f a deposit insurance corporation, establishment o f a lender o f last resort facility at Bank Indonesia, and establishment o f a financial services authority

0 continuation o f the bank restructuring program, including improving the health o f the banking sector and strengthening state bank governance;

(OJK);

0

0 improving capital market supervision; 0 consolidation o f insurance and pension

tightening the oversight o f money laundering activities;

industries.

The White Paper also addresses issues relating to improving the performance and governance o f state-owned enterprises and advancement in the development o f public accounting.

The Government's commitments in the White Paper, if implemented, are steps in the right direction to strengthen the financial sector. I t i s an ambitious agenda, though uneven in terms o f emphasis across the segments o f the financial sector. I t i s also far less specific in terms o f timing than some o f the other measures in the White Paper, largely because many actions hinge on parliamentary approval o f legislation. In the near future, measures proposed in the White Paper w i l l need to be complemented more forcefully wi th efforts to put more public banks in the hands o f the private sector, diversify the sources o f financing in the economy by further developing the capital market, develop sound institutional investors such as insurance and pension funds that can mobilize long-term domestic resources and allocate them efficiently, and improve corporate governance so as to reduce risk premiums associated wi th corporate lending and allow increased lending under prudential regulations.

FzhanciaZSectu Safety Net and Fzhancial

As scheduled in the White Paper, the Government has prepared the financial safety net (FSN) concept note and submitted the draft deposit insurance (LPS) law as wel l as relevant amendments to B I law wi th respect to the lender o f last resort function to parliament. Once these laws are approved, the next steps involving establishment o f the LPS and phased reduction in the current blanket guarantee can be implemented. The Government has also submitted the draft OJK law to parliament which, upon approval, wi l l permit the creation o f a unified financial regulatory authority. The Government has also proposed several steps to foster financial sector stability. A key component o f this effort-the development of

Stabz22y

18

Table 2.2. Financial sector measures in the White Paper

Action Plans output Date OJK blueprint and work After OJK law Prepare for the establishment o f a Financial Services

Authority (OJK). Conduct surveillance on financial institutions, markets, and infrastructure as well as foster market discipline.

Prepare for the bank action plans.

Divest IBRA majority shares (after parliament approval) in Bank Lippo, BII and Bank Permata.

Strengthen the governance structure o f state-owned banks (Bank Mandiri, Bank BNI, Bank BRI and Bank BTN). Amend Law No. 1512002 on Money Laundering. Finalize paper on mutual fund grand strategy. Reorganize Bappepam in line with M O F reorganization.

plan Financial stability review

Risk management action plans by public banks Budge revenues Better banking sector

Various outputs

Amend Law No.1512002 Final concept Presidential decree

passed Regular basis

(every semester) April 2004

Nov 20031 Nov 20031 Feb

2004 Sep 2003- Dec

2004 Done

Dec 2003 Mar 2004

Source: World Bank staff based on Presidential instruction No.5/2003.

a forward-looking blueprint for the Indonesian banking architecture report-has been finalized and awaits implementation.

Overall, the Government i s broadly on track with i t s own implementation schedule for actions in the FSN area. The set o f actions proposed are also fairly comprehensive and address key issues. The main concern i s one o f implementation capacity and transition arrangements. Once the LPS law i s passed, the phase out o f the blanket guarantee w i l l have to be done with great care to ensure that market confidence i s not adversely affected at any step o f the process. Transition issues also exist for the OJK. There i s uncertainty regarding the extent of OJK’s supervisory mandate (for example, whether i t would include bank supervision). A clear stand on this issue by the Government would help market confidence.

Some key issues that need to be addressed in the context o f establishing the FSN have not been touched upon in the White Paper: (i) establish a formal coordinating mechanism between BI, MOF, LPS, and OJK regarding provision o f support to and intervention o f banks that may need assistance in future; (ii) explicitly provide prompt corrective action to intervene and close financial institutions without political interference (in the past, corrective action has not forced banks to deal promptly with problems, raise new capital, or close); (iii) ensure that each of the public

institutions involved in the safety net has the necessary capacity to undertake i t s assigned functions during the process o f such coordination.

The Bankzhg System Measures in the White Paper to improve the banking system include divesting banks under IBRA; strengthening governance of state-owned banks; and improving banking regulations, supervision, and enforcement.

Divest banks under IBRA. The White Paper calls for divesting more than 20 percent o f BRA’S share in Bank Niaga, divesting BRA’S majority shares in Bank Lippo, BII, and Bank Permata, and divesting BRA’S minority shares six banks. Since the publication o f the White Paper, BRA has disposed o f 20 percent of i t s shares in Bank Niaga and finalized the sale o f BII. BRA’S attempts to sel l Bank Lippo were not successful due to the bids being too low. A re-launch of the sale o f Bank Lippo and the launch o f the sale o f Bank Permata are planned in the coming months. B R A continues to divest i t s other assets-NPLs, property, equity, and quasi-equity-broadly in line with the Government’s proposed time frame.

Strengthen governance structure of state-owned banks. The White Paper provides for specific actions to improve governance o f four state-owned banks (Mandiri, BNI, BRI, BTN). In that regard,

19

Internal controls at State Banks such as BNI are still weak

the Government has appointed independent commissioners at Mandir i w i th appropriate technical expertise. I t has also completed the sale o f 40.5 percent o f BRI's equity for $500 mi l l ion and the bank i s now listed on the Jakarta Stock Exchange. Actions relating to BNI and BTN have not yet been completed.

Whi le these are important actions, there i s a need for much greater emphasis on improving the governance o f state-owned banks. The recent case o f a large fraud-involving $200 million-that has come to light at BNI shows that internal controls at the bank are s t i l l weak and opportunities for collusion between bank employees and third parties remain. Media reports have been speculating as to whether this i s a problem unique to BNI or i s more widespread. The Government needs to take urgent action to ensure that confidence in the banking sector i s not adversely affected. Enforcing accountability both for those directly involved as well as for senior management wi l l assist in sending the right message to the markets and begin to restore confidence. Beyond this short term action, the Government should be seen as proactively implementing steps to significantly upgrade internal controls and standard operating procedures both at BNI and other majority-state owned banks. These issues gain greater urgency in light o f recent plans for rapid increase in lending unveiled by some state-owned banks.

In addition, a longer-term strategy involv ing greater privatization o f state-owned banks also needs to be developed. Finally, there i s an urgent need to upgrade s k i l l s in general-and risk management s k i l l s in particular-in the banking sector. Strong human resource capacity in the banking sector i s key to i t s long-sustainability. The institutional framework for providing

technical training in banking needs to be established.

Improve banking regulations, bank supervision systems, and enforcement of prudential regulations. Several actions are included in the White Paper to fully comply wi th 25 Base1 Core Principles and to improve enforcement o f prudential regulations. These are important measures that need to be undertaken by Bank Indonesia. By bringing these measures into greater compliance wi th the Bade Core Principles, further strengthening o f BI' s regulatory and supervisory capacity as wel l as i t s enforcement capacity, especially wi th regard to state-owned banks, would be also needed to truly improve confidence in the banking sector.

A nti-Money Laundertizg Presidential decrees wi th regard to the organization, authority, remuneration systems and staffing o f the Financial Intelligence Unit (PPATK) have been effected. L a w No. 15/2002 on money laundering has been amended to bring i t in line wi th the guidelines o f the FATF. PPATK has signed Memoranda of Understanding (MOUs) w i th several domestic agencies including Bapepam, Ministry o f Finance, Customs, and Tax. Additional actions on witness protection programs, guidance to financial institutions on analyzing and reporting suspicious transactions, and public dissemination o f issues related to anti-money laundering efforts are in progress.

Thus far, the actions have largely been in line wi th the schedule outlined in the White Paper. Despite these efforts, Indonesia continues to remain on the FATF l i s t o f non-cooperative countries and territories (NCCT) wi th regard to anti-money laundering." Whi le the legislative measures have been appreciated, the key issue now i s t o ensure that the PPATK, as wel l as the overall financial system, effectively implement anti-money laundering measures. Being on the FATF N C C T l i s t creates hurdles for international investors as they are required to give special attention to businesses and transactions w i th persons, including companies and financial institutions in Indonesia. FATF sanctions would be much more harmful to the economy. Indonesia would therefore need to

20

Indonesia’s capital markets are small and

underdeveloped

focus on sound implementation o f i t s anti-money laundering framework, especially in light o f i t s increased need to interact w i th the global financial community in the years ahead and i t s efforts to enhance i t s investment climate.

Capzltal‘ Markets The White Paper’s action plans to strengthen and develop capital markets include: 0 strengthening financial and operational

capacity o f securities companies, 0 restructuring o f the Stock Exchange,

strengthening regulation and supervision o f mutual funds,

0 improving corporate governance, 0 reorganize Bapepam.

Whi le these are undoubtedly important issues, they continue to be focused on the current functions of capital markets. Going forward, however, much more w i l l be required o f Indonesian capital markets than has been the case thus far. Therefore, an important priority for the Government should be a focus on the future role o f capital markets in Indonesia. Indonesia’s capital markets are small and underdeveloped, in comparison both to the domestic banking sector as wel l as capital markets in other countries in the region. Equity markets have thus far not been a significant source o f financing for the corporate sector. Government bond markets have also only recently begun developing. In addition to macroeconomic and political instability, high concentration o f ownership, weak corporate governance, inadequate supervision and regulation, weak protection o f minority shareholder rights, a small institutional investor sector, and competition f rom international exchanges have al l played a role in the l o w level o f development o f Indonesia’s capital markets.

Many o f these issues need to be addressed b y the Government going forward. With a significant privatization program for state-owned enterprises (SOEs) on the agenda, Indonesia w i l l need an active and institutionally strong equity market to absorb forthcoming issues. There i s also an urgent need to develop a sound market for government bonds-as the Government plans to raise more resources f rom the domestic markets to finance the budget deficit. A thriving bonds market could also play a role in domestic financing o f infrastructure and other long term investments key for developments. A vibrant capital market w i l l reduce the dependence o f the economy on bank financing for these purposes, and thereby reduce the vulnerability o f the economy to stresses in the banking sector.

Strengthen Bapepam’s regulatory, supervisory, and enforcement role. Bapepam i s the regulator o f capital markets. The White Paper simply states that Bapepam needs to be reorganized in line wi th MOF reorganization. Beyond this, the Government could focus on: strengthening Bapepam’ s regulation, supervision, and enforcement and bringing them in line wi th internationally recognized standards; rationalizing and strengthening the securities industry which currently has a large number o f relatively small participants; enhancing market infrastructure, including trading systems and clearing and settlement systems; exploring options to strengthen the ability o f stock exchanges to raise capital for their expansion, including consolidation and demutualization; and enhancing and enforcing disclosure norms for listed companies.

Improve corporate governance. The White Paper measures relate to regulations on audit committees o f public stock companies and responsibility o f management for the companies’ financial reports. Deeper reforms in corporate governance are needed, especially given the link between corporate governance and the financial sector.

The ownership structure o f companies in Indonesia i s characterized by concentrated ownership, family-owned businesses, and controlling shareholders. The business culture i s relationship-

21

based rather than rule-based. Indonesia i s making progress in improving i t s corporate governance; however, l ike al l countries in East Asia, i t needs to intensify i t s efforts to create business environments for investors that are based on rule o f law and that promote transparency and accountability (Table 2.3)."' But while Korea and Malaysia continue to make significant progress, Indonesia continues to be ranked below several other countries in the region.

In reforming i t s corporate governance and in establishing a rule-based business culture, Indonesia faces many challenges. First, enforcement o f laws and regulations i s weak. Corporate officials in the position o f trust need to be held accountable when they violate the law. Sanctions should go beyond fines, and the incentive system should be changed so that violators are truly discouraged and good corporate behavior i s promoted. The amendments to the Company law should explicitly refer to the fiduciary duties o f directors and managers for violation o f securities laws. Second, transparency and reliability o f financial reports and adequacy o f disclosures remain a major challenge. Whi le Indonesian accounting standards are consistent wi th international standards, there i s a wide gap between those standards and actual practices. Public perception and confidence in the reliability o f company financial reports and disclosure remains low. There i s a need for greater disclosure and transparency in annual reports and financial statements, and for better quality audit o f

public companies. Financial reporting should be de-linked f rom tax reporting, as companies report income often in a way that avoids paying taxes.

Third, although the concept o f independent directors has been introduced, whether these directors act independently f rom the controlling shareholders and exercise effective oversight remains an issue. The process for nomination and selection o f independent directors needs to be strengthened. Conducting training and promoting awareness among a l l stakeholders i s critical to changing the business culture. Efforts to enhance the s k i l l s and knowledge o f independent board members need to be expedited. Improving the roles and responsibilities o f the audit committees should be a high priority. Separation of management f rom the owners and appointment o f professional managers needs to be further promoted.

Znsurance and Pensions The l i fe insurance and pensions sectors combined control about Rp. 58 tri l l ion o f long-term domestic resources, wi th almost 26 mi l l ion participants. I t i s important that the Government takes a strategic view o f these segments o f the financial sector and the potential for their contribution to broader development objectives o f the Government. The sectors can prove essential risk management products for the population, as wel l as mobilize significant amounts o f long-term domestic financing resources. These resources can be channeled into a variety o f uses that support the

T a b l e 2.3. M a r k e t s r a n k e d b y corporate governance b y CLSA Ranking from 1 (worst) to 10 (best)

Institutional mechanisms

governance

Country score

Political and

environment Adoption Of and corporate I G A A P and Enforcement regulatory regulations

culture 2002 2003 2002 2003 2002 2003 2002 2003 2002 2003 2002 2003

Singapore 8 8.5 I 7.5 5.5 6 9 9 8 8 1.4 1.7 Hong-Kong 8 8 6 6.5 I 6.5 9 9 I I 1.2 1.3 India 8 8 5 6 6 6 6 7.5 6 6.5 5.9 6.6 Taiwan I I 5 5 5 5 I I 6 6 5.8 5.8 Korea 6 I 3 3.5 4 5 I 7 5 6.5 4.7 5.5 Malaysia 9 9 2.5 3.5 3 4 6 I 6 6.5 4.1 5.5 Thailand 7.5 1.5 2 3 3 4 5 6 4 4.5 3 .8 4.6 China 4.5 5 3 4 5 5 I 5 3 3 4.4 4.3 Phlippines 6 6.5 2 2 2 2 6 6 4 4 3.6 3.1 Indonesia 4 4.5 1 1.5 5 4 4 5 2 2.5 2.9 3.2

Source: CLSA, Emerging Markets (2002,2003).

22

long-term development o f the economy, such as infrastructure investments.

Insurance. The insurance sector i s fragmented, but only a handful o f large insurance companies account for most o f the total assets and income (Table 2.4). The state controls the social insurance market and has a sizeable presence in the l i fe insurance market together wi th the jo int ventures. In the general insurance market, domestic companies dominate the market. The sector also has a large number o f small insurers that are undercapitalized and less competitive. In addition to an uneven distribution o f assets and income among insurance firms, implementation o f more robust regulatory requirements and, in particular, improved capital requirements, i s needed.

Starting in 2000, the Government has required insurance companies to calculate Risk Based Capital (RBC) as a measure o f solvency. Under the new legislation, companies are required to maintain a ratio o f assets to liabilities o f at least 120 percent. The requirement i s being implemented in stages (5 percent in 2000, 40 percent in 2001, 75 percent in 2002, 100 percent in 2003, and 120 percent in 2004) to encourage the industry to rehabilitate itself through rationalization and consolidation. So far the authority has identified a number o f insolvent insurers and has imposed a ‘limited business restriction’ on them, which i s to be followed b y revocation of business licenses.

The Insurance Directorate within MOF i s responsible for regulation and supervision o f the industry. The Government i s aware o f the need to modernize and upgrade the insurance sector regulatory and supervisory regimes as wel l as

regulatory and supervisory capacity. Current insurance regulations are s t i l l weak and incomplete particularly in dealing wi th issues o f bankruptcy and liquidation o f insolvent insurers, protection o f policyholders rights, and insurance frauds. There i s also a need for a clear process for discipline, sanctions, intervention and liquidation o f troubled companies within the sector. In addition, creating a framework in which policy holders are adequately safeguarded i s key to maintaining public confidence in the financial sector. MOF has proposed an amendment o f the current insurance law to the parliament to address some o f these issues. However, these amendments are part of an overall package o f legislation including that for the integrated financial services authority and i t i s unclear when parliamentary approval w i l l be obtained.

The White Paper includes steps to help restructure and reform the insurance sector mainly through a series o f government regulations and decrees. The Government has issued several decrees relating to regulation and operations o f insurance firms in line wi th the proposed schedule in the White Paper. A decree to begin implementing a risk-based approach to supervision has also been issued. Efforts are underway to establish a framework for policy-holder protection and bring regulation and supervision into l ine wi th the I A I S principles.

The actions proposed in the White Paper are important elements o f strengthening the insurance industry. However, several issues beyond the White Paper need attention: resolving weak and insolvent insurance firms expeditiously, strengthening regulation and supervision, and enhancing the confidence o f policy holders through development o f a policy holder protection scheme.

Table 2.4. Insurance sector profile in 2002 (Rp. billion)

General Life Reinsurance Social Total No. of insurance company 102 58 4 5 169 Total assets 14,925 20,537 773 25,649 61,884 Equity 8,082 3,963 236 2,861 15,143 Net premium 4,326 8,850 383 3,379 16,939 Investment return 419 894 33 3,485 4,832 Technical reserves 3,119 15,131 419 4,466 23,134 Net Drofit 848 188 29 1.570 2,636 Source: Asian Development Bank and Investor Magazine, July 2003.

23

Pensions. Indonesia has three large retirement funds: A S A B R I (pension fund for the police, civil ian and military defense personnel), TASPEN (pension fund for c i v i l servants), and JAMSOSTEK (provident fund for employees in the private sector and in SOEs). In addition, over 300 employers, including many state-owned enterprises, have retirement funds for their employees. As o f December 2002, al l these retirement funds had combined assets o f about Rp. 36 trill ion. The governance, regulation and supervision, and investment policies o f pension funds have been poor and not tied to the overall development priorities o f the country. Both TASPEN and A S A B R I are poorly funded relative to their benefit promises and hence are proving to be increasing drains on the national budget as opposed to being sources o f long-term capital.'" A S A B R I i s controlled by the Ministry o f Defense, TASPEN i s under the Ministry o f Finance, while JAMSOSTEK i s under the Ministry o f Manpower and Transmigration. The first two entities are effectively unsupervised, while JAMSOSTEK and the employers' pension funds have reporting obligations to MOF. All pension funds have suffered f rom lack o f transparency and disclosure, weak management information systems and internal corporate governance, and directed investments under polit ical influence. The vast majority o f the assets of these retirements funds are invested in short-term bank deposits-a clearly sub-optimal use o f these funds. A relatively small proportion o f these assets i s invested in the capital markets and other private securities.

The White Paper aims at improving the pension fund management. All measures are scheduled to be implemented in 2004, and include certification for pension fund managers and regulations on contributions, investments, and aspects o f corporate governance. Whi le these are important steps, the White Paper focuses exclusively on employer-sponsored pension funds that are wi th in the regulatory purview o f the Ministry o f Finance. As in insurance, a strategic view o f the pensions sector i s needed. A comprehensive approach to the sector including al l the various different pension plans, a clear articulation o f the role this sector should play in the economy, as wel l as development and implementation of a set o f reforms to put these institutions on a sound footing

should be a priority. Key steps involved in the process are development o f an overall framework for pension provision in Indonesia, actuarial and financial assessments o f the various systems, and greater integration o f the policy framework for institutions in this segment wi th overall macroeconomic objectives.

Outside the framework o f the White Paper, the Government i s preparing plans for more comprehensive social insurance, including health care, unemployment, and workers' accident insurance (see also Chapter 5). The current proposals for a comprehensive health insurance require further thought, and extensive consultations wi th stakeholders, including employers' and employees' organization. The universal nature o f the scheme, although theoretically desirable, may in fact undermine existing arrangements that are working well. The Government's idea to levy a six percent tax on the wage bill to finance the scheme could, at least in the short run, undermine i t s goals to maximize employment creation. And the proposed management o f the funds by a state- owned company would, in light o f the experience wi th state-owned pension funds, far f rom guarantee that the intended benefits indeed materialize.

Unofficial estimates are that new credit might need to grow by about 25 percent per year. " Other countries on the list are Cook Islands, Egypt, Guatemala, Myanmar, Nauru, Nigeria, Philippines, and Ukraine.

T h e following macro factors (and weighting, in percent) are accorded by CLSA in country ranlungs: Clear, transparent and comprehensive rules and regulations (10); Committed and effective enforcement of rules and regulations (30); Political and regulatory environment affecting CG and ability of companies to maximize value without arbitrary restrictions (20); Adoption of Intemational Generally Accepted Accounting Principles (20); Institutional mechanisms to promote awareness and a culture of good govemance (20); The scale for country ranlung i s 1 to 10. '" The Asian Development Bank estimates that TASPEN was in a cash-flow deficit (excess of payouts over contributions) of Rp. 13.5 trillion in 2000 while ASABRI was in a cash flow deficit of Rp. 30 billion in the same year. These deficits are funded out o f the Government's general budgetary resources and are expected to grow dramatically over the coming years, thereby becoming a part of the fiscal problem for the government.

i

ii

24

CHAPTER 3: INCREASING INVESTMENT, EXPORTS AND EMPLOYMENT

“Economic growth of 4 percent is not suflicient to address problems of unemployment, increase incomes, and reduce poverty; the key to raising economic growth-thus improving employment opportunities and people’s welfare-is to increase investment and exports” (White Paper).

RECENT DEVEL OPMENTS

Trends ziz In vestm en4 Exports and Empluyment Indonesia’s investment has been the slowest to pick up among the former crisis countries. Investment as a share o f GDP i s only 20 percent, 10 percentage points lower than before the crisis. And investment approvals-admittedly not including approvals in o i l and gas, and financial sectors-are sluggish. Domestic investment approval in January-October of 2003 was Rp. 18 trillion, some 14 percent lower than last year, and 65 percent below the same period in 2001. Foreign direct investment approval in the same period was $9.3 billion’ or 26 percent higher than last year. Even so this level i s a fourth of the pre-crisis level.

Indonesia’s recent export performance has been relatively poor as well. In 2002, the country’s export share in GDP was s t i l l below the 1997 level,

Figure 3.1. Indonesia’s export performance lags its neighbors’

(Index o f 2002 export share o f GDP, 1997=100)

180

160

140

120

100

80

60

40

M

0

while that o f Korea, Malaysia, and Thailand all exceeded their pre-crisis levels by a significant margin (Figure 3.1). Indonesia lost world market share in its top 30 non-oil exports in recent years- from 2.9 percent to 2.7 percent. Within the region, most of the competition came from China, which increased i t s world market share in Indonesia’s top 30 non-oil exports from 10 percent in 1997 to 14 percent in 2001 (Figure 3.2). This competition was especially strong for plywood, fabrics, digital processing, furniture, jerseys, and footwear. Competition from Vietnam i s also rising in specific products, mainly crustaceans, natural rubber, and footwear.

But not all i s gloom for Indonesia’s exports. First, China i s becoming an increasingly important export market for Indonesia (Chapter 1). Second, Indonesia i s gaining in comparative advantage in other products-the percentage o f products in which Indonesia has a comparative advantage ii rose from 27 percent o f i t s exports in 1995 to almost 33 percent in 2001 (Table 3.1). Admittedly, the country’s comparative advantage seems to be shifting in the direction o f resource- intensive products rather than in the direction of technologically-advanced products. Third,

Figure 3.2. Competition from China i s rising (percentage change of China’s market share in 1997-2001

on Indonesia’s top export products)

Peripheral eiectical units Sound recorders and reproduce

Garments &clothing Footwear

Electrical wire andcable Complete digital central proeessing

Radio-broadcast receiven for molor Jeneys,puil-oven,twinsets

Yarn Printing paper & writing paper

Goid,non.monetary Copper ores &concentrates

Natural rubber latex Trousen,breeches etc

Under garmenfs,knitted of cotton

-5 0 5 10 15 20

Source: staff calculation based on UNCOMTRADE data. Indonesia Korea Malaysia Philippines Thailand

Source: staff calculation

25

Table 3.1. Indonesia's revealed comparative advantage

Figure 3.3. Fewer firms are set up (percentage in total companies)

Product 1995 2001 Fish etc. Coffee, tea etc Tobacco Crude rubber Cork and wood Pulp and waste paper Metalliferous ores and metal scrap Coal, coke and briquettes Petroleum, petroleum products Gas, natural and manufactured Fixed vegetable oils and fats Animal-vegetable oils-fats Fertilizers Cork and wood manufactures (excl. furniture) Telecommunications & sound recording Furniture and parts thereof Travel goods, handbags Articles of apparel and clothing

3.9 3.3 4.3 4.1 0.9 1.5 15.9 8.9 1.1 1.4 2.0 3.2 4.6 4.8 5.2 7.0 3.1 1.9 15.8 8.0 5.6 9.7 8.1 3.5 2.0 0.9 16.7 9.5 1.0 1.3 1.9 2.3 0.9 1.6 2.4 2.7

Footwear 6.2 4.3 Out of 63 2-digir SlTCproducts: No of products with RCA>l 17 21 % of products with RCA>l 27 33 Note: A country's revealed comparative advantage in exports (RCA) in a product captures the extent to which the country exports a higher proportion of the product that the average country. RCAz l shows that the country has a comparative advantage in a product. The greater the RCA the greater the comparative advantage. Source: Staff calculation based on UNCOMTRADE data

Indonesia's export base i s diversifying: between 1995 and 2001 the share o f the 3 largest and 10 largest exports fe l l f rom 28 percent to 24 percent and f rom 48 percent to 40 percent, respectively.

The lack o f economic activity and the weak investment climate led more manufacturing firms to close down and downscale, and fewer firms to set up shop (Figure 3.3). Labor-intensive sectors such as textile, clothing, and footwear felt the

Indonesia 's competitiveness is

shifting to resource based products

6.0

5.0

4.0

3.0

2.0

1.0

0.0

2000

down-scaled new dosed

Source: staff calculation based on BPS industrial census data.

pinch o f increased competition f rom countries l ike China and Vietnam, and were particularly affected by the rise in minimum wages in recent years."' As a result, employment in this sector dropped more rapidly than that in manufacturing as a whole (Figure 3.4), an trend that continued in 2003." Profitability was also down considerably: profit margins in manufacturing dropped f rom 16.4 percent in 1995-96 to 2.5 percent in 2000-01.

What Affects In vestors.7 Indonesia's investment climate and competitiveness have not received high marks since the crisis. Indeed, the Wor ld Economic Forum recently ranked Indonesia's competitiveness at 60 out o f 90 countries, wel l behind Malaysia (26), Thailand (31) and China (46), but before the Philippines (64). T o find out

Figure 3.4. Manufacturing employment i s falling (percent growth rate o f manufacturing employment)

4.0 1

-4.0' 1999 2000 2001 2002

Source: staff calculation based on BPS industrial census data.

26

Figure 3.5. Macroeconomic instability, policy uncertainty and corruption are the main obstacle

Figure 3.6. Decentralization has exacerbated the problems

Macroeconomic instability Policy uncertainty

Corruption by Iwal government Corruption by central govemment

Tax rates Cost of financing

Legal system Local labor regulation

National labor regulation Electncity

Tax administration Licensing by local government

Licensing by central government Transportation

I

4 > ,.%, . . Policy uncertainty ‘

Labor regula

1 -0 $0 -0170 -0’60 -050 -040 -0 30 -020 -0 10 -000

Telecommunication

000 050 100 150 200 250

Average score from 0 for none to 4 for severe Average score from -2 for worsened to 2 for improved

Note: Large firms: more than 500 workers, medium firms: between 101-500 workers, small firms: less than 100 workers. Source: World Bank-ADB Private Investment Climate

Source: World Bank-ADB Private Investment Climate Survey, 2003 (preliminary results).

Survey, 2003 (preliminary results).

what exactly keeps f i r m s from investing in Indonesia the World Bank and ADB asked investors about their concerns.’ Investors worry most about three issues: macroeconomic instability, policy uncertainty, and corruption (Figure 3.5). The reason that macroeconomic instability tops the l i s t o f concerns i s in part due to long memories o f investors, but i s also witness to the damage that large swings in exchange rate, inflation, and interest rate can inflict upon firms. Macroeconomic stability thus remains a critical pre-requisite for higher investment. Policy uncertainty, including legal uncertainty, influences the risks and returns to investment. I t has increased as the process o f democratization and decentralization led to many inconsistencies in

Macroeconomic

rules and regulations, and in their application and enforcement. Corruption, both in the central and local governments, also ranks high among investors. Other important obstacles to investment include, power shortages, and local and national labor regulations. In contrast to findings in many other countries, most o f these obstacles are felt more strongly by larger firms than smaller firms. Investors’ concerns have been exacerbated by decentralization (Figure 3.6), notably regarding corruption, policy uncertainty, business licensing.

THE WHITE PAPER

The White Paper recognizes the role o f the Government in improving the investment climate. The Government’s role, according to the paper, i s to provide an enabling environment for the private sector through good policies and institutions. The Government’s recognition o f weaknesses in the investment climate i s encouraging, and many stability, policy

uncertainty and measures proposed indeed suppo i the goal o f improving investment climate. A t the same time, - this section o f the White Paper i s a bit o f a mixed bag. O f the many measures proposed, numerous ones-such as the improvement in licensing, tax and customs administration, and the revamping o f infrastructure-indeed support the stated goals.

corruption top investors’ concerns

27

Others, such as measures proposed in trade and in the promot ion o f SMEs seem to cater to special interests, and cou ld we l l add to the pol icy uncertainty that firms say keeps them form investing. M o r e so than fo r other parts of the Whi te Paper, setting priorities, and keeping the proposed measures focused on the goals i s needed. The Government should also heed the advice o f the private sector-the people that should in the end do the much-desired investment. The private sector Committee that monitors the progress and problems has already gone on record w i th i t s priori t ies (Box 3. l), and the Government i s w i l l i ng t o listen. A regular dialogue between the business community and Government o n investment climate issues wou ld indeed be healthy, and the cabinet level Investment and Trade Promot ion Team- already set up under the Whi te Paper-could become the vehicle for such a dialogue. Moreover, the Team could become the catalyst fo r reforms that would improve the investment cl imate beyond the Wh i te Paper, and cou ld forge the consistency o f policies affect ing investors that they so direly need.

The key elements o f the Wh i te Paper to increase investment, exports, and employment include (Table 3.2):

improve investment po l i cy and processes by introducing a new investment law, setting up a one-stop licensing shop, and setting up a Nat ional Investment and Export Team to assess intersectoral problems; promote industry and trade by improv ing international market access through trade promot ion centers and counter-trade deals, introducing a new trade law, and changing trade po l i cy to ref lect changes in competitiveness; develop small and med ium enterprises; improve tax and customs services (Chapter 1); improve the legal environment by el iminating corruption, improving the commercial court performance, improving the capacity and performance of l aw enforcement officers (see Chapter 4); and harmonize regional regulations;

0

0

Box 3.1. White Paper priorities o f the business community

A Monitoring Committee consisting o f members o f the Indonesian Chamber o f Commerce (KADIN), representatives o f the Jakarta Japan Club Foundation, AmCham Indonesia, the International Business Chamber, and a number o f independent economists, has been set up to monitor the progress in implementing measures in the White Paper o f interest to the business community. The Committee stresses that “the main job o f government i s to create a conducive climate (for investment and trade) through good policies and institutions”, and highlights three priorities:

Legal reforms. Laws should be introduced only after they have been thought through properly and discussed publicly with important stakeholders outside the government. They should be more facilitative than restrictive. The hierarchy o f law should be strictly adhered to. Immediate action should be taken to: (i) eliminate inconsistencies and contradictions between regional and national laws and regulations, presidential decrees, ministerial decrees and interpretations; (ii) improve capacity and performance o f law enforcement officers; and (iii) improve the government’s inter and intra ministry/department coordination so that passed laws are consistently upheld, applied, and honored in a timely manner (e.g., enforcement o f recent tax court decisions).

Development of small and medium enterprises. Priority policy measureslaction plans are: (i) improve SMEs’ access to funds; (ii) remove the excessive requirement on SMEs o f additional collaterallfixed assets outside o f the project; and (iii) look for breakthrough measures to encourage banks to extend credits to SMEs by implementing land certification processing, strengthening credit guarantor and insurance schemes, and expanding linkage program between commercial banks, rural banks and micro finance institutions to reach SMEs located in remote areas.

Skill increase and empowerment of the poor. The Committee supports the policy o f poverty eradication outlined by the GO1 to help. Concrete actions could be made to put in place education services and health infrastructure and services that are managed and paid for by the government through the normal budgetary process without additional tax levies. Another important action i s to simplify the land certification program, including national registration. This wi l l benefit all levels o f society by providing legal security to what i s the most important asset o f most families.

Source: Press release o f the Private Sector Monitoring Committee, November 2003.

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Table 3.2. Main policy measures to improve the investment climate and promote industry and trade

Policy measures Action plans Target date Investment climate:

Provide legal certainty to businesses Revise the negative investment l i s t December 2003 December 2003

Simplify the licensing process Set up a one-stop shop October 2003 Eliminate obstacles to investment Set up a National Investment and Export Team October 2003

(see also legal reforms) Complete and present a draft law on investment

and exports Industry and trade:

Increase exports through increased Increase non-oil exports to non-traditional markets On-going promotion and market penetration through counter-trade as long as i t i s in line with the

budget Restructure business support Submit a trade law to Parliament November 2003

Fulfill the agricultural needs of Increase the output and quality of agricultural On-going agencies

domestic industry with domestic production needs (corn and soybeans)

imports with changing competitiveness

commodities, and completely supply agriculture input

Simplify procedures for exports and Harmonize import tariffs for commodities consistent On-going

Small and medium enterprises:

medium enterprises and cooperatives to productive resources

Increase the access of small and Increase land certification program gradually to On-going increase access to bank credit

Source: World Bank staff based on Presidential instruction No.5/2003.

build and rehabilitate infrastructure to ensure services in electricity, transportation, energy, telecommunications, and water resources; improve employment prospects by introducing new labor regulations;

In addition to these measures, the third part o f the White Paper also includes measures to improve governance (Chapter 4) and alleviate poverty (Chapter 5).

This i s an ambitious and comprehensive agenda. I t covers important measures that w i l l address the policy uncertainty concern o f investors, including in areas such as tax and customs administration reforms, legal reforms, and harmonization in regulations across levels of governments. Some measures remain vague, and would need to be well defined in their substance and well implemented to have a meaningful impact.

Zmprovzng Zn vestm ent PoLcy andApprovah New investment law. A key policy in the White Paper for improving the investment climate i s to

complete a new unified law on investment currently being prepared. The new law wi l l replace both the 1968 Domestic Capital Investment law and the 1967 Foreign Investment law. I t wi l l provide for equal treatment of domestic and foreign investors, as well as a range o f incentives such as tax holidays. The law wi l l also regulate investment in all sectors, with the Investment Coordinating Board (BKPM) serving as a one-stop shop for prospective investors. The draft law i s a step forward in consolidating the framework for investment. Although the principles behind several key issues are generally in line with best practice, they are s t i l l vague and details o f the law's actual implementation are relegated to supporting regulations and decrees. As such, the law wi l l contribute little to restoring investors confidence unless i t s substance i s further spelled out. The option currently included in the draft law o f providing tax incentives needs to be reassessed as international experience has shown that they rarely work to attract investment, and end up subsidizing foreign treasuries rather than firms.vi

29

Figure 3.7. Time and cost of starting a business in Indonesia

Time. days 200

150

100

50

Cost, % o f income per capita

T 16

(right Cost axis) m :: I

1 I

. I * ‘ ) T 4 ‘ 2 Time (left axis) - m a

1 1 I I 1 1 I T O 0 1 2 3 4 5 6 7 8 9 10 11

Procedure

1. Obtain the standard.form o f the company deed 7. Deposit capital in a bank 2. Notarize deeds 8. Apply for publication 3. Certificate o f criminal record 9. Pay registration fee at Treasury 4. Certificate o f domicile 10. Register at Ministry o f Justice 5. Obtain NWPW number (taxes) 11. Social security 6. Source: Doing Business in 2004, Indonesia Country Profile, http://www.worldbank.org/doingbusiness.

Apply for the business trading license

One-stop licensing office. The White Paper promises to simplify the licensing process by setting up a one-stop licensing office at BKPM. If effectively implemented, this could greatly ease the licensing and business processing problems faced by investors. A key objective should not be only to simplify the process, but also to reduce the number o f licenses and permits, and the number o f procedures needed to obtain them.

Currently, investors can easily secure an “in principle” approval for an investment license f rom Indonesian embassies, BKPM or the Regional Investment Coordinating Board (BKPMD) in the provinces. The delays occur when investors begin

A big hurd le is the 60 days it takes the

M in i s t r y of Justice to register a firm

the process of registering and implementing their project. vii According to laws and regulations, starting a business in Indonesia entails 11 procedures and takes 168 days, costs 14.5 percent average income, and requires a minimum capital o f three times average income (Figure 3.7). Although the “official” cost o f starting a business i s not high compared to the rest o f East Asia, i t almost takes triple the time to do so. Moreover, each procedure i s a point o f contact, and an opportunity to extract a bribe. The biggest problem i s to register at the Ministry o f Justice-for ratification o f the deed of establishment and a registration certificate. The Ministry o f Justice approves or rejects the application wi th in 60 working days, but there i s n o automatic approval even after that. The use o f notaries to prepare for company registration duplicates the due diligence undertaken by the Ministry’s internal legal assessment on company formation. In many countries, business registration i s an administrative process not a legal one, and it i s a registration system, not an approval system. After registering the business, many steps remain before a project can be implemented. The investor would apply to BKPM or BKPMD to obtain a l imited importer license; a customs approval letter

30

for capital goods and a customs approval letter for raw materials after verification o f the l i s t o f proposed imported capital goods, machinery, equipment and raw materials requested for exemption f r o m import duties; a foreign manpower plan approval for the required local training; and an expatriate work permit. In addition, the investor would need to obtain f rom the local government a location permit that gives the right to the investor to use the land for specified purposes; a land title and a building construction permit; and a nuisance act permit for environmental purposes.

The Government i s drafting a Presidential Instruction on BKPM One Stop Service (OSS) that would allow i t to authorize approvals o f new projects and expansions, setting up o f foreign companies representative office, and issuance o f six types o f licenses (including hiring o f foreign workers, importers license, expansion license and facility to liberalizeheduce import fees o f raw materials and other fiscal facilities). This i s an important step towards removing or consolidating some o f the hurdles involved. At the same time, an effective OSS w i l l necessarily have to work closely wi th al l involved authorities. In the Philippines, where a One Stop Action Center was established in 1987, investors continued to complain about cumbersome procedures and delays; for some administrative requirements, a double licensing procedure was in effect imposed, wi th the investors having to apply to both the One Stop Act ion Center and the licensing body. The true strength o f an OSS lies in identifying shortcomings in the administrative implementation of a country’s investment policy and in implementing policy reforms, rather than short- term, ad hoc solutions to problems investors face.

Beyond the investment law and processes, Government must clarify the responsibilities o f the regions. L a w 22/1999 which entrusts local authorities the responsibility for facilitating and approving investment. Many regional investment boards have claimed full responsibility under this law to process investment applications, but other regulations say BPKM continues to play a role. Without clarity on who does what, the licenses issued may not convince banks and other financial institutions to put money into an investment.

Prom otzng Zndustry and Trade Indonesia i s a very open economy and in the past has greatly benefited f rom i t s export-oriented growth strategy. As observed before, Indonesia’s competitiveness in some of i t s traditional exports may be declining. So far, the government has responded to these pressures by resorting to ad hoc measures such as import licenses in key garment and agricultural products. The White Paper i s not encouraging in this respect: the proposed measures seems to express a desire to continue t h i s same ad hoc protectionist trend, rather than take a more strategic view on Indonesia’s trade policy.

The measures proposed to promote industry and trade include (i) increased reliance on counter- trade deals as the basis for export promotion, (ii) a move towards self-sufficiency in key agriculture commodities, and (iii) an attempt at increasing protection as a way o f shielding against s h i f t s in comparative advantage. But the White Paper addresses important elements too, including speeding up tax rebates which are especially important to exporters. Submission o f a trade law to Parliament i s timely, but i t needs to be brought in l ine w i th international best practice.

First, the White Paper proposes to use counter- trade deals to increase non-oil exports to non- traditional markets. In 2003, the Ministry o f Industry and Trade has arranged counter-trade deals wi th Russia ($193 mill ion) exchanging raw materials (mainly pa lm oil) for defense equipment; and wi th Thailand ($21 mill ion) exchanging heavy metal products (train cars) for raw materials import (mainly rice). A counter-trade deal wi th L ibya ($540 mill ion) i s being negotiated. Counter-trade deals are sometimes used by less developed countries to relieve overcapacity in some industries or to alleviate liquidity constraints; but they become quickly counter-productive. They are opportunistic, promote rent-seeking behavior, and cannot support a sustainable and efficient export base. Moreover, government involvement in counter-trade financing may cause problems wi th fiscal management. The Russia deal, for instance, was pre-financed b y BULOG, the state logistics agency. But when Government wanted to reimburse the agency, i t was heavily criticized by Parliament for having spent without authorization.

3 1

Counter-trade is counter-productive

Given the reputational risks involved in counter- trade, this seems hardly the way to go for Government in promoting industry and trade.

Second, the White Paper suggests to “fulfill agricultural needs of domestic industry with domestic production, by completely supplying agriculture input needs in corn and soybeans.” This could mean protecting these two commodities in order to become self sufficient in their production. But there i s no rationale for this policy. Corn and soybeans currently feature relatively open borders with zero tariff. Although Indonesia i s a net importer of both commodities, they compete successfully with imports and do not seem to require protection. Furthermore, the interests o f the agricultural sector are not uniformly advanced by the introduction o f higher tariffs or any kind of protection that would raise their prices within the country. As both commodities are used as inputs into livestock feeding, th i s w i l l raise the cost o f those livestock feeds, most significantly in the large poultry industry. The measure would thus undermine competitiveness in an industry with higher value added than crops. Moreover, an increase in the price of soybean would also hurt the poor for whom soybeans (tempe and tuhu) are the main source o f protein.

Third, the White Paper suggests to “harmonize import tariffs in key commodities, including agriculture products, in line with changing competitiveness.” While i t i s not clear what this measure would entail, recently there has been a tendency towards creeping protectionism. Indonesia has a very open trade regime, with an average tariff around 7 percent. A host of new restrictive import-licensing arrangements and export bans and licenses were introduced in the past two years, mainly by the Ministry o f Industry and Trade, Such measures are more distortive and less transparent than tariffs, the latter being the responsibility o f the Ministry o f Finance. One

justification for such trade interventions brought forward by the Ministry of Industry and Trade i s the need to combat smuggling, but it seems rather odd to assume that smugglers would actually register. Moreover, import licenses are likely to exacerbate smuggling by increasing the differential between domestic and international prices. Rather than protection, the Government could opt for measures that accelerate the reallocation of labor from declining industries to growing ones.

Harm onrhhg RegionaZReguZafionx Since decentralization took of f in 2001, regional taxes have become a menace for businesses. The lack o f proper revenue sources has provided strong incentives to introduce new forms o f taxation and retribusi. Many of these restrict or tax trade within or between kabupaten and provinces as they are easy to implement (by positioning officials at key strategic locations, such as city boundaries, weigh stations, ports, or bridges). For example, Kabupaten Bima imposes a tax on virtually every commodity or product sent beyond the district borders. Similarly, Lampung Province imposes a “license fee” on 180 commodities exported from the province. These taxes and restrictions interfere in domestic trade and undermine internal market efficiency. This makes them illegal according to law 3412000 on regional taxes, but supervision remains weak.

The policy measure in the White Paper that deals with harmonization of regional regulations would need to be forcefully implemented. Although Law 34/00 already allows for the central government to conduct reviews o f newly introduced local taxes and annul any that are found to be in conflict with higher regulations or statues, such reviews must be completed within 30 days o f the central government receiving a copy o f the regional ruling in question. This stipulation was clearly intended to speed up the process, but central government has been unable to keep pace with the thousands o f new regulations. To ensure no local taxes and fees that damage the investment climate are introduced, the current 30-day approval mechanism for local perdus could be replaced with a closed l i s t o f allowable revenue instruments to local governments; such l i s t would need to include instruments that can substantially increase revenue

32

at the local level, such as the property tax. At the same time, the capacity o f the central government to review local regulations needs to be strengthened.

Emp&yment Labor cost, labor productivity, and good labor relations are crucial for the competitiveness o f firms. The recent increases in minimum wages in Indonesia have tended to exceed inflation by a significant margin. In Jakarta, minimum wages for industrial workers more than tripled during 1997- 2002, f rom Rp. 172,500 per month to Rp. 632,000; as a result, real minimum wages were 50 percent higher than their pre-crisis level. But Indonesia’s minimum wages are s t i l l in line wi th those o f other countries in the region, although both Vietnam and China have more competitive wages. The problem i s that the increase in labor productivity has not matched the increase in real wages (Figure 3.8). Labor productivity remains relatively l ow compared to other countries. In textiles, garments and electronics, value added per labor in 2001 was much lower in Indonesia than in India and China, and for every dollar spent on a worker, China and India were getting much higher value added than Indonesia (Figure 3.9).

At the same time, labor relations are increasingly perceived as difficult. The sheer number o f unions (65 federal unions, 140 labor unions, and 11,000 enterprise-based unions) has also made i t diff icult to establish coherent labor relations, as unions are frequently in disagreement among themselves.

Figure 3.8. Productivity has not matched increase in real wages

annual growth rate (percent) 30

I real wages

-40’ 1994 1995 1996 1997 1998 1999 2000 2001 2002

Source: BPS, Sakemas.

The tug-of-war between labor unions and employers on the two new labor bills-the Manpower Bill and the Labor Dispute Settlement Bill-may have also contributed to perceptions of deteriorating relations. Strikes are s t i l l more common in Indonesia than they are in most other countries in the region, and have led to increases in production days lost, especially in foreign-owned firms-a fact that i s l ikely to reduce Indonesia’s attractiveness as a destination for foreign investors (Figure 3. lo).

With these developments in the Indonesia’s labor market over the past few years, the need for coherent labor policies becomes crucial for the investment climate. This i s wel l recognized b y the government and i s strongly reflected in the White Paper. Essentially, the White Paper aims to instill investor confidence by setting firm deadlines for the completion o f two fundamental measures governing labor issues: the L a w on Dispute Settlement in Industrial Relations that should be passed by the DPR in December 2003; and implementing regulations of the Manpower L a w No.13/2003 that should be finalized by July 2004. The key to these measures i s to maintain a balance between protecting labor and maintaining flexibil i ty in working practices so that businesses can remain competitive. The Government w i l l need to take great care in crafting these regulations, and w i l l need to continue consultation wi th the unions and the business community.

Figure 3.9. Comparison of value added by labor in selected sectors, 2000-2001

(value added per labor cost)

Index: Indonesia=l 1

Ind ia Electronics

Textiles

Garments

I 1 2 3 4 5

Source: World Bank Private Investment Climate Survey for China and India, 2002.

33

Industrial dispute settlement bill. The completion o f the Industrial Dispute Settlement Bill i s key to resolving labor tensions and thus helping improve the uncertainty in labor relations. Currently, the draft Bill proposes to use a mix o f arbitration and labor courts to settle disputes. Under th i s system, labor disputes should be f i rs t addressed in bi-partite committees between employer and labor representatives. If this fails, both sides can use a mediator (government official), a conciliator (private person), or an arbiter (private person) to come up wi th a solution. Decisions made by the f i r s t two are non-binding, while decisions by the arbiter are binding. If no agreement i s reached under a mediator or a conciliator, the dispute i s delegated to a labor

F rom an investment perspective, this ‘obligatory mediation’ approach should help reduce cases fought in labor courts and consequently bring down costs. But there are s t i l l reservations on the side o f labor, which objects to the fact that decisions made by an arbiter are binding, arguing that the option to go to labor courts should s t i l l be open. There are also doubts as to whether the new labor courts w i l l have sufficient capacities to do the job.

court. v i i i

Thailand

Phlhppine

Malaysia

Korea

Manpower law. The new Manpower L a w addresses a comprehensive and integrated range o f issues, covering important areas such as employment arrangements (contract work, outsourcing, worker placements by professional employment agencies), retrenchment, severance pay and minimum wages, equal opportunities, j ob

2

Figure 3.10. Strikes are frequent Days of strikes (annual average 2000-2001)

training, labor protection, and industrial relations. The Government plans to complete 27 Ministerial decrees by December 2003, and 9 government regulations and 6 Presidential decrees by mid- 2004.

F rom an investment perspective, the completion o f the Manpower law i s good news, as i t i s based on a consensus between business and the majority of trade unions. But some regulations have the potential to significantly increase the cost o f doing business in Indonesia, and implementing regulations need to be carefully prepared. First, outsourcing work w i l l become more diff icult for a firm, as i t can only outsource work strictly outside the firm’s core business. This l i m i t s the f i r m ’ s capability to cut labor costs. O n the other side, labor unions argue that the increased use o f outsourced workers in recent years has weakened regular workers’ position. Second, fixed term contracts w i l l be l imited to temporary and seasonal jobs and can only be granted for a maximum o f three years, after which the worker receives a permanent status. Whi le this clearly l i m i t s the firm’s ability to hire cheaper labor on a longer- term basis, the new arrangement favors unions’ bargaining power. Nevertheless, the worldwide trend to outsourcing means that Indonesia could face serious competitiveness effects if domestic legislation i s interpreted too stringently in this regard. Third, formation o f tri-partite wage councils at the national, provincial and district level. Those councils (representing government, employers, and unions) w i l l provide inputs and

L 111,

and many production days are lost Production days lost from strikes and labor disputes

China 17

_- J 16

14-

12-

10-

iL 2

0 . o 5 10 15 20 25 30 a l l firm domestic firms foreign firms

Source: Laborsta, ILO. Source: World Bank-ADB Private Investment Climate Survey, 2003.

34

recommendations in formulating wage policies, including minimum wages. The New Manpower Law allows Governors to set the minimum wage, with inputs from provincial wage councils and district headdcity mayors. Minimum wages are derived from estimations on Minimum Living Needs (KHM) and Adequate Living Needs (KHL). The Ministerial Decree on setting KHL expected in December 2003 wi l l help control regional divergences in estimating the KHM and KHL, as provinces and districts wi l l have to adopt guidelines from the central government. The Presidential Decree on tri-partite wage councils, expected to be issued in July 2004, w i l l help ensure a balanced approach to minimum wage setting.

Infrastructure The overall quality of infrastructure in Indonesia has deteriorated since the crisis (Figure 3.11), as public spending had to be reduced sharply in real terms, and many committed and planned private infrastructure projects were suspended. Indonesia faces major challenges in i t s infrastructure sectors as i t seeks to consolidate and accelerate i t s s t i l l fragile economic recovery, improve i t s international competitiveness, and increase access to basic public services. Roads in and around major cities are heavily congested, while many inter-urban and rural roads are in poor and deteriorating condition. The prospect o f imminent power shortages hangs over Java and many outer island regions are now suffering regular outages. The picture i s brighter in the telecommunications

sector, which has seen explosive growth in mobile phone use since the market was opened, but Indonesia’s teledensity lags well behind that of its neighbors.

In seeking to address these challenges through mobilizing increased investment, the Government i s forced to confront the sensitive issue o f tariffs. Tariffs in many sectors are well below what i s needed to support new investment. In some sectors, the Government has shown strong political resolve by pushing ahead with significant increase despite strong public opposition. The average electric power tariff has been raised from below $2 cents per K W h in 1998 to close to its pre-crisis level of around $6.7 cents per KWh. But further tariff increases wi l l likely be necessary to finance the massive investments required to serve a projected doubling of demand by 2010. Concerns about social unrest, and the approaching elections, led to postponement or restrictions in tariff increases in several sectors, including power, water, phone, and rai l transport. Even with firm resolve on tariffs and cost recovery, i t w i l l take time to accelerate the flow of new investment to needed levels. Public budgets are tightly constrained, local governments are slowly adjusting to their new responsibilities after decentralization, and private investors are s t i l l wary o f the situation.

Against this background, several measures are set out in the White Paper to improve infrastructure, but it w i l l be challenging to implement them within

Figure 3.11. Perceptions o f infrastructure quality

Overall infrastructure quality Philippines (74)

Vietnam (71)

Indonesia (W

China (52)

Thailand (29)

S n Ldnka (26)

Taiwan (23)

Malaysia (16)

Singapore (4)

0 1 2 3 4 5 6

Quality of electricity supply Sri Ldnka (73)

Vietnam (72)

Philippines (70)

Indonesia (69)

China (54)

Thailand (37)

Taiwan (36)

Malaysia (29)

Singapore (15) 7

7 0 1 2 3 4 5 6 7

Note: Ranking l=worst; 7=best; Numbers in countries’ in parenthesis i s country ranking out of 80 countries. Source: 2002-2002 Global Competitiveness Report.

35

the timeframe set. They consist largely o f investment projects, but without clarification on how they w i l l be financed, how their financing w i l l fit wi th fiscal consolidation, and what accompanying policies w i l l be implemented (such as tariff changes). In roads, many issues now have to be addressed at the local government level. Their capacity to handle expanded road sector responsibilities needs to be strengthened. In power, where the government has made commendable efforts over the past few years at resolving key issues (by passing a modem electricity law, preparing implementing regulations, and raising tariffs substantially), the White Paper rightly focuses on the implementation o f L a w 20/2002 as outlined in MEMR's blueprint. At the same time, the action plan centers around investment projects rather than needed policy actions, such as higher tariffs or improved public management. A financial restructuring plan for PLN i s also needed. In telecom, the establishment o f a regulatory body stated in the White Paper i s critical. The specific steps and timetable need to be spelled out.

Devel'opzitg SmaZZandMedium Enterprzjw and Cooperatives In the White Paper, the Government has positively steered the policy direction o f developing SMEs by improving land certification in order to give better credit access to small businesses instead o f subsidizing various schemes. Many cases show that small businesses have land but cannot collateralize i t for bank loans because obtaining certificates i s problematic. Simplifying procedures within the land agency, BPN, would also be needed. The benefit o f land certification has been proven to improve credit f low in rural areas. Under the World Bank Land Administration Project (LAP), BPN has recently managed to issue two mi l l ion certificates over a five-year period. As a result, credit f low increased by nearly 30 percent among the land owners who were then able to collateralize their certificates, and their land value increased b y an average o f 65 percent. Compared to that, the White Paper target o f 41,600 land certificates i s decidedly modest, especially if one considers that only 25 percent o f Indonesia's total land i s registered.

The intent o f the announced law on micro, small, and medium enterprises i s for now unclear. The law could provide more legal certainty for these enterprises, if they are not yet covered by the company law or the c iv i l code. On the other hand, such a law may add to the administrative burden on this very dynamic part o f the economy. Worse, the law could result in preferential treatment and credit quota's for these enterprises-much l ike in the law o f cooperatives which i s now under revision. Clarifying the intent o f the measure i s therefore a priority for Government.

However, one large project approved in October accounts for a third o f the total. Oil refinery projects in Nusa Tenggara Barat and Aceh, whose approved values are $2.8 billion. " A country's revealed comparative advantage in exports (RCA) in a certain product captures the extent to which the country exports a higher proportion o f the product than the average country, and i s measured as the ratio o f the share o f the product in that country's exports to the share o f that product in overall world exports. Thus the RCA o f country j in exports o f product i i s defined as: RCAi j = (Xij/Xj)/(Xiw/X,), where Xij i s country j ' s exports o f good i, Xj i s total exports o f country j, Xi, i s worldwide exports o f good i, and X, i s total worldwide exports. A value o f R C A > 1 (4) implies that the share o f product i in country j ' s exports i s greater (smaller) than the share o f product i in world exports). iii Suryahadi, Asep, Widyanti, Wenefrida, Perwira, Daniel and Sumarto, Sudarno (2003), '' Minimum Wage Policy and i t s Impact on Employment in the Urban Formal Secotor. Bulletin of Indonesian Economic Studies Vol. 39, No.1 (April 2003), pp.29-50. T h e authors found that the estimated elasticity of total employment to minimum wage i s statistically significant at -0.1 percent, translating roughly to a 1 percent reduction in employment for a 1 percent increase in minimum wages. iv Jakarta Post December 3 2003, page 13: 94,000 workers fired in first 10 months. " These are preliminary results o f a survey o f about 400 f i r m s mainly located in Java. "I The literature on tax incentives generally finds that tax incentives can be costly and are rarely the most important determinant o f investment. For instance, analysis on the investment tax credit in the US shows that investments have not been significantly higher when a business tax credit was offered (based on a percentage o f investment in equipment) than during periods i t was not (Karier, 1994). Similarly, Fletcher (2002) confirms the general results in the literature. H e finds that while low overall rates o f taxation may promote investment, there i s no evidence that complicated regimes o f discriminatory tax incentives are more effective in promoting investment than simple tax regimes with low uniform rates of taxation. "' The process described i s for foreign investment especially since i t involves registration o f a new company, acquiring a tax registration number and expatriate work permits. Approval for domestic investments or P M D N i s relatively straight

36

forward i f i t involves an operating entity with the complete documentation for company registration and tax record but in the case of a jo int venture, the foreign partner would s t i l l have to go through the process o f company registration. "' The labor court consists o f one judge nominated by the H igh Court and two ad-hoc judges nominated by the labor and employer sides. There are plans to install labor courts in every province, with additional labor courts in major industrial areas such as in Jabotabek or Batam Island.

37

CHAPTER 4: MEETING INDONESIA’S GOVERNANCE CHALLENGES

The achievements o f the past few years in maintaining macroeconomic stability, restoring modest economic growth, and securing political stability in a difficult international environment continue to be clouded by widespread concerns about governance and corruption across Indonesian society. The high hopes that the Reformasi movement would break the hold o f the vested interests behind the corruption, cronyism, and nepotism o f the Soeharto era have not been realized. Few have been held to account for the massive theft of public resources that occurred towards the end o f the New Order period. There are increasing signs that old elites and a set of new players, especially at the regional level, are using “money politics” to solidify privileged positions in the new political system. Institutional reforms that threaten the interests o f these elites-in particular to strengthen the effectiveness o f the justice sector-have been consistently undermined. While corruption captures headlines, the issues created by Indonesia’s weak governance institutions have wider implications (Figures 4.1 and 4.2). The “please your boss”, upward-looking accountability and reward system o f Indonesia’s overly-centralized New Order civi l service regime lingers on at the expense o f citizen participation and accountability for results. A whole new mindset i s needed, including tools, instruments and capabilities of modem, responsive government.

Though i t i s nearly impossible to compare the actual levels of corruption under the New Order and Reformasi regimes-taking into account the impact o f decentralization as well-it i s clear that corruption has become less predictable in this more competitive and uncertain environment. Moreover, the unfulfilled expectations that Reformasi would quickly bring a new integrity to

Corruption has become less predictable under

decentralization

public l i f e have generated resentment, fuelling perceptions that corruption has become endemic in the new system. For the donor community, corruption has become a triple threat: i t undermines progress on the country’s broad development objectives, i t remains a serious risk to the effectiveness o f donor programs, and i t continues to weaken public credibility in development assistance overall, which i s s t i l l too often portrayed within segments o f the community as contributing to the problem.

Nevertheless, i t i s important to recognize that these remaining governance problems exist within a framework o f tremendous political, economic and institutional changes that have marked Indonesia’s transition to a more open, competitive society and that provide new opportunities for improving governance. Constitutional reforms securing direct elections have created a new accountability framework between public officials and their constituents at all levels o f the political system. Decentralization i s bringing control over resources and the delivery o f public goods and services closer to the clients, providing new opportunities for participation and monitoring to make local governments more responsive. The opening o f the media and surge o f new collective organizations within civi l society are giving r ise to powerful demands for good governance. The results of these remarkable changes are evident in the new level o f transparency and competition in Indonesian public life.

Yet these critical gains in participation, competition and transparency are not leading to concomitant improvements in the overall quality o f governance. Much o f the problem lies with the weak implementation o f many o f the major policy and institutional reforms introduced under Reformasi. Bold and ambitious legislation i s often undermined by weak and contradictory implementing regulations and procedures. Public revelations o f corruption and wrong-doing sparked by an activist media, watchdog groups, and independent auditors are rarely followed through to a satisfactory conclusion in the legal system.

38

Indonesia has achieved transparency without accountability; the tremendous gains since the fal l o f the N e w Order have not been matched by genuine government accountability for demonstrable results in restoring integrity to the public sector and reducing corruption. As a result, there i s a risk that this increased transparency w i l l continue to generate frustration and resentment, rather than promote improved governance. The governance agenda in Indonesia needs to focus urgent attention on improving the institutions and mechanisms to implement the ambitious reforms introduced in the past few years and to strengthen government accountability for achieving demonstrable results from those reforms.

Figure 4.1. Extent of corwensus within government

7

0 2 4 6 8 Index

+ wrse -+ k n e

Source: I MD World Competitiveness Yearbook, 2003.

F i g u r e 4.2. Perceptions o f k e y elements o f “governance” 2002

z” .,J LOW 195 Countries

R u l e o f l a w WAIAYSI I I HIGH

.,i LOW 195 Countries ... LOW 195 Countries

Note: The dots represent estimates for the 2002 govemance indicator for each country, and the thin vertical lines represent standarad errors around these estimates. Source: “Govemance Matters 111: Govemance Indicator for 1996-2000” by Daniel Kaufmann, Aart Kraay and Massimo Mastruzzi, 2003.

39

O f particular importance in achieving these goals are comprehensive reforms in three areas: i) legal reform and the justice sector; ii) public administration; and iii) public financial management. These are the institutions and mechanisms that implement and enforce government policies and that are critical to breaking the bottlenecks that weaken the links between participation and transparency on the one hand and greater accountability and improved governance on the other hand. Though reform blueprints have been proposed by various organizations in each area, only in the area o f financial management i s progress being made on a new comprehensive framework of reform. Similar efforts are now necessary to break through the bottlenecks in the justice sector and civi l service reform.

GOVERNANCE AND THE WHITE PAPER

The Government’s White Paper i s not intended as a comprehensive governance strategy. I t s initial intention was to substitute for the commitments normally made in an IMF letter of intent with a strong focus on the macroeconomic policy framework. However, to the extent that the White Paper seeks to address the problems that hinder economic growth through a focus on improving the investment climate, issues o f governance naturally arose. The White Paper, therefore, addresses a set of specific governance concerns that are directly related to the quality o f the investment climate. A more comprehensive approach to governance reform in Indonesia would be beyond the scope of an IMF graduation program. Moreover, given the political uncertainties o f an election year, a more ambitious program would ultimately have confronted the realities o f electoral politics, thus undermining the credibility o f a comprehensive governance strategy from the very start.

Though there are important steps to improve governance across all o f the categories o f measures specified in the White Paper, this chapter wi l l review the White Paper targets and progress to date in the three areas described above as critical to strengthening the framework for accountability in Indonesia: public financial management, legal and justice sector reform, and public administration.

Pubkc Fznancial Managem ent Perhaps the most important measures in the White Paper to reduce corruption and improve governance are to be found in the section on maintaining macroeconomic stability. This section not only lays out the targets o f fiscal policy, but identifies specific measures to enhance the efficiency and effectiveness o f the mobilization, allocation, and use o f public resources. While such measures are vital to promote and sustain macroeconomic stability over the medium-to-long term, they might also be considered at the operational center o f efforts to reduce corruption and improve governance. The misuse or misallocation o f public funds for private gain i s part o f the basic definition of corruption. Measures to reduce discretion of individual public officials over the flow of public resources through greater transparency, stronger ex ante control functions, and better ex post verification and auditing mechanisms constitute the basic nuts and bolts of any anti-corruption strategy. They are also essential for holding public officials more accountable for their performance.

In Indonesia, there i s an additional factor that links public financial management to the issues o f corruption and governance: the chronic under- funding o f key public institutions. The World Bank’s recent report on corruption (Combating Corruption in Indonesia, 2003) demonstrates how politicians and policy makers create perverse incentives for such essential institutions as the military and the police, among other service providers, by failing to provide them with the resources to do their job. It i s estimated that less than a third o f the military and police expenditures are met from official budget allocations. Allocations for operations and maintenance tend to be very low and have declined in real terms. Budget allocations are released late in the year, creating uncertainty and providing little time to spend them wisely. To cope with the systemic under-funding and budgetary uncertainty, i t became common practice under the New Order for public agencies to raise their own resources to meet the gaps. And such practices have persisted under Reformasi. Among the most common survival strategies are shifting recurrent expenditures to the development budget, levying

40

unauthorized charges for services delivered, and running enterprises, foundations and other resource mobilization ventures. The practice of permitting enterprises to be run by the military and the police i s a particularly serious problem leading to allegations o f involvement in drug smuggling, protection and prostitution rackets, and, following their formal separation, to open conflicts between the police and the military when their business interests clash. These practices blur public-private boundaries, weaken accountability for funds and provide a ready excuse for rent-seeking activities.

The White Paper brings together a set o f ongoing measures designed to address key weaknesses in the public financial management system. First, i t commits to modernizing the revenue system through revisions o f taxation laws, expanding the large tax payers’ office, and reforming customs. Second, i t addresses the efficiency, effectiveness, and transparency of government spending through revised procedures on government procurement, reorganization of the Ministry o f Finance, establishment o f a separate treasury and a treasury single account, and implementing regulations for the state finances law.

These measures, and the progress to date in implementing them, are discussed in more detail in Chapter 1. The purpose here i s not to repeat that assessment, but to stress the role that such reforms play in the broader struggle to reduce the opportunities to engage in corruption and to lay the foundation for more accountable government. While popular perceptions o f the fight against corruption tend to be influenced most by high- profile enforcement measures, such as arrests and prosecutions, the more mundane areas of procurement reform, budget preparation and execution procedures, classification and accounting methods, and financial monitoring and audit systems are often where the most important steps w i l l be taken to prevent corruption and reveal abuses. Recent progress in these areas as well as prospects for further progress in the coming year, as Chapter 1 demonstrates, should be taken into account in assessing overall developments in combating corruption and improving governance.

LegaZand Justice Sector Reform The weaknesses of the Indonesian justice sector have long been seen as the main obstacle to fighting corruption and improving governance in this country. Public opinion polls show that the majority o f Indonesians lack confidence in justice sector institutions. External ratings for Indonesia consistently cite problems in the justice sector as a key component in the country’s poor ranking on perceptions of corruption, governance and the quality o f the investment climate. Over the past year, these trends have continued and indeed intensified somewhat as the prospect of elections has begun to intensify political competition. Both local and foreign press have continued to run stories on a regular basis about alleged widespread abuses of power within the national police and the Attorney General’s Office, and about allegations of corruption within the judiciary. Clearly, accusations of slow progress on legal and justice sector reform are likely to figure prominently in the upcoming elections as politicians attempt to capitalize on the perceived gaps between the promise and reality of reforms to bring about a new integrity in Indonesian public l i fe following the fall of the New Order.

The lack of confidence in the justice sector is

De was ive

Against this background, the White Paper recognizes the importance o f enhancing “legal certainty” as a key component of improving the investment climate. I t identifies four reform areas under the broader heading o f legal reform: (i) eliminate corruption; (ii) improve the performance o f the Commercial Court; (iii) harmonize regional regulations; and (iv) improve the capacity and performance o f law enforcement officers. I t commits the Government to clear targets for implementing a set o f long-delayed measures to establish an institutional framework for investigating and prosecuting corruption cases and for redefining the management o f the court system.

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Table 4.1. Legal and justice sector reform measures in the White Paper

Action Plans outputs Date Sept 2003 Apuoint team to select candidates for the Anti-Corruption Presidential decree ..

Commission. (completed)

Appoint the members o f the Anti-Corruption Commission. Presidential decree Dec 2003

Increase the capability of prosecutors and judges Improved professionalism Nov 2003 responsible for corruption cases through training, internal directives and policies, and assistance programs.

(completed)

Publish blueprint on the role o f the Judicial System in reducing corruption.

Blue print Nov 2003 (completed)

Complete Judicial Commission Law. Law on Judicial After law passed

Complete revision o f Law No. SA991 on Attorney AmendedLaw After law passed General.

Commission

Issue revised Law on Bankruptcy. Law After law passed

Update blueprint on Commercial Court. Blue print Nov 2003 (completed)

Revoke regional regulations that are inconsistent with Ministerial decree Ongoing higher laws/regulations and public interest.

Training for investigators, prosecutors, judges. Improved professionalism Ongoing

Improved education curriculum for law enforcement Improved professionalism Ongoing officers.

Source: World Bank staff based on Presidential instruction No. 5/2003.

Table 4.1 l i s t s the specific actions, outputs and target dates, several o f which have been prominent o n the agendas o f previous CGI meetings. Taken together, these commitments demonstrate a recognition that the poor reputation o f the Indonesian judiciary i s not just o f relevance to the issue o f social cohesiveness in a democratizing Indonesia, but that the lack o f legal certainty that i s an inevitable product o f a weak judiciary and a fragmented political power structure i s a major impediment to attracting on a sustained basis the levels o f investment required to generate significant economic growth. More importantly, i t sets out clear Government commitments and a timeframe in this area that hold out the prospect

that meaningful institutional reform within the justice sector may yet be embarked upon.

By far the most promising o f the measures set out in the White Paper has been the development and adoption b y the Supreme Court in October 2003 o f

The Supreme Court blueprints constitute

an imDortant first steD

42

a series o f blueprints for the future development of the judiciary (see Box 4.1). The breadth and coverage o f the blueprints indicates that the Supreme Court (or at least significant elements within the court) recognizes that the judiciary indeed suffers from system-wide weaknesses that in turn require a systemic and systematic response. This i s a major and positive development for Indonesia, inasmuch as i t constitutes a frank recognition of the extent and depth o f the problems in the judiciary, which i s an essential foundation for moving forward. At the same time, i t i s clear that the blueprints represent only a first, albeit very important, first step along a path that, even if kept to and pursued with vigor, w i l l take many years to complete.

Beyond the Supreme Court blueprints, the focus of the White Paper on integrity issues i s welcome. O f the many facets o f this challenge, combating corruption i s probably the one most Indonesians would agree i s most needed. I t i s also the most problematic, given the fact that the law enforcement institutions are widely viewed as being themselves deeply corrupt. The Anti- corruption Commission-and i t s corollary the Anti-Corruption Court-is clearly intended to be the anchor of a new institutional framework to address this weakness.

The gestation o f the Anti-Corruption Commission (ACC) has been disappointing. There have been

serious delays in moving forward with the selection of potential commissioners which raised doubts about the Government’s commitment to this body. However, assuming the timetable established by law i s adhered to, commissioners for the ACC wi l l be appointed at about the time this document i s released. The challenge and need for immediate action by Government w i l l not stop at that point and goes well beyond the target set in the White Paper:

0 The success o f the ACC wi l l depend on i t s public credibility, which will, in turn, be a function o f the quality of individuals selected as commissioners and the transparency of the process by which they are selected. The delay in appointing a selection committee coupled with the Government’s legal commitment to establish the ACC by the end of December 2003 have created a tight time frame for any meaningful public consultation in the selection process. This must be addressed with some urgency to ensure that the ACC does not start out under a cloud of public suspicion. The ACC cannot operate effectively until the professional staff has been selected, appointed and equipped to carry out i t s investigative and prosecutorial responsibilities. Although this should have been in place promptly upon appointment o f the commissioners, the dilatory preparatory steps make this an unlikely prospect. This should be remedied as a matter

0

Box 4.1. The supreme court blueprints

The blueprints are the outcome of a collaborative process between members o f the Supreme Court and an Indonesian law reform advocacy group to identify areas o f weakness in the Indonesian judiciary and map out a reform path for a systematic set o f initiatives to address such weaknesses. The blueprints were funded by a Dutch-funded IMF assistance program and the Asia Foundation.

The blueprints cover 5 broad areas: (i) reform o f the Supreme Court; (ii) the setting up o f a Judicial Commission to address the issues o f appointments to the Supreme Court and the supervision o f the conduct o f judges; (iii) reform o f personnel management within the judiciary; (iv) reform o f the judicial education system; and (v) reform of financial management o f the judiciary.

Each blueprint sets out a reform agenda, including time-frames for the carrying out o f the various steps identified. Appropriately, these time-frames acknowledge the long-term nature o f many o f the initiatives. What the blueprints do not elaborate upon are the mechanisms b y which the proposed reforms are to be managed. This i s a key issue that has to be addressed if the promise o f the blueprints i s to have a realistic prospect o f success. I t w i l l be particularly important that the Supreme Court recognize that, while other Indonesian state institutions, as well as the donor community, have important contributions to make to the reform process if they are to succeed, by far the most important effort required wi l l have to come from within the judiciary itself.

43

of urgent priority for the Government in the weeks after the commissioners’ appointment. An equally important priority for the Government at the very inception of the ACC wi l l be to ensure i t i s adequately funded. The need for this i s clear: under-funding o f the existing law enforcement agencies has been a major contributing factor to their failings including, significantly, the corruption that pervades them. A very important function that the ACC wi l l assume when i t commences operations i s that o f the KPKPN, which oversees the declaration o f assets by public officials. While that agency has suffered from a number o f significant problems, i t has nevertheless demonstrated a preparedness to challenge a number of high level officials-acts of courage that w i l l need to be repeated if a credible anti-corruption campaign i s to be pursued. The challenge for Government i s to ensure that the weaknesses o f the successor unit to KPKPN are addressed and that credible sanctions for non-compliance with i t s reporting requirements are established.

An equally important challenge set out in the White Paper wi l l be the establishment o f a credible Anti-Corruption Court. Recent experience with the Commercial Court suggests that the new Anti- Corruption Court wi l l be viewed with considerable skepticism from i t s inception. A number o f steps can be taken to give the Anti-Corruption Court a real opportunity to perform professionally and with authority. The Indonesian authorities, coordinated by Bappenas and assisted by Indonesian civi l society advocacy groups, are engaged in a process to draw up a policy document that identifies these steps. The White Paper calls for th i s document, again called a Blueprint, to be completed by November 2003. I t identifies various measures including notably the establishment o f a professional and accountable recruitment mechanism, provision of proper funding and the setting of conditions o f employment (including career development) that adequately guarantee judicial independence.

Most o f these wil l be matters for the Supreme Court to address. However, the Government w i l l have the responsibility to ensure that the budgetary resources of the Supreme Court are sufficient to

ensure that the adequacy of resources available to the new Anti-Corruption Court does not become an impediment to i t s effective functioning. The Government has been engaged in the development o f a solid funding mechanism that reflects real and legitimate court costs, including salary adjustments and an institutional overhead depending on case load (‘the Needs Assessment’). Rather than the somewhat arbitrary funding mechanism currently generally in use, that new funding mechanism i s being applied to the new Anti-Corruption Court. A budget application based on this assessment has been submitted by the Supreme Court which hopefully w i l l be honored.

The draft laws on the AGO do not promise

the badly needed overhaul

The White Paper calls for a revised Attorney General’s Office Law to be passed. The two drafts before the DPR are limited in their scope (see Box 4.2) and neither can be seen as the answer to the many calls for a thorough overhaul o f the Attorney General’s Office (AGO).

The AGO has, within the last year, invited a group o f prominent “outsiders” to assist the AGO in developing reform measures. While this initiative i s welcome, there remain concerns about the prospects for a meaningful reform agenda to emerge from this process. Given the critical importance o f this institution, the reform o f the AGO needs to go beyond the draft law set out in the White Paper and should entail the adoption of a reform agenda that addresses the serious flaws in the organization that were identified in the

PricewaterhouseCoopers under the auspices of the ADB. The example set by the Supreme Court in the development and adoption o f the blueprints i s one that would be very appropriate for the AGO to

institutional audit conducted by

44

Box 4.2. Reform of the law on the Attorney General’s Office (AGO)

Two draft laws have been prepared: (i) a version prepared by the AGO, which draft, if adopted, would replace Law 5/1991; and (ii) a version prepared by the staff o f the DPR, which would amend certain provisions o f that Law. Among the changes proposed in these drafts are the following:

Both drafts contain provisions describing the AGO as independent. While the AGO version would retain the concept o f the AGO being a “government institution,” both eliminate the current provision that the AG reports to the President. Recognition o f the value of the AGO being free o f political interference i s welcome. However, i t i s equally important that appropriate accountability mechanisms be established. Neither draft contains much detail in this regard. The AGO version proposes that the Attorney General must be appointed from within the ranks o f the AGO. The DPR i s silent on this matter. While insider experience i s always an asset, and while reform i s best likely to succeed i f there i s institutional ownership o f the process, the likelihood i s that the thorough-going reform that the AGO needs (as convincingly described in the ADB-financed Price Waterhouse Coopers governance audit carried out in 2000) wi l l be embraced by a leadership nurtured b y and within the current system appears problematic. The AGO version also would require the Vice-AG and each Deputy-AG to be appointed from within the ranks o f the AGO. This reflects the current law. The DPR version appears not to change this requirement. Both versions propose that the mandatory retirement age o f senior prosecutors be extended to 60 and top officials to 65. Given that senior prosecutors are likely to be the most resistant to reform, this provision would appear to complicate further the prospects for reform o f the AGO. Neither version makes any reference to the Anti-Corruption Commission. This omission could result in the sort o f tensions that have characterized relations between the police and the AGO with respect to the investigation o f corruption allegations in recent years. Arguably both drafts could be interpreted as requiring that prosecutors conducting prosecutions for the Anti-Corruption Commission would nevertheless be part of the AGO. Lack o f clarity on this issue, and the failure to acknowledge any role o f the Anti-Corruption Commission in the prosecution o f corruption cases, does not augur well for the Commission.

follow. For this to occur, strong leadership from the Government i s required.

The White Paper does not propose any specific initiatives for the national police beyond improving the education curriculum. Nevertheless, this i s an institution that few would argue does not face a major credibility problem with the citizenry o f Indonesia, notwithstanding the very impressive performance of the police in its investigation of the Bali bombings. There are a number o f indications that the police leadership i s aware o f the need to improve i t s standing with the public. For example, in the past year the police have engaged in a dialogue with an NGO umbrella organization called Indonesia Police Watch. However, a concrete and comprehensive reform agenda for the police i s s t i l l to be developed. A governance audit along the lines followed for the AGO in 2000 and/or the development o f a reform agenda in the manner carried out by the Supreme Court would be appropriate steps for the national police to follow.

The White Paper also targets the work o f the Commercial Court by committing to a revised blueprint for the court and the adoption o f the draft Law on Revisions to the Bankruptcy Law, which i s currently with the DPR. Passage o f the law would send a signal that the Government remains committed to the objective o f ensuring Indonesia has a credible bankruptcy regime, which remains an issue o f strong concern among the business community. However, the problem with the bankruptcy regime does not appear to be with the quality o f commercial court decisions. An on- going in-depth study o f commercial court decisions by a team involving experienced foreign lawyers indicates that up to 70 percent o f the commercial court decisions could be characterized as good law. However, evident problems in certain high-profile cases have clearly raised serious credibility concerns. More importantly, the principal problem appears to be more in the area o f enforcement, which goes beyond the capacity o f the courts. The Commercial Court continues to be the principal pilot o f institutional reform o f the

45

judiciary. Among the innovations first introduced by this Court have been: the appointment o f ad hoc outside judges, the publication of all decisions, the issuance o f dissenting opinions, the option to comment on decisions through the internet, strict timelines for court decisions, the issuance guidelines governing the relationship between judges and the Bar (receivers), a mandatory code o f ethics, and the introduction and application o f the concept of disbarment. Nevertheless, it i s clear that credibility remains an issue for the court as only 31 bankruptcy cases were handled in 2003. Again, serious problems with enforcement go a long way towards explaining these credibility problems, but i t s t i l l would be desirable to improve the clarity o f the law and to enhance the effectiveness o f bankruptcy proceedings where appropriate. These considerations l ie behind the draft law, that, responding to commercial court experience over the past years, includes a long set o f definitions, standardizes time lines further, boosts commercial court jurisdiction, ties down appeal, and clarifies restructuring procedures and the position of both creditors and debtor therein.

Only 31 bankruptcy cases were handled in

2003 Pubkc A dm zizz,tration Reform The White Paper includes a welcome recognition that the goal of increasing investment, exports and employment to enhance growth i s dependent, in part, on the quality o f public services and, hence, the performance o f public administration. Indonesia continues to suffer from a legacy o f over-centralized service delivery systems and an administrative culture that i s driven by top-down commands rather than client-driven demands. Though decentralization and community empowerment offer important new opportunities for service improvement by bringing authority for public service provision closer to the client, the initial confusion resulting from inconsistent decentralization laws and from capacity constraints

have dampened the potentially positive impacts o f these reforms in the near term. I t has long been recognized that fundamental reforms are required in the recruitment and training of civil servants, the definition and transparency of administrative procedures, and the structure and pay scales of the civi l service, yet there has been little progress to date in these areas.

In the area o f public administration, the White Paper places primary emphasis on increasing the transparency o f public services through the development of a draft Law on Public Service Delivery, the publication o f public service delivery standards, and the move towards e-government. TabIe 4.2 provides a more detailed list o f the public administration reforms incorporated in the White Paper.

The idea o f a single law to provide an overall framework for the delivery of all major public services i s quite unusual in light o f standard international practice. According to the Ministry of Administrative Reform, the purpose o f the law i s twofold: (i) to set out the obligations o f government to deliver public services to a minimum standard in terms o f quality, efficiency, and access; and (ii) to establish the right o f the citizens to receive such services and the obligation to value and care for public facilities. I t i s intended that with these minimum standards, rights, and obligations set out in law, citizens w i l l be able to take complaints to the formal legal system and, in so doing, place pressure on public service providers at different levels of government to deliver. It has even been suggested that such transparency w i l l put pressure on government to undertake more comprehensive civi l service reforms to meet these new standards. Moreover, by combining this law with the publication o f standards for the delivery o f all public services and the spread o f e-government systems, the government hopes that increasing the transparency o f service standards w i l l generate greater accountability for public service providers.

While greater transparency in this area i s surely welcome, this approach to improving public administration misses the fundamental problem in the Indonesian context discussed earlier, namely the apparent disconnect between transparency and

46

Table 4.2. Public administration reform measures in the White Paper

Action Plans outputs Date Propose Draft Law on Public Service to Parliament (DPR) Draft law Review regulations related to public service delivery; deregulate and reduce bureaucratic hurdles Require public service agencies to publish all services rendered, time, and costs needed Speed up the implementation o f Inpres No.3/2003 on National Policy and Strategy on Development o f E-Government and prepare supporting tools Finish deliberation draft law on Freedom o f Information Revise Law No. 22/1999, on relations between provincial and regional governments Revise Law No. 25/1999 on financial balance formula and supervision, consistent with Law No. 17/2003 Revise Law No. 34/2000 on greater discretion and responsibility for regional governments to collect regional taxes and charges, while avoiding barriers to business and investment

Ministerial decree

Ministerial decree

Guidances on e- Government

Law Draft Amendments

Draft Amendments

Draft Amendments

- Improve regional government accounting systems in line with Law No. 17/2003

MoF decree

2004 2004

June 2004

Dec 2004

Sep 2004

Sep 2004

June 2004

Oct 2004 ~ ~ ~

Source: World Bank staff based on Presidential instruction No. Y2003.

accountability. Without a credible public complaints mechanism or court system that can adjudicate and enforce legal decisions, the added transparency promised by these reforms in the White Paper are highly unlikely to have much of an impact on the performance o f Indonesia’s public administration. Indeed i t i s not the lack o f transparency that i s responsible for poor public service delivery, but an inefficient and corrupt civi l service, poor planning and budgeting systems, systematic under-funding in key areas, weak institutional capacity, and poor coordination across different sectors and levels o f government. These fundamental problems o f public administration are not addressed in the White Paper and this constitutes a major weakness of the program.

A c iv i l service reform could potentially have a much greater impact on the quality o f public service delivery than a new Public Service Law, because i t i s one o f the reforms, which together with the performance budgeting, could promote qualitative change in the operation o f regional governments. Voices from the regions demand greater freedom to design and implement local civi l service reforms to match their newly delegated responsibilities over public expenditures and public service delivery. The provincial

government in Yogyakarta has embarked on a reorganization and rightsizing exercise. Other regions have taken initiatives aimed at cleaning up corruption (see Box 4.3 regarding Solok). S t i l l others have introduced open and transparent processes to recruit some civi l servants (Tanah Datar, Kebumen). There i s an increasing call for a pay reform where employment and promotion can be linked to performance and to seniority. Nevertheless, top-down decrees (like PP 8/2003), which determine a rigid, nation-wide ‘echelon’ structure for senior positions in the local administrations continue to stifle local level

The White Paper does not address the

fundamental problems of public

administration

47

reforms. There i s also a threat that the ongoing revision o f the Decentralization Law (Law 22/1999)-a target of the White Paper-is likely to pull senior civi l service appointment functions back to the central government, thus exacerbating the mismatch between regional responsibility for public service delivery and the lack of regional autonomy over the civi l service that delivers those services.

To get started on civi l service reform, there are a number o f necessary measures beyond the scope o f the White Paper. First, there i s urgent need to establish a proactive leadership for a civil service reform process. Establishing the Civi l Service Commission, as envisaged under Law 43/1999, and staffing the Commission with people of integrity and providing it broad autonomy to move on a reform agenda, could provide such a vehicle. Second, there i s a need to disentangle the complex and confusing web o f pay and employment

policies and introduce greater transparency and reduced discretion on total compensation levels. More homework i s needed on a compensation package for the civi l service through careful pay comparator studies and labor market analysis. Third, rationalizing civi l service salaries wi l l likely have no results on corruption unless i t i s accompanied by the introduction of strong rewards and punishments that significantly shift incentives in the civi l service. Establishing clear ethical codes and administering them through an independent ethics commission within the civil service and ensuring that corrupt behavior i s punished severely w i l l be the most effective check on corruption. Fourth, though transition to a rules- based meritocratic civi l service w i l l take time, opening the top positions in regions to external recruitment and staffing them with men and women of the highest quality w i l l be the fastest way to change the culture o f the civi l service. Such measures would address some o f the more

Box 4.3. Integrity pacts in Solok

Kabupaten Solok has invented a “Pact o f Integrity” to be signed by civi l servants to achieve greater accountability for i t s public spending and i t s civi l servants. The Pact w i l l be implemented from January 2004. The Pact o f Integrity in Solok i s an expansion o f the compulsory Pacts o f Integrity to be signed in all public procurement (Keppres 80/2003). Both public servants and bidders in a procurement process sign a pledge that no bribes, gifts, favors or other advantages w i l l be demanded, accepted or offered. I t i s supported by GTZ’s Good Governance Project.

C iv i l society organizations w i l l monitor through scrutiny o f relevant documents and decisions. In the first year local CSOs and the Kabupaten administration w i l l get assistance from Transparency International (TI) and Indonesian Procurement Watch (IPW) to monitor and implement the pact. A local government regulation (Perda) on transparency and public participation, planned as one o f the entry requirements for the World Bank financed local governance project (ILGRP), provides the legal framework for civi l society organizations’ access to monitor government decisions. All payments made w i l l be disclosed.

Arbitration i s used as a conflict resolution mechanism. A pre-announced set o f sanctions for any violation o f their commitments or undertaking by a bidder or public servant involved w i l l be used to discipline failures.

In Solok, the ‘Pact o f Integrity’ i s extended beyond procurement matters and i t includes all civi l servants under the jurisdiction o f the Kabupaten (currently about 3500). The Pact itself comprises a range o f good governance principles such as accountability, transparency, participation, surveillance, efficiency and effectiveness. For their pledge to be “clean and uncorrupt” the public servants w i l l receive a payment incentive. The level o f payment wi l l initially be determined by the individual’s position level in the career system. The amount i s made transparent in a publicly available chart. The total incentive scheme i s at the level o f the accumulated personnel costs related to projects in the development budget. Starting with the budget year 2004 the routine budget and the development budget w i l l be merged and this i s expected to increase the transparency in budget spending and the Pact o f integrity can be developed further and more easily monitored in the new budget system.

A t a later stage it i s planned to include the private sector, the police, the judiciary and the local parliament to build an ‘integrity system’.

48

deep-rooted problems that systematically weaken Indonesia’s public administration.

A CCOUNTABZLZTY AND THE WHITEPAPER

Though this chapter focuses on only three areas covered by the White Paper that could promote greater accountability for improved governance in Indonesia, it must be recognized that one important step towards such accountability has already been taken by the very formulation and publication of the White Paper itself. The White Paper i s a mechanism designed to commit the government in a transparent way to a set of policies in what promises to be a challenging environment over the next 18 months. A key test o f governance in Indonesia wi l l be whether the government can implement the policies set out in the White Paper and live up to i t s commitments. One already positive sign i s the extensive monitoring efforts that are being mobilized to hold the Government accountable to these commitments. Beyond the Government’s own monitoring team under the Coordinating Minister for the Economy, which has put monthly monitoring reports o f the White Paper on the web, independent monitoring efforts are being developed by representatives o f the private sector, universities and other research institutes. These efforts are themselves important examples of the development o f stronger accountability framework in Indonesia, which w i l l have an impact on governance outcomes.

49

CHAPTER 5: REDUCING POVERTY

Macroeconomic stability and modest growth have brought income poverty back to pre-crisis levels. But progress i s lagging in other aspects o f poverty reduction, with basic services are often s t i l l failing for the poor.

The White Paper reconfirms the Government’s commitment to develop a comprehensive Poverty Reduction Strategy Paper (PRSP) by mid-next year, and presents a number o f measures that can create opportunity for the poor, improve their human capital, and safeguard the vulnerable. The success of the forthcoming PRSP wi l l depend on whether i t w i l l ultimately yield an enhanced poverty focus o f government policies and programs. To this end, the strategy needs to be integrated with existing budgeting and planning procedures and sector strategies. The measures to improve services for the poor included in the White Paper need to be complimented with those that make decentralization work, and improve governance.

INDONESIA ’SPO VERTY CHALLENGE

With inflation and the exchange rate under control, expenditure poverty dropped back to pre-crisis levels from 27 percent in 1999 to 16 percent in 2002, the latest number currently available (Table 5.1). The reduction in expenditure poverty since the crisis appears to have benefited almost all regions:’indeed all but one province captured in the 2002 household survey experienced an improvement in poverty rates, including strong

Table 5.1. Change in poverty headcount index from 1996 to 2002 (percentage)

1996 1999 2002 National poverty lines Gov of Indonesia 17.5 23.4 18.2 World Bank 15.7 27.1 16.0 International Poverty Lines 1 dollar a day 7.8 12.0 7.4 2 dollar a day 50.5 65.1 53.4

Source: World Bank and BPS Staff estimates.

recoveries from some regions in the East.

While the headcount index i s relatively low, many Indonesian households who are not currently poor are vulnerable to falling into poverty. This i s due to the clustering o f a large share of households just above the poverty line: 7.4 percent of Indonesians fall under the dollar-a-day poverty l ine whereas 53.4 percent fall under the two dollars-a-day poverty line. (The national poverty line i s currently approximately $1.55 a day.)

The majority of lndonesians earn less than two dollars a day

The national headcount index masks wide disparities in poverty incidence across the country. While the poverty rates are 15.7 percent and 4 percent on Java and Bali, the Eastern Islands lag, with poverty rates o f 36.8 percent (Figure 5.1). The severity o f poverty i s also more serious in the Eastern Islands, with the depth of poverty at 7.8 percent in NTT/NTB (Nusa Tenggara Timurmarat) provinces compared to 2.5 percent in Java and Bali. Despite regional disparities, 78 percent o f Indonesia’s expenditure poor live in Java, Bali, and Sumatra. Addressing poverty in Indonesia w i l l not only require efforts o f bringing along the lagging regions but also tackling the poor in non-lagging regions.

Moreover, other dimensions of poverty remain serious in Indonesia. Some 53 percent of Indonesians lack access to at least one o f basic services (Figure 5.2), particularly with respect to water and sanitation. Inadequate service delivery i s failing the poor and i s itself a cause o f poverty and deprivation in Indonesia. This i s also reflected in poor MDG outcomes, especially in health. ’ Women in particular suffer problems o f access to quality services and bear the consequences: for example, Indonesia’s maternal mortality rate i s two

50

Figure 5.1. Where are the poor?

Headcount Index:

Source 1 Susenas 2002

times higher than the Philippines and five times higher than Vietnam. Directed efforts to improve the delivery o f basic services i s thus a critical facet o f any effort to reduce multidimensional poverty in Indonesia. Traditional attempts at targeted income transfers or relying only on expanding access to credit w i l l not solve these problems.

Regional multidimensional poverty maps show strong geographic correlations between expenditure poverty measures and other measures of poverty at the provincial level, with Nusa

53percent of Indonesians lack access to at least one of basic

services

H 0.236t00.4 (6) H 0.194to0.236 (5)

0.077to0.194 (5) 0 0.041to0.077 (6) 0 Not in Sample (3)

Tenggara having low levels o f service access in general. Overall, Bengkulu, West Kalimantan, Central Java, East Java and Nusa Tenggara lag behind other provinces with respect to multidimensional poverty measures.

Figure 5.2. Many Indonesians lack access to basic services

households without access to ' water

households without access to sanitation

children age 12-15 not enrolled in junior high school

b children age 7-12 not in primary school

births attended by traditional healers

0 10 20 30 40

percent share of households lacking sewices

Source: World Bank Staff calculations.

51

A DDRESSZNG THE CHALLENGE . THE WHZTE PAPER AND BEYOND

The White Paper (Table 5.2) addresses poverty through various channels: continued macroeconomic stability, improved investment climate, strengthened governance and institutions, and increased financial capability o f regions to deliver the public services they are responsible for. While the White Paper i s not intended to represent the Government’s comprehensive program for poverty reduction, i t does commit to developing a medium-term strategy for poverty reduction. The White Paper confirms the timeframe to develop the Poverty Reduction Strategy, both at the national and regional levels, by May 2004. Strong commitment from the Government i s needed to institutionalize the poverty focus across sector ministries and to ensure effective implementation o f a new strategy.

An Emergzng Poverty Redaction Strategy for Zndonesza In the White Paper, the Government reaffirms its commitment to develop a comprehensive, medium- term Poverty Reduction Strategy (PRS) by mid- 2004. Such a strategy w i l l address the multidimensional poverty issues facing Indonesia.

I t w i l l be developed through a participatory approach, providing an opportunity for all Indonesian stakeholders, including the poor themselves, to have a say in its formulation.

Indonesia i s making progress in developing its Poverty Reduction Strategy. In early 2003, Indonesia completed its interim PRSP (I-PRSP) which provided a road-map for completion of the full strategy. The I-PRSP laid out four thematic pillars that would support its full strategy: (i) creating opportunities; (ii) empowerment; (iii) human capital development and capacity building; and (iv) social protection. Since then, the Government has moved forward in setting up multi-stakeholder task forces, with common terms o f reference, to address each o f these themes. The development of the full Poverty Reduction Strategy by the four task forces was launched by the Coordinating Minister o f People’s Welfare in June 2003 in his position as Chair o f the of the inter-Ministerial Poverty Reduction Committee. The four task forces report to the Core PRS Team (Tim Inti), which w i l l be responsible for pulling together the final national PRS.

The Government w i l l need to ensure effective management of the PRS process and a high level o f political commitment to complete a useful

Table 5.2. Poverty eradication measures in White Paper

Action plans outputs Date Develop poverty eradication strategy and put in place poverty eradication institutions. Increase financial capability of regions. Increase opportunities for entrepreneurs and workers.

Empower the poor.

Increase ski l ls of the poor.

National and local Poverty reduction strategies; Central and local Poverty Eradication Committee and Financial consultant to assist small enterprises access the banking sector. Improve DAK to assist lagging regions to improve basic services. Large scale land certification in 200 sub-districts and 50,000 households in transmigration areas. Increase farmer income by developing small and micro scale enterprise for 74,000 farmers. Increase Kecamatan Development Program, Urban Poverty Program, and Costal Area Development program. Put in place clean water and sanitation for 1.5 million people. Develop village infrastructure in 4 districts. Put in place health services (medicine equipment and health infrastructure) in 383 districts. Put in place education services (scholarships and infrastructure) for 8. lmillion students.

May-04

Jan-04

2004

2004

2004 2004 2004

2004

2004 Social Support for the vulnerable. Source: World Bank staff based on Presidential instruction No.5/2003.

Provide food needs for the poor in 30 provinces. 2004

52

Poverty Reduction Strategy. A number o f challenges w i l l need to be addressed to reap the full rewards o f a Poverty Reduction Strategy.

Ensure that participation does not come at the cost of substance. In setting up multi- stakeholder task forces to develop the PRSP, Indonesia i s beginning what could be a process that i s more participatory than many other countries. Whi le it i s important that participation goes beyond those actually on the task forces, it i s also important to draw on strong technical and analytical inputs to the process, including f rom Bappenas (formally responsible for addressing cross-cutting issues for al l four task forces).

Build upon existing sectoral strategies. Greater effort i s required to bridge the gap between the evolving PRS and sector strategies, focusing on how these strategies can be formulated to meet the needs o f the poor.

Integrate the PRS into the planning and budgeting process. This means that Bappenas, the Ministry o f Finance and the sector Ministries need to be closely engaged wi th the process. Indonesia’s PRSP faces a particular challenge in that currently planning processes are in a state o f flux. There are uncertainties about the operative planning instrument for a new incoming Government in 2004. Currently Bappenas i s developing a medium term plan and a long term plan, and a medium-term expenditure framework i s being developed by an inter-ministerial group. On the other hand, the ongoing transition also represents an opportunity to use the PRS as a framework for planning and budgeting.

Provide guidance, capaci9, and incentives to local governments in developing their PRS. Indonesia i s developing i t s PRS in the context of a broad and evolving decentralization effort. Decentralization i s in itself an important element o f Indonesia’s efforts to combat poverty. I t i s in this context that the inter- ministerial Poverty Reduction Committee (KPK) mandated the establishment o f subnational Poverty Reduction Committees

(KPKD) to develop subnational Poverty Reduction Strategies. But capacity in districts i s l o w and basic planning and budgeting processes are not wel l institutionalized. The PRS Core Team would need to provide guidance and best practice examples to regional governments, drawing on the experience o f p i lot regional PRSs. Incentives and fiscal instruments can also be used to encourage regional governments in supporting the objectives and priorities o f the national PRS .

Beyond committing to developing the PRSP, the White Paper details key short-term actions to reduce poverty, within the framework o f the emerging PRSP: (i) opportunity creation; (ii) empowerment; (iii) human capital development and capacity building; and (iv) social protection.

Oppurfunzty Creafion Growth has been the primary factor in reducing poverty between 1999 and 2002. If growth accelerates f rom 4 percent to 5 percent by 2006, as many as 4 mi l l ion more people would be pulled out o f poverty. The quality o f growth-who benefits f rom growth-also matters. If income distribution had not deteriorated between 1999 and 2002, 12 percent o f the population would be poor instead o f 16 percent. T w o factors deserve particular attention for a pro-poor growth strategy. In rural areas, where most o f the poor (78 percent) live, the poor are increasingly reliant on off-farm income which now constitutes 50 percent o f their total income. In urban areas, poverty i s largely shaped by lack o f jobs, wi th the urban unemployment rate for men over three times that in rural areas, and the urban unemployment rate for women greater than that for men. Measures to stimulate off-farm rural income and create jobs in

4 million people would be pulled out of

poverty with 5 percent growth by 2006

53

urban areas thus need to be part o f the poverty reduction agenda.

The White Paper: While much o f the White Paper focuses on issues o f opportunity creation through maintaining macroeconomic stability and improving the investment climate, three activities are identified to focus on the poor: land certification and policy; improving village infrastructure; and increasing farmer incomes b y developing small and micro-scale agribusiness.

Land certification and policy. Land conflicts and disputes, highly concentrated ownership and tenure o f land, and lack o f legal protection o f poor people's rights over land adversely affect income and opportunities for the poor. Secure tenure increases access to credit." The Government has titled over a mi l l ion parcels of land since 1997, increased capacity at the National Land Agency, and carried out a comprehensive review o f the policy and legal reforms needed to modernize the land system under democratic, pro-poor principles.

However, providing appropriate access to forest land, accommodating communal use o f land in land titling, and accelerating land titling i s needed. First, around 64 percent o f Indonesian total land i s classified by the Ministry o f Forestry as forest land and i s therefore administered under the Basic Forestry L a w o f 1967 (UUPK). UUPK precludes individual land tenure despite the fact there are private dwellings, farms, and even cities on this land. Moreover, some forest land overlaps wi th land that previously enjoyed traditional land rights (adat). Second, a large share o f land off-Java i s communal land and private titling o f this land may work against the poor and increase conflict. Third, titling o f non-forest land has been slow. Only about 25 percent of the nation's estimated 80 mi l l ion land parcels have been registered in the 40 years since land registration began (Figure 5.3). If the current pace of registration continues, i t would be diff icult for land registration to catch up wi th the growing number o f parcels.

Road infrastructure and the poor. Improving road infrastructure to connect the poor wi th markets and services i s one o f the most effective ways o f promoting pro-poor growth. The White

Paper actions to develop infrastructure for the poor-including development o f village infrastructure and activities wi th strong infrastructure components, such as the Kecamatan Development Program (KDP), the Urban Poverty Eradication Program (UPP) and the provision of clean water and sanitation-are welcome. T w o issues require further consideration in developing an infrastructure program beneficial to the poor.

Figure 5.3. Low land registration in Indonesia percent shareof registered land

1

Thailand M aiaysia Philippines indonesia

Source: World Bank.

First, additional resources are required. A Strategic Expenditure Planning Module developed by Bappenas since 1998 for the transport sector estimates that a primary road network that maximizes economic benefit would require Rp. 6.5 tr i l l ion per year. This i s wel l below the Rp. 3.3 tri l l ion spent on roads in 2002 by the central government. The shortfall i s 15-20 percent for provincial roads and 30 percent for district roads.

Second, expanding and improving the rural road network i s needed. In particular, village-to-market access roads are critical for the rural poor. Kabupaten roads constitute 72 percent o f classified roads and, when added to the large network o f unclassified village roads, they make up 84 percent o f a l l roads in Indonesia. But almost hal f o f the Kabupaten road network i s in poor or bad condition, and only 19 percent i s in good condition (Figure 5.4). Moreover, there i s large inequality between the poor and the wel l o f f in access to roads o f adequate quality (Figure 5.5). The Government w i l l clearly need to go beyond the White Paper's commitment to develop village infrastructure in four Kabupatens in four provinces. I t has set up a Coordinating Team o n Rural Infrastructure Development headed by the

54

Coordinating Minister o f Economic Affairs. However, this needs to be reflected in increased spending allocations for rural infrastructure.

Improving farmer incomes through smalVmicro agribusiness. The White Paper appropriately highlights the need for action to increase farmer incomes through small and micro-scale agribusiness. However, i t does not specify how the Government proposes to help develop such businesses. The type o f assistance matters. Improvements in land tenure security could help households access credit for small-scale agribusiness activities. Subsidized credit schemes have been conspicuous in their failure to help the rural poor, but pooling loans can improve access to credit to small poor borrowers.

Figure 5.5. Road access i s not equally distributed Percent 100 1 Percentage of people who live in a

corrrrunity with asphalt road access 80

60

40

20

0 4 5 (rich) 3

quintile 2

Source: Staff estimates based on Susenas.

Empowerment andA ccountabzlz2y Corruption i s one o f the key issues in Indonesia today, and affects the poor disproportionately. Because o f weak information, poor organizational capacity, and lack o f sk i l l s , the poor are unable to take effective, systemic actions to demand higher

Figure 5.4. Most roads in districts are of inferior quality

Municipal L levels o f accountability.

The White Paper: The White Paper recognizes Opoor the importance o f empowerment. For that, i t

suggests scaling up community driven development programs aimed at enhancing the voice, participation, and empowerment o f local

Dercent share of roads Kecamatan Development Program (KDP), -1 communities. Measures include expansion o f the

Kabupaten

Provincial

National

0 20 40 60 80 100

Source: World Bank, Public Expenditure Review, 2003.

Farmers would also benefit f r om stable prices o f agricultural commodities, which reduce risk and facilitate investment decisions; however, if these prices are kept above market prices (e.g., through import tariffs or licensing), they w i l l lead to distortions and hurt poor consumers.

Small entrepreneurs also need s k i l l s for diversifying into agribusiness and off-farm employment. The Government could assist by improving agricultural extension services, including training, and fostering voluntary linkages between small and larger businesses. Small landholdings and lags in productivity increases, as attested by l ow agricultural growth, means that of f - farm rural income sources w i l l be increasingly important.

including to conflict areas, the Urban Poverty Program (UPP), including in Eastern Indonesia and a Coastal Area Development Program.

Demand-driven community and district development programs. These programs have been significant forces for both empowering Indonesian citizens economically and socially, and improving the quality o f local governance. They can serve as a means for communities to make coherent demands upon and contribute to district- level reform initiatives; used as methods to address multiple dimensions o f poverty simultaneously; and provide a platform f rom which citizens and communities can link with service providers to get higher quality and more access to basic services l ike water, health, and education. There i s ample evidence that community-controlled projects are much better maintained than top-down projects

55

that are placed in communities wi th little consultation.

Scaling-up community driven development programs, however, w i l l require special attention to key factors in order to ensure sustainability and to maximize benefits. First, sustainability and local ownership can be enhanced if local governments are required to commit time and resources for community development programs. In i t ia l experience f rom KDP has shown that there i s significant interest on the part o f local governments to do so. Second, there i s a risk that marginalized groups w i l l not benefit f rom expansion o f C D D programs if insufficient time i s allocated to socialization and capacity building. Expansion should go n o faster than the communities’ ability to internalize the new approaches.

Beyond the White Paper: While the White Paper stresses community driven programs as the means to empower the poor, Indonesia’s poverty reduction strategy should also address broader issues of empowerment and governance that have a direct bearing on the poor.

Create clear national expectations and promote district-level reforms. The GO1 can institute national campaigns that in form citizens o f their rights to quality health and education services, which w i l l stimulate demand for improved services. In addition the MDGs can be dkaggregated by income group and/or gender, and they can be regionalized to create more appropriate and realistic targets for different regions. Local governance reform programs promoted b y the central government (such as the Government’s ILGR program) can work wi th reform-minded district governments to create incentives for improved planning, budgeting, and improved implementation o f laws. Rewarding reformist local governments can strengthen the hand o f local champions who want to pursue a reform agenda. These rewards can include grants, enhanced recognition, more interest f rom potential investors, and greater popularity for elected representatives.

Improve the predictability and fairness of rule enforcement. The justice reform agenda i s summarized in Chapter 4, but in addition there are

promising local-level initiatives that have demonstrated an ability to reduce corruption and improve rule enforcement for the poor at the local level. Recent evidence has demonstrated that well- organized communities in which local leaders had strong grassroots and c iv i l society support were more successful in pursuing justice through the court system and in reducing the amount o f corruption associated wi th financial transfers, procurement, and construction activities.

Improve information flows. Laws 22/1999, 25/1999, and 28/1999 require local governments to give citizens access to information on plans, budgets and al l other information to permit adequate citizen oversight, though at present this i s often not the reality. Governments must work wi th citizens and c iv i l society to create greater access to information through use of innovative tools such as websites, one-stop shops, and regional newsletters. Successful approaches can be codified and expanded nationally.

Human Capital Indonesia fares poorly relative to i t s Asian neighbors on social development indicators. Beyond reflecting deprivation in human development, poor social indicators adversely affect Indonesians’ ability to take advantage o f opportunities in the labor market and Indonesia’s ability to compete.

Indonesia’s education quality is behind its

neighbors

Improvements in service provision, particularly in health and education, are critically needed; but the focus should be on quality rather than quantity. In education, whereas gross primary enrollment rate exceeds 100 percent, test scores o f Indonesian students are l o w compared to other countries (Figure 5.6). Moreover, only between 21 and 35 percent o f primary school teachers in Sulawesi

56

have the minimum certificate level required; and absenteeism rates for primary school teachers i s about 20 percent (Box 5.1). Improving outcomes w i l l require more efficient management, better sectoral policies at the regional level, and improved accountability measures so that service providers have incentives to deliver quality services to their clients.

Figure 5.6. Indonesia i s behind its neighbors in science and mathematics achievements

Philippines

Indonesia

Thailand

Malaysia

Japan

Hong Kong

Taiwan

Korea

Singapore

0 200 400 600 800 meanscore

Source: Trends in International Mathematics and Science Study 1999.

The White Paper: The White Paper emphasizes the need to increase the s k i l l s o f the poor, and for that i t suggests putting in place specific health services (medicine, equipment, and health infrastructure) and education services (scholarships and infrastructure). Whi le the areas selected are important, the White Paper does not specify what needs to be done in these areas.

Medicine. Increasing access to appropriate quality medicine for the poor i s an important issue, but needs to be addressed in tandem wi th drug procurement policy. Post decentralization, district and municipal governments undertake their own drug procurement. This allows districts to ensure procurement o f drugs according to local needs, but i t raises several concerns: districts may opt to get the cheapest drugs, undermining quality; districts cannot take advantage o f economies o f scale f rom pooled procurement; remote and poor districts w i l l have to pay a higher price for the same drugs which can lead to under-financing o f real drug

needs; and remote and poor districts may experience drug shortages due to delayed delivery. Drug procurement policies thus need to be revisited, and the role o f the central government in ensuring quality o f procured drugs needs to be established.

Health equipment and infrastructure. Many poor families do not have access to good basic medical services, as more and more doctors and midwives move out o f remote areas and poor districts upon completion o f their contract wi th government. Moreover, a very small share o f poor families have access to hospital care. Targeted measures would work better for the poor than general expansion o f health equipment and infrastructure. The central government could set up and fund a central medical corps for deployment in areas experiencing difficulties in attracting qualified medical and paramedical personnel, in close collaboration wi th the provinces.

Scholarships. As donor funding o f the Scholarship and Grant Program (SGP) w i l l terminate soon, the Government has committed to continue supporting this program. I t w i l l increase the number o f scholarships for a l l levels o f students, and w i l l cover marginalized youth (dropouts, unemployed youth). The government’s continuation o f this program i s welcome. Nevertheless, the program can be improved by transferring the targeting, implementation, and monitoring functions to the local level. More effective targeting can be achieved through the sub-district and school committees, and independent monitoring can be undertaken at the community level to enhance accountability. Moreover, the engagement o f the district and other local authorities in the implementation process needs to be strengthened; lack o f local ownership o f the program results in flawed targeting, monitoring and evaluation, fo l low up and sustainability .

Education infrastructure. Considering the large percentage of schools (especially at the primary level) that urgently needed rehabilitation, the government’s commitment to support infrastructure i s timely. T o improve the effectiveness o f block grants to schools, better

57

accountability measures can be introduced. Pilot projects involving communities as managers o f school rehabilitation and construction funds have been successful.

Beyond the White Paper: Decentralization w i l l l ikely affect the quantity and quality o f education and health, as the responsibility for the delivery o f these services was transferred to the districts (see Chapter 1). Within this new framework, several areas require attention.

Set clear and well-defined functional assignments for service delivery. Many functions o f different levels of government are not yet specified or clarified. For example, district government i s responsible for hiring and paying teachers in public schools, but compensation for c i v i l servants i s set centrally, with districts providing supplementary benefits. This year the vlinistry o f Education recruited almost 200,000

functions are best undertaken at the national and provincial level. For example, a central authority could coordinate the education system's strategic directions, set and maintain core education standards and performance measurement, and provide specialized services that may be shared across districts.

Improve fiscal transfer mechanisms to ensure well planned and implemented programs. District level planning i s complicated by the fact that the central government s t i l l finances a lot o f district level expenditures in the social sectors. Central health expenditures s t i l l constitute about 50 percent o f development and 25 percent of routine expenditures. Such central expenditure financing of district expenditures should be incorporated into the budget of the districts-for example through a central DAK transfer. The DAK can be used to achieve outcomes deemed to be a priority at the national level.

Box 5.1. The doctor is out... The 2004 World Development Report o f the World Bank sponsored absenteeism surveys across countries. The survey results give one indication o f the poor quality o f service in health and education in Indonesia ". Among the countries surveyed, Indonesia ranks in the middle in terms o f service-provider absence in education, and toward the bottom in health. The absenteeism rate among doctors in health clinics i s an astounding 42 percent. In education, the average first-grade teacher attends school less than 3 hours a day, compared with 4.7 hours or more in each o f the other (poorer) countries.

What causes staff absence? In primary schools: Teachers are more likely to be absent i f (i) they are contract teachers (contract teachers are not civi l servants and earn barely more than a third the salary o f their civi l service counterparts); or (ii) they work in schools with poor infrastructure; or (iii) they work in districts that do not have an award program for recognizing high-performing teachers.

I n puskesmas (clinics): Medical staff are more likely to be absent if (i) they originally come from another province and have not requested this posting; or (ii) the facility has poor infrastructure, i s remote, and i s located in a district with less frequent inspections.

1/ The Indonesia survey was fielded by SMERU and relied on unannounced visits to 137 primary schools (100 of which were run by the government) and 100 puskemas, selected randomly from 10 randomly selected kabupatens and kotas. Each facility was visited twice-once in November 2002, and a second time in March 2003. Source: World Bank and SMERU (preliminary results)

contract teachers to be deployed in districts. The assignment o f functions and roles should be guided Strengthen monitoring of health and education by considerations o f economies o f scale, optimal services. With decentralization, many o f the market size, and the need to balance institutional monitoring systems have deteriorated. responsibilities borne by levels o f governments Districts are often not reporting basic data on wi th resources available to them. Moreover, some service delivery to the central government.

58

Without access to information, i t i s impossible to effectively implement health and education policy that addresses the needs o f the districts and pursues national priorities. The information system needs to be revived, although i t should be different f rom the pre-decentralization system-if performance- based budgeting becomes a tool in defining central allocations to districts, there w i l l be a strong incentive for districts to overstate performance.

Establish service standards. Efforts are underway to determine minimum service standards. In education, a l i s t o f such standards (covering issues relating to organization, expected learning by students, infrastructure, teaching methods, staffing, financing and community participation) has been drafted and an accreditation board to help schools achieve the minimum standards i s planned. In health, a ministerial decree has been issued, setting minimum service standards for 25 areas and defining 7 additional areas for which the districts are required to deliver services according to their needs (covering immunization services, nutrition services, prevention o f communicable diseases, curative services, and other). In refining these minimum standards, key principles can be used: (i) they should be firmly guided by the government’s overall budget constraint; (ii) if standards are to be national minimum standards, the resource base o f the poorest district needs to be sufficient to reach the standards, or additional resources need to be provided to the poorest districts to meet the minimum standards; alternatively they could be set b y provinces as dictated by the current law; (iii) minimum service standards should be standards on services (and not on inputs or outcomes); and (iv) while minimum service standards are potentially a good method o f holding districts accountable for delivering on basic services, too much detail in these standards may undermine decentralization as i t removes potential efficiency gains that districts could achieve by adjusting their education or health service delivery to local circumstances.

SociaZ Protection Households in Indonesia are extremely vulnerable to fall ing into poverty: more than hal f o f the population lives under US$2 per day, and more than a third l ive on incomes between $1.55 (the

national poverty line) and $2 per day. The poor are vulnerable to different shocks, most importantly to increases in rice prices (their main staple), catastrophic illness o f household members, and crop failure (Figure 5.7). In addition, an important source o f vulnerability i s conflict and related insecurity in many regions. Gender vulnerability i s also a key issue, as women on average earn less than men and have more diff iculty in securing good jobs, regardless o f sector and level o f education. Reducing vulnerability o f households to poverty w i l l mean lifting more people further above the poverty l ine through growth, mitigating the sources o f vulnerability such as conflict and natural disasters, and enhancing informal and formal coping mechanisms for households, including through wel l targeted safety net programs.

The White Paper: Raskin. The White Paper commits to reduce vulnerability by continuing delivery o f the Raskin rice subsidy program. This i s a reformed version o f the emergency targeted rice subsidy program (OPK) introduced in August 1998 to protect food insecure low-income households and mitigate the impact o f the financial crisis. The program, totaling around Rp. 4.8 tri l l ion in 2003, i s one o f the main social protection transfer schemes currently implemented b y the Government. The program i s set up to deliver 20 kilograms o f rice per household per month at a

Figure 5.7. The poor are vulnerable to adverse shocks

60% 1

Employment No Staple Increase Death Crop failure Lower Available Price of Profits

Rice

Source: Local Level Institutions Study, The World Bank, 2002.

subsidized price o f Rp. 1,000 per kilogram. As the average rice consumption o f poor households i s around 43 kg per month, the subsidy i s not substantial, even among poor households.

59

Evaluation of the Raskin program shows the following:

0 64 percent of all the poor receive Raskin r ice (up from 57 percent under OPK), making the Raskin the social protection program with the largest coverage of poor.

0 35 percent o f the non-poor also receive Raskin rice (through leakage); thus, 74 percent o f those receiving the subsidy are not poor.

0 Smaller quantities are often distributed ... among a larger number o f recipients. ’” This partly explains the wide coverage. Instead of the

The consequence of poor targeting i s that, o f the Rp. 4.83 trill ion allocated to BULOG in 2003, over half went as a subsidy to the non-poor, almost a third was absorbed by BULOG in operating costs and profits, and only 18 percent went to the poor (Box 5.2).

To improve the efficiency o f targeting and reduce the cost o f the program, several measures can be considered. First, geographical targeting and self- targeting for example, by selling lower-quality rice through the program, could be introduced. Using lower quality r ice would also allow expansion of the program at lower cost. Second, the

Box 5.2. Expensive subsidized rice

The RASKIN program, operated by BULOG, provides subsidized rice to poor families but at a substantial cost. In 2003 BULOG received a budget of Rp. 4.83 trillion to distribute 2.06 million tons of rice to 8.59 million households. Assuming BULOG paid the floor price of Rp. 2790/kg for the rice i t purchased (in practice the market price was below this) and sold i t to households at Rp. 1000/kg, then the subsidy to households was Rp. 3.69 trillion. Analysis of the 2002 Susenas indicates that only 26 percent of the Raskin recipients are poor. This implies only 0.96 Rp. trillion, or 18 percent of the Raskin’s budget, i s provided as a subsidy to the poor, with Rp. 2.73 trillion going to the non-poor. The remaining Rp. 1.56 trillion or 30 percent o f the RASKIN budget i s retained by BULOG to cover their operating costs.

Distribution of BULOG budget

Subsidy received by e poor

Operatlng Costs and 18% BULOG Profit

30%

52%

Source: Bulog “Rencana Alokasi Operasi Pasar Khusus Beras, 2003-2004” except for market price (0.

Fourth, the contracting arrangements and delivery costs associated with this program need to be carefully reviewed in light of the significant budget being provided to Bulog as the contracted marketing agency to deliver this program.

Beyond the White Paper: Developing a social protection system tailored to meet the risks and vulnerabilities of the poor. Beyond the White Paper, the Government needs to improve i t s effectiveness in helping the poor cope with shocks. Often the poor end up relying on coping mechanisms which undermine their long run ability to escape from poverty. Improving the effectiveness o f government intervention in helping the poor requires mechanisms for better risk management of economy-wide shocks and effective reduction of the specific r i sks faced by the poor. Often the government does not sufficiently support the poor to access markets that could help them to overcome shocks. For example, widespread extraction from female migrant laborers reduces their ability to overcome poverty in their families.

To address vulnerability, a social protection system i s needed to reduce and mitigate risks on the one hand, and lessen the impact of shocks on the other. The Government has recently proposed a comprehensive social security system that would cover health insurance, work accident insurance, and unemployment insurance, as well as old age pension, public pension and life insurance. This system would replace existing institutions such as Jamsostek, ASKES, and the health card. The goal i s to reach universal coverage, but the reforms would be phased over decades. A draft bill i s s t i l l under development. While such a system could potentially play an important role in providing greater access to risk management tools for the poor, i t needs to be carefully thought through to avoid potential pitfalls. Wide consultation and discussion before embarking on such a venture w i l l be critical in this regard.

74percent of those receiving Raskin are

not poor But this alone i s not the solution. Under the current decentralized setting, there are two main challenges: (i) the ability o f the central government to reach poor districts; and (ii) the ability of local government to reach their own poor, through pro- poor budgeting, policies and programs.

Fiscal instruments such as the equalizing grant (DAU) and the special grant (DAK) wi l l be important to the success o f the central government in targeting and reaching poor districts. But much attention wi l l be needed in improving the ability of local governments to reach their own poor. Incentive mechanisms and capacity building w i l l be required to establish systems for pro-poor budgeting, spending, policies, and programs at the district level. Decentralization, as well as the development of regional poverty reduction strategies, provide an opportunity and a challenge to improve the targeting o f public spending and make progress in this regard

The Govemment w i l l imminently issue i t s MDG Report (not available at the time this report went to print). l1 SMERU (2002) “An Impact Evaluation o f Systematic Land Tilt ing under the Land Administration Project”, SMERU Research report, Jakarta. LII There i s a tendency at the village level to spread benefits widely based on cultural belief that a l l should benefit equally form the government’s assistance. Olken (2003) estimates that around 18 percent o f the distributed rice was missing. He reports that while some villages stole rice, some spread the rice to a larger number o f recipients. H e estimates that the welfare losses from corruption may have been large enough to offset the potential welfare gains f rom the redistributive intent o f the program.

Improving targeted pro-poor spending through decentralization. The Government also needs to ensure that the social protection programs are reaching the poor. Regional targeting i s a convenient planning tool to improve targeting o f social protection and public expenditure programs.

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Table 1. Selected Social Indicators, 1990-2002

1990 1993 1996 1999 2000 2001 2002

Demography Population (million) Population ages 0 - 14 yr old (%) Population ages 15 - 64 yr old (%) Population ages 6 5 t yr old (96) Population growth rate (9%) Population density (per Km2) Urban population, % urban to total Gender ratio, male to 100 fernales Dependency ratio (%)

Education Elementary school net enrollment ratio, % of relevant aged group Junior high school net enrollment ratio, % of relevant aged group Senior high school net enrollment ratio, % of relevant aged group Population > 10 yr old not completed primary school (%) Population > 10 yr old finished primary and Junior high school (%) Population > 10 yr old finished high school and college (%) Adult literacy rate

Health Life expectancy rate Fertility rate, births per woman Infant mortality rate, per 1000 live births Mortality rate of children < 5 yr old, per 1000 Children < 5 yr old that have good nutrition (%) Children < 5 yr old that had been immunized (%) Number of medical doctor per 100,000 population

Housing and Sanitation Household with access to piped water (%) Household with access to own septic tank (%) Household with electricity (%)

Labor force Employed (%) Looking for work (%) Labor force participation (%) Unemployment rate (%) /b Working children in 10-14 year old group (%)

Poverty and ineauality Number of people under poverty line (million) IC Population under poverty line (%) /c Expenditure share of the lowest 40%, (%) Expenditure share of the middle 40%, (%) Expenditure share of the highest 20%, (%) Gini Coefficient

179.5 36.5 59.6 3.9 2.0 95

30.9 99.5 67.8

83.2 40.5

37.5 48.8 13.7 81.5

62.5 3.1

63.5 86.4 54.2 69.3

12.9 17.9 46.8

55.9 1.4

57.3 3.2 9.5

27.2 15.1 21.3 36.8 41.9 0.32

189.1 34.9 61.3

3.8 1.7 99

34.0 99.5 63.4

91.5

41.8 46.3 11.9 83.3

62.7 2.9

58.1 78.1 55.5 76.3 10.4

14.7 22.0 55.3

55.1 1.6

58.0 4.3

10.8

25.9 13.7 14.6 41.6 43.9 0.34

198.3 32.0 63.8 4.2 1.6 103

37.1 99.1 57.0

94.8 48.6

40.1 45.0 14.9 85.3

63.2 2.8

56.0 70.4 63.9 88.2 10.7

16.7 26.1 72.2

55.5 2.9

58.3 4.9 7.9

34.5 17.7 20.2 35.0 44.7 0.36

206.5 31.7 64.0 4.3 1.6

107 39.4 99.1 56.1

92.7 59.2 38.5 35.4 47.0 17.6 88.4

65.5 2.6

46.0 59.6 69.7 89.9 10.8

18.6 30.4 83.7

62.9 4.3

67.2 6.4 6.9

48.4 23.5 21.3 37.0 41.6 0.32

205.8 32.6 63.0 4.4 1.5

109 42.1 99.8 58.8

94.9 60.8 39.8 34.0 47.7 18.3 89.9

68.0 2.5

44.0 44.7 71.1 90.1 13.2

18.6 28.5 86.3

63.6 4.1

67.8 6.1 4.6

37.3 19.0 22.2 37.9 39.9 0.33

213.5 32.2 63.6 4.1 1.4

111 44.0 99.1 57.2

92.9 60.5 37.1 34.4 47.6 18.0 89.3

4.1

69.1

12.6

18.3 38.5 86.3

63.0 3.7

68.6 8.0 4.5

37.1 18.4 22.0 37.5 40.6 0.32

212.0 l a 29.8 65.6 4.7 1.3

112 44.4 99.7 52.4

92.6 60.9 39.7 31.3 49.2 19.5 90.7

18.3 39.7 84.7

61.2 4.0

67.8 9.1 4.0

38.4 18.2 21.5 38.2 40.3 0.34

/a Based on population projections 1990-2000 /b Since 2001 Sakemas follows a "relaxed" L O concept of open unemployment. /c Since 1996 using Susenas 1998 definition of the poverty line (the "new" definition). .. : Data are not available

Source: Central Bureau of Statistics

Table 3. Povertv Line and Number of People Below the Povertv Line

Year 1976-1996

Poverty Line Year (Rp/capita/month)

Number of Percentage of People Below the Poverty Line Population Below the Poverty Line

Urban Rural

1976 1978 1980 1981 1984 1987 1990 1993 1996

(million ) Urban Rural Urban+Rural Urban Rural Urban+Rural

4,522 2,849 4,969 2,981 6,83 1 4,449 9,777 5,877 13,731 7,746 17,381 10,294 20,614 13,295 27,905 18,244 38,246 27,413

10.0 8.3 9.5 9.3 9.3 9.7 9.4 8.7 7.2

44.2 38.9 32.8 31.3 25.7 20.3 17.8 17.2 15.3

54.2 47.2 42.3 40.6 35.0 30.0 27.2 25.9 22.5

38.8 30.8 29.0 28.1 23.1 20.1 16.8 13.5 9.7

40.4 33.4 28.4 26.5 21.2 16.1 14.3 13.8 12.3

40.1 33.3 28.6 26.9 21.6 17.4 15.1 13.7 11.3

Year 1996-2002 /a

Year

1996 1998 Ib 1999 IC 2000/c 2001/c 2002lc

Poverty Line (Rplc api tatmonth)

Urban Rural

42,032 31,366 96,959 72,780 92,409 74,272 91,632 73,648 100,011 80,382 130,499 96,512

Number of People Below the Poverty Line

(in million ) Urban Rural Urban+Rural

9.6 24.9 34.5 17.6 31.9 49.5 15.7 32.7 48.4 12.1 25.2 37.3 8.6 29.3 37.9 13.3 25.1 38.4

/a Using BPS 1998 definition of the poverty line (the "new" definition). Ib Based on Susenas of December 1998. IC Based on Regular Susenas.

Percentage of Population Below the Poverty Line

Urban Rural Urban+Rural

13.6 19.9 17.7 21.9 25.7 24.2 19.5 26.1 23.5 14.6 22.1 19.0 9.8 24.8 18.4 14.5 21.1 18.2

Source: Central Bureau of Statistics.

Table 4. Population and Population Growth Rates by Province, 1971-2002

Region Population (thousand person) /a 1971 /b 1980 1990 1995 2000 2002 /C 1971-1980 1980-1990 1990-2000

Java DKI Jakarta West Java Banten Central Java DI Yogjakarta East Java

Sumatra Bangka Belitung Islands Lampung Bengkulu South Sumatra Riau Jambi West Sumatra North Sumatra Aceh

Kalimantan West Kalimantan Central Kalimantan South Kalimantan East Kalimantan

Central Sulawesi North Sulawesi South Sulawesi Southeast Sulawesi Gorontalo

Other Islands

Sulawesi

B ali West Nusa Tenggara East Nusa Tenggara Maluku North Maluku Irian Jaya

Indonesia

76.086 4,579

21,624

21,877 2,489

25,517

20.809

2,777 519

3,441 1,642 1,006 2,793 6,622 2,009

5.155 2,020

702 1,699

734 8.528

914 1,719 5,181

714

8.630 2,120 2,203 2,295 1,089

923

119,208

91.270 6,503

27,454

25,373 2,751

29,189

28,017

4,625 768

4,630 2,169 1,446 3,407 8,361 2,611

6.723 2,486

954 2,065 1,218

10.409 1,290 2,115 6,062

942

11,072 2,470 2,725 2,737 1,411

1,174

146.935 -

107,581 8,259

35,384

28,521 2,913

32,504

36.507

6,018 1,179 6,313 3,304 2,021 4,000

10,256 3,416

9.100 3,229 1,396 2,598 1,877

12.521 1,711 2,478 6,982 1,350

13.672 2,778 3,370 3,269 1,858

1,649

178,631

114,980 9,144

39,340

29,691 2,917

33,889

40.984

6,680 1,418 7,239 3,923 2,383 4,334

11,144 3,863

10,520 3,650 1,636 2,904 2,330

13,775 1,946 2,655 7,578 1,596

15.035 2,900 3,655 3,588 2,095

1,954

195,294

121,293 8,361

35,724 8,098

3 1,223 3,121

34,766

43.269 900

6,731 1,564 6,899 4,948 2,407 4,249

1 1,642 3,929

11.307 4,016 1,855 2,984 2,452

14.881 2,176 2,001 8,051 1,820

833

15.091 3,150 4,009 3,823 1,163

732 2,214

205.841

124,332 8,382

37,157 8,619

31,786 3,163

35,225

44.846 917

6,889 1,656 7,226 5,383 2,494 4,298

11,942 4,041

11.821 4,198 1,966 3,068 2,589

15.417 2,287 2,052 8,284 1,935

859

15.587 3,230 4,152 3,945 1,165

739 2,356

2 12,003

- 2.0 4.0 2.7

1.7 1.1 1.5

- 3.4

5.8 4.5 3.4 3.1 4.1 2.2 2.6 3.0

- 3.0 2.3 3.5 2.2 5.8 - 2.2 3.9 2.3 1.8 3.1

- 2.8 1.7 2.4 2.0 2.9

2.7

2.4 -

- 1.7 2.4 2.6

1.2 0.6 1.1

- 2.7

2.7 4.4 3.1 4.3 3.4 1.6 2.1 2.7

- 3.1 2.6 3.9 2.3 4.4 - 1.9 2.9 1.6 1.4 3.7

- 2.1 1.2 2.1 1.8 2.8

3.5

2.0 -

- 1.2 0.1 0.1

0.9 0.7 0.7

- 1.7

1.1 2.9 0.9 4.1 1.8 0.6 1.3 1.4

- 2.2 2.2 2.9 1.4 2.7 - 1.7 2.4 -2.1 1.4 3.0

- 1 .o 1.3 1.8 1.6

-4.6

3.0

1.4 - /a Based on Population Census 1971, 1980, 1990, 1995 and 2000. /b Includes adjustment for the exclusion of rural Irian Jaya. /c Projections. .. : Data are not available.

Source: Central Bureau of Statistics.

Table 5. Labor Force Participation bv Province (%), 1996-2002

Region 1996 1997 1998 1999 2000 2001 2002

- Java DKI Jakarta West Java Central Java DI Yogjakarta East Java

Sumatra Lampung Bengkulu South Sumatra Riau Jambi West Sumatra North Sumatra Aceh

Kaliman tan West Kalimantan Central Kalimantan South Kalimantan East Kalimantan

Sulawesi Central Sulawesi North Sulawesi South Sulawesi Southeast Sulawesi

Other Islands B ali West Nusa Tenggara East Nusa Tenggara Maluku Irian Jaya

Indonesia

57.7 51.2 52.5 62.5 61.3 60.9

58.2 60.6 65.3 57.3 54.5 56.9 55.7 58.3 57.0

62.1 61.7 65.1 64.5 57.0

57.6 55.8 61.8 54.1 58.7

70.1 63.5 65.4 55.0 63.8

58.3

58.0 53.1 51.7 61.4 63.0 60.8

57.8 57.5 63.4 57.5 55.1 55.0 56.7 58.5 58.5

61.3 61.4 64.1 65.5 54.4

57.7 55.5 62.3 52.5 60.7

70.8 65.5 65.3 53.8 66.6

58.0

65.5 58.2 60.4 71.2 67.7 69.8

68.4 71.6 74.9 68.4 63.7 66.8 66.4 68.4 66.7

69.5 69.0 69.4 72.9 66.8

65.2 60.1 70.4 61.5 68.9

76.8 70.8 74.1 64.8 75.5

- 66.9

66.7 60.2 61.9 72.2 69.6 69.8

66.9 68.5 74.1 69.8 61.5 65.9 64.8 69.0 61.7

69.4 69.6 70.2 73.0 64.9

65.1 61.0 70.4 60.2 68.9

76.4 72.1 73.4 67.3 76.8

- 67.2

67 .O 61.6 61.9 72.7 72.6 68.9

68.5 71.0 74.9 69.4 63.4 65.6 66.0 70.1 66.4

70.9 72.3 70.8 72.6 66.8

62.8 71.6 58.8 60.3 69.6

78.0 72.5 75.8

78.0

- 67.8

67.8 63.7 64.6 71.9 70.2 69.2

69.0 72.1 74.7 70.9 65.2 67.7 67.3 70.5 64.2

69.9 70.3 70.1 72.5 66.2

65.8 71.5 61.4 63.9 74.2

79.5 74.5 76.9 65.5 78.1

- 68.6

67.1 60.8 63.3 71.2 70.2 68.9

68.0 70.3 70.9 70.5 62.7 68.0 65.4 70.0 61.8

70.3 71.9 69.5 74.2 63.7

64.1 71.7 60.9 62.3 69.3

76.9 72.4 78.5 65.6 76.7

- 67.8

.. : Data are not available.

Source: Central Bureau of Statistics.

E

8

E

E

E

8

h C

'6 .- - - E

% hi .g - -

'6

'B C

2

m m h

2j

3 z s

M

U

3

Table 7. Regional Minimum Wage bv province 1996-2003 (Rupiah thousand/Month)

Region 1996 1997 1998 1999 2000 2001 2002 2003

- Java DIU Jakarta West Java Banten Central Java DI Yogjakarta East Java

Sumatra Lampung Bengkulu South Sumatra Riau Jambi West Sumatra North Sumatra Aceh

Kalimantan West Kalimantan Central Kalimantan South Kalimantan East Kalimantan

Sulawesi Central Sulawesi North Sulawesi South Sulawesi Southeast Sulawesi Gorontalo

Other Islands B ali West Nusa Tenggara East Nusa Tenggara Maluku North Maluku Papua

156 156

102 96

120

114 116 116 138 108 108 138 116

114 125 114 138

96 108 102 110

128 98 96

123

155

173 173

113 107 133

126 128 128 152 120 119 151 128

127 138 125 153

107 118 113 121

142 108 107 136

170

199 199

130 123 153

145 147 147 174 138 137 174 147

146 159 144 176

123 136 130 139

163 124 123 156

196

23 1 230

153 130 182

160 150 170 218 150 160 210 171

175 195 166 194

150 155 148 160

187 145 143 180

225

344 230

185 194 202

nla 173 196 425 173 200 250 265

228 nla 200 233

203 186 200 210

190 180 184 180

315

426 245

245 23 8 220

240 240 255 329 285 250 34 1 300

305 362 295 300

245 372 300 275

310 240 275 230

400

59 1 28 1

315 322 245

310 295 332 394 304 385 464 330

380 362 378 500

350 438 375 325

341 320 330 499

530

632 320 475 340 360 282

350 330 404 438 390 435 505 425

400 425 425 540

410 495 415 390 410

34 1 375 350 370 322 600

.. : Data are not available.

Source: Ministry of Manpower (from various decrees).

Table 8. Gross Domestic Product bv Industrial Origin at Current Market Prices, 1997-2003 (Rp. Billion)

1997 1998 1999 2000 2001* 2002** 2003** Q1 Q2 Q3

1. Agriculture, Forestry & Fishery 101.009 172,828 215,687 217,898 246,298 281,325 76,693 74,437 77,305 a. Farm Food Crops b. Non-Food Crops c. Livestock & I t s Products d. Foresuy e. Fishery

2. Mining and Quarrying a. Oil and Gas Mining b. Non-Oil-Gas Mining c. Quarrying

a. Oil and Gas Industry 3. Manufacturing

(1) Oil and Gas Refinery (2) Liquefied Natural Gas (LNG)

b. Non Oil and Gas Industry (1) Food, Beverages & Tabacco (2) Textile, Leather Products & Footwear (3) Wood Products &Other Wood Products (4) Paper & Printing (5) Fertilizers, Chemicals & Rubber Products (6) Cement & Non Metallic Mineral Products (7) Iron & Basic Steels (8) Transport Equipment, Machinery & Apparatus (9) Other Manufacturing Products

4. Electricity, gas, and water a. Electricity b. Gas c. Water Supply

5. Construction

6. Trade, hotel, and restaurant a. Wholesale &Retail Trade b. Hotel c. Restaurant

7. Transportation & Communication a. Transport

(1) Rail Road Transport (2) Road Transport (3) Sea Transport (4) River, Lake Transport and Ferry (5) Air Transport (6) Transport Services

b. Communication

8. Financial, Rentals and Business Services a. Bank b. Non Bank Financial Institutions c. Financial Supporting Services d. Building Rent e. Business Services

9. Services a. General Government (I) Government Adminisnation and Defense (2) Other Government Services

(1) Social Community Services (2) Recreational and Entertainment Services (3) Personal and Household Services

b. Private

GDP

52,189 16,447 11,688 9,807

10,878

55,562 34,037 11,192 10,333

168,178 15,622 8,116 7,506

152,556 69,560 16,866 8,744 6,000

17,544 5,082 5,773

22,038 949

7,832 6,453

291 1,089

46,679

99,582 77,543 3,887

18,151

38,531 31,498

308 18,240 3,030 1,974 2,543 5,402 7,033

54,360 20,297 4,534

374 17,715 11,440

55,962 32,128 23,004 9,124

23,834 4,164 1,373

18,297

627,695

91,346 116,222 33,290 35,967 15,744 23,761 11,700 13,804 20,748 25,933

120,329 109,925 74,884 72,425 35,460 27,696 9,985 9,804

238,897 285,874 33,172 35,128 15,092 16,321 18,080 18,807

205,725 250,746 117,821 152,907 16,951 17,410 10,543 9,394 8,539 9,265

24,129 32,247 5,306 5,896 6,614 8,092

15,133 14,859 690 677

11,283 13,429 9,325 11,201

312 353 1,645 1,874

61,762 67,616

146,740 175,835 116,689 140,589

5,366 5,923 24,686 29,324

51,937 55,190 41,837 42,736

504 622 22,461 20,595 4,284 5,321 2,597 2,752 3,664 3,673 8,326 9,773

10,100 12,454

69,892 71,220 25,823 24,426 5,405 6,139

482 524 23,140 24,397 15,041 15,735

82,087 104,955 40,641 56,745 28,449 38,493 12,192 18,252 41,446 48,210 5,951 7,161 2,084 2,167

33,412 38,883

112,661 33,745 27,035 14,948 29,510

175,263 129,221 34,496 11,546

314,918 54,280 22,603 31,677

260,639 143,063 21,044 10,035 1,085

38,509 1,554 9,820

22,846 681

16,519 13,797

462 2,260

76,573

199,110 159,385

6,762 32,964

62,306 41,911

709 21,637 6,913 3,396 4,288

10,968 14,394

80,460 28,555 7,143

619 26,939 17,204

121,871 69,460 44,499 24,961 52,411

8,253 2,416

41,743

955,753 1,099,732 1,264,919

126,065 141,137 37,491 41,919 30,438 34,809 15,649 16,849 36,655 46,610

191,762 191,827 131,878 131,657 45,692 43,480 14,193 16,690

362,031 402,601 56,137 56,679 26,478 32,389 29,659 24,289

305,894 345,923 162,907 182,286 24,197 26,565 10,618 11,196 7,298 8,182

48,573 59,675 10,400 13,448 10,509 10,807 30,476 32,667

915 1,095

21,184 29,101 17,773 25,034

621 827 2,790 3,240

85,263 92,366

234,263 258,869 187,996 205,792

7,687 8,634 38,580 44,44?

75,796 97,343 59,463 72,234

777 959 29,015 36,175 8,094 10,625 3,963 4,844 5,370 5,923

12,244 13,708 16,333 25,109

91,438 105,622 33,061 39,833

8,437 9,319 734 797

29,585 33,174 19,622 22,492

141,362 150,957 81,851 83,293 51,818 52,509 30,033 30,785 5931 1 67,664 9,975 11,761 2,682 2,960

46,855 52,943

1,449,398 1,610,012

45,381 7,441 9,072 4,413

10,387

43,515 28,015 10,929 4,572

104,860 12,773 7,138 5,635

92,087 46,916

6,760 2,886 2,304

17,490 3,717 2,817 8,891

306

8,307 7,145

248 914

25,194

68,901 54,750

2,256 11,894

27,118 20,068

266 10,228 3,123 1,336 1,652 3,462 7,050

28,174 10,746 2,473

202 8,715 6,038

40,141 22,041 13,763 8,278

18,101 3,199

735 14,166

422,904

37,935 11,830 9,028 4,824

10,820

39,980 23,723 11,589 4,668

104,493 11,412 6,975 4,437

93,081 47,181 6,790 3,060 2,310

18,540 3,743 2,598 8,557

302

8,867 7,668

251 948

26,069

71,031 56,488

2,282 12,261

28,368 20,998

298 10,932 3,199 1,346 1,624 3,600 7,370

28,172 10,635 2,482

205 8,764 6,086

42,525 23,908 14,944 8,965

18,617 3,278

145 14,594

423,942

37,402 14,202 8,946 5,260

11,496

43,832 25,517 13,452 4,863

106,923 11,711 7,156 4,555

95,212 48,136

6,881 3,222 2,371

19,142 3,608 2,729 8,814

308

9,489 8,202

280 1,008

26,579

75,981 61,259

2,287 12,435

29,415 21,564

301 10,768 3,287 1,408 1,922 3,878 7,851

28,840 11,052 2,496

213 8,860 6,219

46,391 26,973 16,859 10,114 19,419 3,662

777 14,979

444,757 GDP non-oil 578,037 847,697 992,179 1,081,418 1,261,383 1,421,676 382,116 388,807 407,528

* : Preliminary figures, ** : Very preliminary figures.

Source: Central Bureau of Statistics.

Table 9. Gross Domestic Product bv Industrial Origin at Current Market Prices, share of GDP. 1997-2003 (Percent of total)

1997 1998 1999 2000 2001' 2002** 2003** Q1 Q2 4 3

1. Agriculture. Forestrv & Fisherv 16.1 18.1 19.6 17.2 17.0 17.5 18.1 17.6 17.4 a. Farm Food Crops b. Non-Food Crops c. Livestock & I t s Products d. Forestry e. Fishery

2. Mining and Quarrying a. Oil and Gas Mining b. Non-Oil-Gas Mining c. Quarrying

a. Oil and Gas Industry 3. Manufacturing

(1) Oil and Gas Refinery (2) Liquefied Natural Gas (LNG)

b. Non Oil and Gas Industry (1) Food, Beverages & Tabacco (2) Textile, Leather Products & Footwear (3) Wood Products & Other Wood Products (4) Paper & Printing (5) Fertilizers, Chemicals & Rubber Products (6) Cement & Non Metallic Mineral Products (7) Iron & Basic Steels (8) Transport Equipment, Machinery & Apparatus (9) Other Manufacturing Products

4. Electricity, gas, and water a. Electricity b. Gas c. Water Supply

5. Construction

6. Trade, hotel, and restaurant a. Wholesale &Retail Trade b. Hotel c. Restaurant

7. Transportation & Communication a. Transport

(1) Rail Road Transport (2) Road Transport (3) Sea Transport (4) River, Lake Transport and Ferry (5) Air Transport (6) Transport Services

b. Communication

8. Financial, Rentals and Business Services a. Bank b. Non Bank Financial Institutions c. Financial Supporting Services d. Building Rent e. Business Services

9. Services a. General Government

(1) Government Administration and Defense (2) Other Government Services

(1) Social Community Services (2) Recreational and Entertainment Services (3) Personal and Household Services

b. Private

GDP

8.3 2.6 1.9 1.6 1.7

8.9 5.4 1.8 1.6

26.8 2.5 1.3 1.2

24.3 11.1 2.7 1.4 1.0 2.8 0.8 0.9 3.5 0.2

1.2 1 .o 0.0 0.2

7.4

15.9 12.4 0.6 2.9

6.1 5.0 0.0 2.9 0.5 0.3 0.4 0.9 1.1

8.7 3.2 0.7 0.1 2.8 1.8

8.9 5.1 3.7 1.5 3.8 0.7 0.2 2.9

100.0

9.6 3.5 1.6 1.2 2.2

12.6 7.8 3.7 1 .o

25.0 3.5 1.6 1.9

21.5 12.3

1.8 1.1 0.9 2.5 0.6 0.7 1.6 0.1

1.2 1 .o 0.0 0.2

6.5

15.4 12.2 0.6 2.6

5.4 4.4 0.1 2.4 0.4 0.3 0.4 0.9 1.1

7.3 2.7 0.6 0.1 2.4 1.6

8.6 4.3 3.0 1.3 4.3 0.6 0.2 3.5

100.0

10.6 3.3 2.2 1.3 2.4

10.0 6.6 2.5 0.9

26.0 3.2 1.5 1.7

22.8 13.9 1.6 0.9 0.8 2.9 0.5 0.7 1.4 0.1

1.2 1 .o 0.0 0.2

6.1

16.0 12.8 0.5 2.7

5.0 3.9 0.1 1.9 0.5 0.3 0.3 0.9 1.1

6.5 2.2 0.6 0.0 2.2 1.4

9.5 5.2 3.5 1.7 4.4 0.7 0.2 3.5

100.0

8.9 2.7 2.1 1.2 2.3

13.9 10.2 2.7 0.9

24.9 4.3 1.8 2.5

20.6 11.3 1.7 0.8 0.6 3.0 0.6 0.8 1.8 0.1

1.3 1.1 0.0 0.2

6.1

15.7 12.6 0.5 2.6

4.9 3.8 0.1 1.7 0.5 0.3 0.3 0.9 1.1

6.4 2.3 0.6 0.0 2.1 1.4

9.6 5.5 3.5 2.0 4.1 0.7 0.2 3.3

100.0

8.7 2.6 2.1 1.1 2.5

13.2 9.1 3.2 1.0

25.0 3.9 1.8 2.0

21.1 11.2 1.7 0.7 0.5 3.4 0.7 0.7 2.1 0.1

1.5 1.2 0.0 0.2

5.9

16.2 13.0 0.5 2.7

5.2 4.1 0.1 2.0 0.6 0.3 0.4 0.8 1.1

6.3 2.3 0.6 0.1 2.0 1.4

9.8 5.6 3.6 2.1 4.1 0.7 0.2 3.2

100.0

8.8 2.6 2.2 1 .o 2.9

11.9 8.2 2.7 1 .o

25.0 3.5 2.0 1.5

21.5 11.3

1.6 0.7 0.5 3.7 0.8 0.7 2.0 0.1

1.8 1.6 0.1 0.2

5.7

16.1 12.8 0.5 2.8

6.0 4.5 0.1 2.2 0.7 0.3 0.4 0.9 1.6

6.6 2.5 0.6 0.0 2.1 1.4

9.4 5.2 3.3 1.9 4.2 0.7 0.2 3.3

100.0

10.7 1.8 2.1 1.0 2.5

10.3 6.6 2.6 1.1

24.8 3.0 1.7 1.3

21.8 11.1

1.6 0.7 0.5 4.1 0.9 0.7 2.1 0.1

2.0 1.7 0.1 0.2

6.0

16.3 12.9 0.5 2.8

6.4 4.7 0.1 2.4 0.7 0.3 0.4 0.8 1.7

6.7 2.5 0.6 0.0 2.1 1.4

9.5 5.2 3.3 2.0 4.3 0.8 0.2 3.3

100.0

8.9 2.8 2.1 1.1 2.6

9.4 5.6 2.7 1.1

24.6 2.7 1.6 1 .o

22.0 11.1

1.6 0.7 0.5 4.4 0.9 0.6 2.0 0.1

2.1 1.8 0.1 0.2

6.1

16.8 13.3 0.5 2.9

6.7 5.0 0.1 2.6 0.8 0.3 0.4 0.8 1.7

6.6 2.5 0.6 0.0 2.1 1.4

10.0 5.6 3.5 2.1 4.4 0.8 0.2 3.4

100.0

8.4 3.2 2.0 1.2 2.6

9.9 5.7 3.0 1.1

24.0 2.6 1.6 1 .o

21.4 10.8 1.5 0.7 0.5 4.3 0.8 0.6 2.0 0.1

2.1 1.8 0.1 0.2

6.0

17.1 13.8 0.5 2.8

6.6 4.8 0.1 2.4 0.7 0.3 0.4 0.9 1.8

6.5 2.5 0.6 0.0 2.0 1.4

10.4 6.1 3.8 2.3 4.4 0.8 0.2 3.4

100.0 GDP non-oil 92.1 88.7 90.2 85.5 87.0 88.3 90.4 91.7 91.6

* : Preliminary figures, ** : Very preliminary figures.

Source: Central Bureau of Statistics.

Table 10. Gross Domestic Product by Industrial Origin at Constant 1993 Prices, 1997-2003 (Rp. Billion)

1997 1998 1999 2000 2001* 2002** 2003** 41 4 2 4 3

1. Agriculture, Forestry & Fishery 64,468 63,609 64,985 66,088 66,858 68,018 17,539 18,047 18,860 a. Farm Food Crops b. Non-Food Crops c. Livestock & I t s Products d. Forestry e. Fishery

2. Mining and Quarrying a. Oil and Gas Mining b. Non-Oil-Gas Mining c. Quanying

a. Oi l and Gas Industry 3. Manufacturing

(1) Oi l and Gas Refinery (2) Liquefied Natural Gas (LNG)

b. Non Oi l and Gas Industry (1) Food, Beverages & Tabacco (2) Textile, Leather Products & Footwear (3) Wood Products & Other Wood Products (4) Paper & Printing (5) Fertilizers, Chemicals & Rubber Products (6) Cement & Non Metallic Mineral Products (7) Iron & Basic Steels (8) Transport Equipment, Machinery & Apparatus (9) Other Manufacturing Products

4. Electricity, gas, and water a. Electricity b. Gas c. Water Supply

5. Construction

6. Trade, hotel, and restaurant a. Wholesale & Retail Trade b. Hotel c. Restaurant

7. Transportation & Communication a. Transport

(1) Rail Road Transport (2) Road Transport (3) Sea Transport (4) River, Lake Transport and Ferry (5) Air Transport (6) Transport Services

b. Communication

8. Financial, Rentals and Business Services a. Bank b. Non Bank Financial Institutions c. Financial Supporting Services d. Building Rent e. Business Services

9. Services a. General Government

(1) Government Administration and Defense (2) Other Government Services

(1) Social Community Services (2) Recreational and Entertainment Services (3) Personal and Household Services

b. Private

GDP

32,688 10,497 7,483 7,190 6,610

38,538 23,920 7,646 6,973

107,630 10,650 5,926 4,725

96,979 48,949

8,411 5,710 3,955

11,908 3,273 3,148

11,073 552

5,480 4,463

270 747

35,346

73,524 58,842 2,729

11,952

31,782 25,609

304 14,730 2,624 1,665 1,919 4,366 6,173

38,543 16,195 3,499

262 11,826 6,761

37,935 23,617 17,833 5,784

14,318 2,767

788 10,764

433,246

33,350 10,502 6,440 6,581 6,737

37,474 23,340

9,678 4,456

95,321 11,042 6,310 4,732

84,278 48,837

7,161 4,254 3,795

10,002 2,299 2,301 5,277

353

5,646 4,608

225 813

22,465

60,131 47,846

2,486 9,799

26,975 20,504

327 10,988 2,541 1,521 1,209 3,918 6,471

28,279 10,058 2,897

218 9,476 5,630

36,475 21,888 16,320 5,567

14,588 2,512

693 11,383

376,375

34,012 10,702 6,837 6,288 7,146

36,866 22,137 10,358 4,371

99,058 11,797 6,607 5,191

87,261 51,106 7,770 3,678 3,882

11,029 2,419 2,296 4,735

347

6,113 5,013

227 873

22,036

60,094 47,575

2,593 9,926

26,772 19,738

364 10,001 2,776 1,510 1,063 4,023 7,035

26,245 8,686 2,949

226 8,906 5,477

37,184 22,251 16,465 5,785

14,933 2,638

647 11,648

379,352

34,312 10,871 7,052 6,364 7,489

38,730 22,658 11,459 4,613

105,102 11,600 6,843 4,757

93,503 52,338

8,611 3,925 4,110

12,181 2,573 2,597 6,766

402

6,649 5,459

27 1 920

23,247

63,449 50,284

2,669 10,495

29,284 21,431

389 10,922 3,033 1,613 1,160 4,313 7,854

27,383 9,151 3,043

236 9,188 5,765

38,001 22,555 16,682 5,873

15,446 2,751

684 12,012

397,934

34,260 10,979 7,313 6,523 7,783

38,895 21,537 12,503 4,855

109,290 11,197 6,958 4,238

98,094 54,260 8,801 3,856 3,708

13,362 2,882 2,566 8,184

474

7,078 5,818

297 963

24,259

66,888 53,055

2,760 11,073

31,207 22,320

360 11,058 3,342 1,669 1,339 4,552 8,887

28,389 9,656 3,173

243 9,418 5,900

38,827 22,795 16,819 5,976

16,032 2,880

707 12,444

411,691

34,442 11,328 7,537 6,651 8,060

39,768 21,574 13,082 5,111

113,672 11,434 6,917 4,517

102,238 55,723

9,354 3,845 3,921

14,544 3,205 2,652 8,445

548

7,515 6,164

343 1,008

25,255

69,303 54,827

2,796 11,679

33,650 23,364

337 11,632

) 3,529 1,725 1,457 4,684

10,285

29,963 10,297 3,284

25 1 9,947 6,184

39,597 22,887 16,882 6,005

16,710 3,031

742 12,936

426,741

10,222 1,833 1,920 1,598 1,966

9,857 5,147 3,399 1,311

28,545 2,616 1,476 1,141

25,928 13,747 2,355

968 1,067 3,974

829 65 1

2,187 151

1,893 1,532

97 264

6,447

17,644 13,983

694 2,967

8,747 5,997

76 3,032

871 440 404

1,175 2,750

7,781 2,717

835 61

2,567 1,601

10,009 5,736 4,224 1,512 4,273

781 182

3,311

108,461

9,240 3,162 1,899 1,686 2,060

10,160 5,162 3,667 1,331

28,801 2,521 1,464 1,058

26,280 13,953 2,375 1,008 1,069 4,119

829 622

2,156 149

1,948 1,587

95 266

6,569

17,874 14,157

707 3,010

8,945 6,070

80 3,063

892 443 397

1,196 2,875

7,816 2,730

839 62

2,574 1,612

10,098 5,758 4,239 1,519 4,340

792 183

3,365

110,259

9,157 3,858 1,902 1,771 2,173

10,551 5,453 3,723 1,375

29,569 2,637 1,491 1,146

26,932 14,307 2,410 1,049 1,088 4,228

830 644

2,226 151

2,022 1,646

102 273

6,767

18,320 14,586

709 3,026

9,348 6,286

85 3,096

920 448 47 1

1,267 3,062

7,878 2,753

844 64

2,591 1,627

10,177 5,787 4,263 1,524 4,389

803 190

3,397

113,492 GDP non-oil 398,676 341,993 345,418 363,676 378,957 393,732 100,698 102,575 105,402

Table 11. Gross Domestic Product bv Industrial Origin at Constant 1993 Prices, Growth Rates, 1997-2003 (Year-on-Year Growth Rate, Percent)

1997 1998 1999 2000 2001* 2002** 2003** Q1 4 2 43

1. Agriculture, Forestrv & Fisherv 1.0 -1.3 1.9 1.0 1.7 4.9 2.1 0.8 -.e

a. Farm Food Crops b. Non-Food Crops c. Livestock & Its Products d. Forestry e. Fishery

2. Mining and Quarrying a. Oi l and Gas Mining b. Non-Oil-Gas Mining c. Quarrying

a. Oil and Gas Industry 3. Manufacturing

(1) Oil and Gas Refinery (2) Liquefied Natural Gas (LNG)

b. Non Oi l and Gas Industry (1) Food, Beverages & Tabacco (2) Textile, Leather Products & Footwear (3) Wood Products & Other Wood Products (4) Paper &Printing (5) Fertilizers, Chemicals & Rubber Products (6) Cement & Non Metallic Mineral Products (7) Iron &Basic Steels (8) Transport Equipment, Machinery & Apparatus (9) Other Manufacturing Products

4. Electricity, gas, and water a. Electricity b. Gas c. Water Supply

5. Construction

6. Trade, hotel, and restaurant a. Wholesale &Retail Trade b. Hotel c. Restaurant

7. Transportation & Communication a. Transport

(1) Rail Road Transport (2) Road Transport (3) Sea Transport (4) River, Lake Transport and Ferry (5) Air Transport (6) Transport Services

b. Communication

8. Financial, Rentals and Business Services a. Bank b. Non Bank Financial Institutions c. Financial Supporting Services d. Building Rent e. Business Services

9. Services a. General Government

(1) Government Administration and Defense (2) Other Government Services

(1) Social Community Services (2) Recreational and Entertainment Services (3) Personal and Household Services

b. Private

GDP

-2.8 1.4 4.9

11.6 5.8

2.1 -0.6 5.2 8.8

5.3 -2.0 -5.8 3.3 6.1

12.3 -3.8 -2.9 8.4 3.5 3.5

-0.5 -1.1 6.8

12.4 12.1 22.5 10.9

7.4

5.8 6.0 3.0 5.7

7.0 4.8 5.5 7.1

-2.6 1.3 1.3 4.7

17.4

5.9 5.1 8.5 6.1 5.0 8.5

3.6 1.2 0.9 2.1 7.9 8.0

-1.3 8.6

4.7

2.0 0.0

-13.9 -8.5 1.9

-2.8 -2.4 26.6

-36.1

-11.4 3.7 6.5 0.2

-13.1 -0.2

-14.9 -25.5 -4.0

-16.0 -29.8 -26.9 -52.3 -36.0

3.0 3.2

-16.5 8.9

-36.4

-18.2 -18.7

-8.9 -18.0

.15.1 -19.9

7.6 -25.4 -3.2 -8.6

-37.0 -10.3

4.8

-26.6 -37.9 -17.2 -16.6 -19.9 -16.7

-3.8 -7.3 -8.5 -3.7 1.9

-9.2 -12.1

5.7

-13.1

1.L

2.0 1.9 6.2

-4.4 6.1

-1.6 -5.2 7.0

-1.9

3.9 6.8 4.7 9.7 3.5 4.6 8.5

-13.5 2.3

10.3 5.2

-0.2 -10.3

-1.5

8.3 8.8 0.6 7.4

-1.9

-0.1 -0.6 4.3 1.3

-0.8 -3.7 11.2 -9.0 9.2

-0.7 -12.1

2.7 8.7

-7.2 -13.6

1.8 3.7

-6.0 -2.7

1.9 1.7 0.9 3.9 2.4 5.0

-6.6 2.3

0.8

1.5 0.2 3.3 1.6 5.0

5.5 2.4

12.2 5.7

6.0 -1.7 3.6

-8.4 7.0 3.6 8.0 6.9 2.6 7.1 5.5

13.1 43.5 12.8

7.6 7.6

18.3 4.4

5.6

5.7 5.8 2.9 5.7

8.6 7.3 2.1 4.8

13.9 5.7

14.0 8.1

12.2

4.6 5.5 3.9 3.9 3.5 5.3

2.3 1.4 1.3 1.5 3.8 4.6 5.8 3.5

4.9

-0.8 2.4 3.6 2.1 3.7

0.0 -4.9 7.6 5.1

4.1 -3.5 1.7

-10.9 5.0 2.5 4.9

-1.9 -6.9 13.1 13.0 -1.2 20.4 21.0

7.7 7.8

11.0 5.5

4.2

5.3 5.4 3.4 5.5

7.3 5.4

-2.9 5.5 5.7 4.5

10.5 4.7

12.6

3.4 5.3 3.5 3.2 2.2 2.3

2.0 1.1 0.8 1.7 3.5 4.4 3.3 3.2

3.4

0.5 3.2 3.1 2.0 3.6

2.2 0.2 4.6 5.3

4.0 2.1

-0.6 6.6 4.2 2.7 6.3

-0.3 5.8 8.8

11.2 3.4 3.2

15.6

6.2 5.9

15.3 4.7

4.1

3.6 3.3 1.3 5.5

7.8 4.7

-6.5 5.2 5.6 3.4 8.8 2.9

15.7

5.5 6.6 3.5 3.5 5.6 4.8

2.0 0.4 0.4 0.5 4.2 5.2 5.0 4.0

3.7

5.3 6.5 2.0 2.0 6.9

-1.3 -8.3 8.5 5.9

2.1 -8.5

-11.8 -4.0 3.3

-1.4 5.4 4.0

13.6 14.8 11.3 -0.5 6.2

18.1

5.7 4.5

21.9 7.6

5.3

3.9 4.1 0.1 4.0

6.4 4.3

-8.7 5.8

-0.1 3.4

13.5 2.1

11.5

6.1 7.9 2.6

-2.5 5.2 6.8

2.0 0.3 0.1 0.7 4.3 6.0

-0.2 4.2

3.4

0.1 9.1 1.2

-1.3 5.1

5.1 -3.8 20.7

5.9

2.5 -8.4

-14.3 1.3 3.7 0.3 2.5 4.8

10.6 16.7 7.9

-5.8 3.2

11.3

5.9 5.5 9.8 7.1

5.8

4.0 4.1 2.2 4.0

7.7 4.5

-4.9 6.3 0.6 3.3

10.1 2.5

15.0

5.1 6.5 2.3

-1.5 4.7 5.3

2.3 0.9 0.5 2.3 4.1 5.7

-1.7 4.1

3.7

2.6 -5.3 0.9 2.3 3.5

7.4 4.1

13.1 6.5

2.4 -8.5

-16.6 4.8 3.6 1.4 2.1 7.0 8.3

13.2 1.5

-4.7 2.5 6.4

6.1 6.3

13.9 6.5

6.2

3.8 4.4

-1.1 2.1

11.0 8.1 1.3 6.5 6.8 3.9

29.5 8.1

17.5

4.9 6.8 2.7 0.6 4.0 4.4

2.5 1.1 1 .o 1.2 4.5 4.8 0.1 4.6

3.9 GDP non-oil 5.2 -14.2 1.0 5.3 4.2 3.9 4.4 4.5 4.3

* : Preliminary figures, ** : Very preliminary figures.

Source: Central Bureau of Statistics.

Table 12. Gross Domestic Product by Expenditure Category at Current Market Prices, 1997-2003 (Rp. Billion)

1997 1998 1999 2000 2001* 2002** 2003**

1. Private consumption 387,171 647,824 813,183 850,819 975,731 1,137,763 304,756 310,954 319,992

2. Govemment consumption 42,952 54,416 72,631 90,780 113,416 132,219 33,005 37,699 42,811

3. Gross fixed investment 177,686 243,043 240,322 275,881 316,179 325,334 85,437 86,862 88,778

4. Changes in stock 21,615 -82,716 -105,063 -72,236 -63,282 -95,614 -22,242 -44,553 -40,276

5. Exports of goods and nonfactor services 174,871 506,245 390,560 542,992 612,482 569,942 136,882 135,199 136,353

6. Less: Imports of goods and nonfactor services 176,600 413,058 301,654 423,318 505,128 459,631 114,934 102,220 102,902

Gross Domestic Product 627.695 955,754 1.109.980 1,264.919 1,449,398 1.610,012 422.904 423.942 444,757

Table 13. Gross Domestic Product bv Expenditure Category at Current Prices, share of GDP, 1997-2003 (Percent of total)

1997 1998 1999 2000 2001* 2002** 2003** Q1 4 2 43

1. Private consumption 61.7 67.8 73.3 67.3 67.3 70.7 72.1 73.3 71.9

2. Govemment consumption 6.8 5.7 6.5 7.2 7.8 8.2 7.8 8.9 9.6

3. Gross fixed investment 28.3 25.4 21.7 21.8 21.8 20.2 20.2 20.5 20.0

4. Changes in stock 3.4 -8.7 -9.5 -5.7 -4.4 -5.9 -5.3 -10.5 -9.1

5. Exports of goods and nonfactor services 27.9 53.0 35.2 42.9 42.3 35.4 32.4 31.9 30.7

6. Less: Imports of goods and nonfactor services 28.1 43.2 27.2 33.5 34.9 28.5 27.2 24.1 23.1

Gross Domestic Product 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0

* : Preliminary figures, ** : Very preliminary figures.

Source: Central Bureau of Statistics.

Table 14. Gross Domestic Product bv ExDenditure Cateeorv at Constant 1993 Prices. 1997-2003 (Rp. Billion)

1997 1998 1999 2000 2001* 2002** 2003** Q1 4 2 Q3

1. Private consumption 277,116 260,023 272,070 276,377 288,510 302,139 76,885 78,008 79,186

2. Government consumption 31,701 26,828 27,014 28,768 31,352 35,362 8,462 9,256 9,839

3. Gross fixed investment 139,726 93,605 75,468 89,389 96,244 96,058 24,090 23,761 24,343

4. Changes in stock 3,342 -6,387 -8,572 -13,794 -15,908 -25,741 -5,444 -7,072 -6,132

5. Exports of goods and nonfactor services 121,158 134,707 92,124 116,194 118,377 116,907 29,041 29,465 30,257

6. Less: Imports o f goods and nonfactor services 139,796 132,401 78,546 98,917 106,884 97,985 24,573 23,159 24,000

Gross Domestic Product 433,246 376,375 379,558 398.017 411.691 426.741 108.461 110.259 113.492

Table 15. Gross Domestic Product bv ExDenditure Cateeorv at Constant 1993 Prices. Growth Rates, 1997-2003 (Year-on-Year Growth Rate, Percent)

2003** 1997 1998 1999 2000 2001* 2002**

1. Private consumption 7.8 -6.2 4.6 1.6 4.4 4.7 2.6 3.9 4.1

2. Government consumption 0.1 -15.4 0.7 6.5 9.0 12.8 6.3 10.7 9.6

3. Gross fixed investment 8.6 -33.0 -19.4 18.4 7.7 -0.2 5.5 1.6 0.0

4. Exports of goods and nonfactor services 7.8 11.2 -31.6 26.1 1.9 -1.2 0.7 0.2 0.7

5. Less: Imports o f goods and nonfactor services 14.7 -5.3 -40.7 25.9 8.1 -8.3 9.4 -2.2 -5.7

Gross Domestic Product - 4.7 -13.1 - 0.8 - 4.9 - 3.4 3.7 - 3.4 - 3.7 3.9

* : Preliminary figures, ** : Very preliminary figures.

Source: Central Bureau of Statistics.

I

3 3

3

3 3 3

4 2

. 5\ 3

N w " $ 1 2 6 0 \ o m

I l m o w 9

2 & -

Table 17. Balance of Payments, 1996-2002 (US$ Million)

Items 1996 1997 1998 1999 2000 2001 2002

1 Non oil/gas, merchandise. (net) a. Export, fob b. Import,fob

a. Export, fob b. Import,fob

a. Export, fob b. Import,fob

4 Current account a. Exports, fob b. Imports, fob c. Services, net

5 Official Capital a. Inflows IGGI

2 Oil, merchandise. (net)

3 Gas, merchandise. (net)

Program aid Project aid

O D A Non-ODA

Commercial loan b. Amortization c. Exceptional financing

- LMFPurchases - IMF Repurchases - Rescheduling

6 Private Capital a. Foreign direct investment /a b. Others

7 Capital account (5+6) 8 T O T A L ( 4 + 7 ) 9 Errors & omissions, net -(8+10) 10 Monetary movements /b

-1,849 38,021

3,122 7,222

-4,100 5,896 4,945 -270

-7,801

-39,870

50,188 -44,240 -13,749

-522 5,693 5,093

0 4,928 3,274 1,654

600 -6,215

0 0 0 0

11,511 6,194 5,317

10,989 3,188 1,263

-4.45 1

3,129 44,576

2,266 6,77 1

4,679 4,950

-4 1,447

-4,505

-27 1 -5,001 56,297

-46,223 -15,075

2,880 7,594 7,594 3,036 4,466 2,601 1,865

0 -4,714 3,036

0 0

3,036 -338

4,677

2,542 -5,015

-2,459 -1,986 4,445

13,864 42,95 1

1,518 4,141

3,047 3,279

4,097 50,371

-14,332 9,971 7,414 5,897 1,821 3,916 1,718 2,198 1,517

6,322 5,761

0 561

-13,846 -356

-13,490 -3,875

222 2,122

-7,254

-29,087

-2,623

-232

-31,942

-3,765

14,355 40,987

1,975 5,680

4,314 4,576

5,783 5 1,243

-26,632

-3,705

-262

-30,599 -14,861

5,353 6,560 6,560 3,870 2,417 1,686

73 1 0

-4,070 2,863 1,373

0 1,490

-9,923 -2,745 -7,178 -4,570 1,213 2,079

-3,292

15,963 50,341

-34,378 2,197 7,954

-5,757 6,881 7,113

7,998 65,408

-232

-40,367 - 17,043

3,217 3,862 3,862 1,360 2,426 2,193

233 0

-4,272 3,627 1,124

0 2,503

-9,992 -4,549 -5,443 -6,775 1,223 3,820

-5,043

15,844 44,805

1,533 6,921

5,318 5,638

6,900 57,364

-28,961

-5,388

-320

-34,669 -15,795

636 2,482 2,482

507 1,975 1,532

443 0

-4,704 2,858

397 -1,772 2,858

-8,253 -5,877 -2,376 -7,617

-717 2,095 1,378

17,317 46,307

205 6,549

-6,344 5,993 6,312 -319

7,825 59,168

-28,990

-35,653 -15,690

- 1,240 1,595 1,546

773 1,527 1,254

272 49

-5,467 2,632 1,415

3,637

145

-2,420

-191

-1,057 -1,431 6,394

-2,373 -4,02 1

/a Since 2002 foreign direct investment includes a part o f privatization and banking restructuring. /b Since 1998 Monetary Movement i s based on Gross Foreign Assets (GFA) replacing Official Reserves.

Since 2000, based on change reserve assets replacing GFA. Negative represents surplus and positive represents deficit.

Source: Bank Indonesia.

Table 18. Selected Non-oil Exports, 1996-2003 (US$ Million)

1996 1997 1998 1999 2000 2001 2002 2003

1 Plywood 2 Rubber 3 Garments 4 SawnTimber 5 Textiles 6 Coffee 7 Lobster, Shrimps and Prawn 8 Handicraft 9 Iron Steel

10 Palm Oil and Kernel 11 Aluminum 12 Copper 13 Tin 14 Pulp and Paper 15 Pepper 16 Foodstuffs 17 Tea 18 Fertilizer 19 Glass and Glasswear 20 Electrical Appliances 21 Tuna 22 Cement 23 Tobacco 24 CopraCakes 25 Nickel

Others

Total Non-oil Exports /a

3,543 1,893 3,182

136 2,680

598 993 525 608

1,017 320

1,397 310

1,369 99

746 106 255 21 1

3,592 64 18 82

106 374

12,791

37,014

3,477 1,505 4,181

112 3,390

583 1,046 1,027

660 1,662

280 1,548

277 1,953

165 881 150 341 272

3,261 52 37

124 86

233

15,825

43,133

2,327 1,010 3,817

78 3,461

607 1,087 2,089

990 816 200

1,749 260

2,469 196 923 169 160 269

2,813 68 1 87

139 50

165

15,246

41,859

2,254 855

3,771 80

3,086 474 968 612 172

1,170 135

1,077 242

2,646 189 904 102 171 279

3,401 639 143 108 46

219

15,160

39,510

1,995 881

4,581 15

3,540 334

1,068 617 805

1,195 248

1,725 234

3,042 232 718 115 192 349

6,369 604 140 80 51

360

18,805

48,354

1,655 814

4,134 88

3,040 186 975 585 744

1,222 188

1,881 237

2,555 107 163 97

114 292

5,846 594 162 95 44

299

16,517

43,231

1,507 1,000 3,742

115 3,009

211 855 534 750

2,038 226

1,177 274

2,369 78

818 108 112 3 02

6,391 658 104 73 64 52

11,746

44,921

808 831

2,443 66

1,169 144 555 324 435

1,518 111

1,200 170

1,592 42

505 57

101 179

3,331 363 51 44 34

105

15,240

32,021

/a Exclude exports from Batam.

Source: Bank Indonesia.

Table 19. Value of Exports by Principal Country of Destination, 1996-2003 (US$ Million)

1996 1997 1998 1999 2000 2001 2002 2003 Jan-J~l

ASEAN olw Malaysia

Thailand Philippines Singapore Brunei Vietnam Cambodia Laos Myanmar

China Hong Kong Japan

Africa

USA Canada

Australia and Oceania

Europe European Union o/w United Kingdom

Netherlands Germany Belgium & Luxemburg France Denmark Ireland Italy Greece Portugal Spain

Total

7,397 1,110

823 688

4,565 27

337 80

1 78

2,057 1,625

12,885

619

6,795 369

589

7,482 6,795 1,193 1,667 1,415

780 589 141 38

744 86 46

813

49,815

8,019 1,357

848 794

5,468 39

390 70 1

150

2,229 1,785

12,485

777

7,148 400

783

9,112 8,408 1,238 1,842 1,502

796 499 146 55

826 89 42

888

53,444

7,596 1,358

943 707

5,718 35

35 1 65

2 167

1,832 1,865 9,116

904

7,03 1 412

910

8,273 7,474 1,143 1,512 1,458

876 547 143 48

859 108 37

869

48,848

7,402 1,336

813 695

4,901 27

332 69

2 74

2,009 1,330

10,397

995

6,897 353

1,020

7,369 6,744 1,176 1,543 1,217

697 503 142 42

656 78 40

742

48,665

9,625 1,972 1,026

843 6,523

25 361

52 1

65

2,768 1,555

14,415

1,114

8,475 404

1,040

9,165 8,451 1,508 1,837 1,367

857 718 135 68

718 99 50

932

62,124

8,446 1,779 1,064

815 5,364

23 322

72 1

69

2,201 1,290

13,010

1,081

7,749 390

993

8,379 7,449 1,383 1,498 1,232

782 663 109 67

622 94 76

904

56,321

8,439 2,030 1,227

778 5,349

32 393

69 1

54

2,903 1,242

12,045

1,092

7,559 37 8

1,318

8,403 7,306 1,252 1,618

465 794 649 103 55

720 88 52

996

57,159

4,952 1,307

836 535

3,077 17

257 49 0

30

2,011 699

7,923

708

4,450 24 1

713

5,219 4,556

670 810

0 570 372

64 34

514 51 29

698

35,724

Source: Central Bureau of Statistics.

Table 20. Value of ImDorts bv PrinciDal Country of Origin, 1996-2003 (US$ Million)

1996 1997 1998 1999 2000 2001 2002 2003 Jan-Jul

ASEAN o/w Malaysia

Thailand Phi 1 i p p i n e s Singapore Brunei Vietnam Cambodia Laos Myanmar

China Hong Kong Japan Other Asia

Africa

USA Canada

Australia and Oceania

Europe olw United Kingdom

Netherlands Germany Belgium & Luxemburg France Denmark Ireland Italy Greece Portugal Spain

Total

2,814 816

1,08 1 90

2,856 238 204 650

0 34

1,577 266

8,555 3,572

406

5,130 804

2,539

7,237 1,140

505 3,010

398 1,037

187 40

1,169 83

217 342

42.929

3,743 865 867 127

3,411 7

117 0 1

19

1,518 325

8,252 4,839

468

5,441 682

2,427

9,744 1,084

566 2,629

340 1,017

159 35

918 52 22

370

41.680

2,646 627 842 65

2,543 0

42 1 2 0 9

906 264

4,293 3,93 1

399

3,517 504

1,750

6,520 920 338

2,366 275 568 50 25

480 19 2

160

27,337

2,977 589 933 55

2,448 38

590 1 0

19

1,242 227

2,912 3,068

339

2,837 417

2,219

4,061 51 1 347

1,398 178 371 38 31

276 25 2

206

24,003

3,563 1,129 1,109

115 3,789

16 303

1 1

22

2,043 342

5,397 3,391

348

3,390 638

2,359

4,878 557 434

1,245 278 400 44 66

345 15 2

185

33,515

3,199 1,005

986 94

3,147 37

171 0 0

21

1,843 257

4,689 2,083

3 69

3,208 357

1,785

3,961 64 1 344

1,301 215 397 58 42

407 18 2

178

30,962

3,804 1,037 1,191

114 4,100

34 259

1 0

31

2,427 24 1

4,409 2,783

300

2,640 412

1,526

4,197 656 352

1,224 191 406 45 42

402 16 2

130

31,289

2,812 573 914 99

2,411 75

327 1 0 9

1,697 128

2,450 2,628

190

1,621 184

1,796

2,635 265 219 696 113 270

23 27

196 9 1

66

18,629

Source: Central Bureau of Statistics.

i 0 8

W b W W

N

z o\ d

e

Y

2,

a L4

- 6 s

'i O P

e N z

0 t-

W x m m x N

W 3 2 m m t- m ".

m 00" N

s 2 e N

f

N m

d 2

3 t '?

0 13

% 2

P m Q" - 00

0 0 0 N

d .- M 0 x c

w m 8 2

Y

v)

0 . 8 0 "

c1 0 0 "

4

0 ::

8 ::

m m 2

00 m 2

r- a 2

\o m 2

e,

8 5 8

3 e r .

m m

N

. 8

N 0 0 N

- 0 0 N

0

N 8

m m 2

CO Q\ 0'

pl m 2

W m 0'

wl r-" m m

. . A - m m

i

e m 0 0 N

c\1

N 8

- 0 0 N

8 0 N

u. u. z

00 u. z

t- u. 2

W u. 2

. . . . . - 3

Table 34. PrinciDal Agricultural Products by Sub-sectors, 1996-2002 (thousand tons)

1996 1997 1998 1999 2000 2001 2002

Food crops Paddy l a Com Cassava Sweet potato Soya beans (shelled) Peanuts (shelled)

Fishery Saltwater fish Freshwater fish

Cash crops Dry Rubber Coffee Tea Cane Sugar Tobacco Palm oi l Palm kernel

Forestrv /b Log Sawn Timber Plywood

51,101 9,307

17,002 2,018 1,517

738

3,383 1,069

335 27 80

2,160 7

2,570 627

26,069 3,565

10,270

49,377 8,771

15,134 1,847 1,357

688

3,613 967

310 23

100 2,167

8 2,981

708

29,520 2,613 6,710

49,200 10,169 14,696 1,935 1,306

692

3,724 918

33 1 24

157 2,065

18 3,855

778

19027 2707 7155

50,855 9,204

16,459 1,666 1,383

660

3,788 1,075

304 27

132 1,908

28 4,025

915

20,620 2,060 4,612

51,899 50,461 5 1,490 9,677 9,347 9,654

16,089 17,055 16,913 1,828 1,749 1,772 1,018 827 673

737 710 718

4,004 1,103

336 339 33 1 30 27 26

128 131 131 1,896 1,870 2,078

15 5 4 4,094 4,093 4,225

931 938 964

13,798 10,051 8,136 2,790 675 415 4,443 2,101 1,202

l a Dry husk paddy grain ready for milling. /b In thousand cubic meters, and in GO1 F Y -Apr i l to March until the year 1999, and Apr i l to December in FY 2000. .. : Data are not available

Source: Central Bureau o f Statistics, Ministry o f Agriculture, and Ministry o f Forestry

Table 35. Production of Ma ior Crops bv TvDe of Estate, 1996-2002 (thousand tons)

1996 1997 1998 1999 2000 2001 2002*

Smallholder Estate Rubber Coconuthopra Coffee Cacao Tea Tobacco Pepper Palm oi l Cinnamon

Large Estates Rubber Coconut/copra Coffee Tea Sugar \a Tobacco Palm oi l

1,193 2,687

436 304 34

148 52

1,134 39

381 74 23

135 582

3 3,765

1,174 2,620

396 264

33 206 47

1,293 37

378 84 32

121 996 3.3

4,088

1,243 2,690

470 370 34

102 64

1,348 42

419 88 45

133 1,034

2.3 4,292

1,206 2,904

494 305

35 132 61

1,544 38

419 91 38

126 755 3.0

4,461

1,125 2,951

515 364 39

20 1 69

1,978 45

376 94 39

123 899 3.0

5,603

1,210 3,023

527 370 42

224 67

2,181 50

397 96 40

131 919 3.0

5,788

1,223 3,098

529 375 39

223 67

2,227 52

407 96 40

128 1,006

3.0 5,930

\a Including sugarcane produced by smallholders. * Preliminary figures

Source: Central Bureau o f Statistics and Ministry of Agriculture.

Table 36. Rice-Area Harvested, Production and Yield, 1996-2003

Area Average Paddy Rice Year harvested yield output output /a Growth

(thousand ha) (tondha) (thousand tons) (thousand tons) (%I 1996

1997

1998

1999

2000

200 1

2002

2003 /b

1 1,570

11,141

11,716

11,963

11,793

1 1,499

11,521

1 1,476

4.4

4.4

4.2

4.3

4.4

4.4

4.5

4.5

51,102

49,377

49,237

50,866

51,899

50,460

5 1,490

51,829

33,216

32,095

32,004

33,063

33,734

32,799

33,468

33,689

2.73

-3.37

-0.28

3.31

2.03

-2.77

2.04

2.71

/a Estimated on the basis of a conversion factor of 0.68 from paddy into rice for the

/b Projection. years prior to 1989, and 0.65 for the years 1989 and after.

Source: Central Bureau of Statistics.

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