Indonesia: Megawati Decisive On Bali But Prevaricates On Economic Reform

2003

Chris Manning

For much of the Soeharto period, Indonesia was a member of the so-called ‘miracle’ group of economies that recorded rapid rates of economic growth (6-10 per cent per annum over several decades). Not only were growth rates far higher than most developing countries, but average living standards and the incidence of poverty improved dramatically in Indonesia, as in all the fast growing economies of East Asia.

This all changed with the economic crisis starting in 1997/98. Now an economic growth rate in Indonesia of anything above 4 per cent is already considered an achievement, not far above the rate of growth regarded as just sufficient to feed and clothe the world's growing Third World population. Despite some successes, many economists are now concerned with the failure of Megawati’s government to adopt policies which will help a return to pre-crisis growth rates and which will also serve the poor.

Two recent events illustrate both hopes and fears for a return to faster economic growth. In the wake of the Bali bombings, the government worked remarkably swiftly to generate a recovery package for the tourist island and the country. Neither the exchange rate nor other national economic indicators were severely affected after the initial shock, although the people and economy of Bali have suffered a major blow.

But at the same time, hopes of reducing potentially crippling government fuel, electricity and telephone subsidies, largely directed to better-off families, were put on hold in January 2003. The President and her cabinet procrastinated when faced with major demonstrations of opposition, and the parliament followed suit. Lack of leadership from the top, and blurred interests in a coalition government, has meant that significant expenditures potentially flowing from the reforms for the education and health of the poor may be lost.

The halting transition to democracy, the much stronger legislature and the much weaker President and Executive provide one explanation for the lack of resolve in economic reform. In place of government by virtual Presidential decree under Soeharto, poorly functioning legal institutions and weak and dependent bureaucracy have been unable to establish predictable ‘rules of the game’ necessary for a flourishing business community. While necessary, there is a growing awareness that regaining macroeconomic stability – lower inflation, a more stable exchange rate and a viable budget – under Megawati is not sufficient to evoke sufficient interest from potential investors, either from local sources or abroad.

Consumption remains strong. Small industries have survived and even flourished in 2000 and 2001. But large-scale industry and investment (the latter again slowing after beginning to show signs of a mini-recovery pre-Bali) have continued to flounder. Exports recovered due to windfall gains from the dramatic bout of currency depreciation in the wake of regime change. But they began to suffer from 2001 onwards. Trade expansion has suffered from shortages of capital and new technology, rising labour costs related to government regulation, and an inability to compete with China’s onslaught into the world textiles, footwear and clothing industries.

The jury is still out on the economic effects of Indonesia’s historic ‘big bang’ decentralization set in motion in January 2001. More opportunities for local investors and direct contact with knowledgeable and often sympathetic regional governments is delicately balanced against a raft of new, local regulations and taxes, and inexperienced and sometimes avaricious local officials. Nevertheless, perhaps surprisingly, the dramatic fiscal reorganization in favour of the regions has worked remarkably smoothly in the first two years.

Does slower economic growth matter much, as Indonesians enjoy many political freedoms for the first time in 30 years? It does, if the experience of now more advanced East Asian countries is any guide. Unlike Korea, Taiwan or even Thailand, Indonesia’s democratic transition has begun at a much earlier stage of development. Per capita incomes are less than one-half of those in Thailand, and less than one-tenth of Korea (the gap is smaller, though still large, in adjusted ‘purchasing power parity’ terms). Many more Indonesians still live in abject poverty (53 per cent under a US$2 poverty line in 2002) and work in low productivity occupations in the informal sector and in agriculture.

If the extremely low living standards of most Indonesians are to improve significantly in the immediate future, then Megawati will have to find a new resolve. The challenge is to combine political reform (such as the recent constitutional amendments) with a clear-headed and determined approach in the pursuit of social equity for the majority, at the expense of the still small urban middle class. The interests of the latter are currently aligned with self-serving business groups, who have opposed the removal of subsidies. While decisive action post-Bali served the government and people well, subsidies largely benefiting the middle class conflict with a longer-term economic stability and recovery in the investment climate.

WATCHPOINT: Reversing such trends is not an easy task, and has become more difficult as positioning for the 2004 election intensifies. But it is certainly not impossible, given the residual power of the Presidency and the potential for her and her cabinet to sell pro-poor policies directly to the masses, which stand to gain by them.

 

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