Indonesia: Hand-To-Mouth Disease Threatens


Dr Ross H. McLeod

Attention has focused recently on the significant further weakening of the rupiah, but keeping the budget deficit in check is now looming as Indonesia’s more pressing macroeconomic problem. The IMF is urging the government to keep the deficit to no more than 3.7% of GDP, but the chances of achieving this seem very slim.

In part this reflects the huge cost of bailing out failed banks by injecting government bonds that are to be amortised through the budget over at least the next ten years. Interest payments on these bonds now account for a large proportion of government expenditure, and there seems little scope for any reduction.

On the other hand, in two important expenditure categories and two important revenue categories significant reductions of net budgetary outflows are possible: respectively, subsidies to petroleum fuels and electricity, privatisation of government enterprises, and the sale of banking and corporate sector assets now held by IBRA, the bank restructuring agency. Paring back the deficit will require significant progress in relation to each of these budget items.

Unfortunately, however, the political will to make the necessary hard choices seems to be lacking, and this is likely still to be the case even if there is a change of leadership. Former President Soeharto attempted to cut back on the highly distortionary and inequitable energy subsidies, and the strong backlash against this move played an important part in his demise. Privatisation has been on the agenda at least since 1993, but significant divestments have been very few. And IBRA’s lack of progress in disposing of the enormous range of assets under its control is well known.

Under its governing law enacted in 1999 the central bank is specifically prohibited from lending to the government. Given the continuing strong reluctance of the international community to provide additional loans and the difficulty of borrowing domestically, this suggests that government spending will eventually be forcibly cut back by the sheer unavailability of funds when the government’s deposits at the central bank are exhausted.

Already spending on repairs and preventative maintenance has fallen away, resulting in interruptions in various areas as equipment and infrastructure break down. Before long, it seems likely that the government will not even have sufficient funds to continue to pay its own employees. This would result in further deterioration in the quality of services provided by the public sector.

WATCHPOINT: The government must start taking some tough decisions soon if the public sector is not to degenerate into a hand-to-mouth existence.


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