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Indonesia Trade and Industrial Reform
Indonesia's industrialization during the 1970s and
early 1980s
was accompanied by a growing web of trade restrictions and
government regulations that made private businesses the
hostage of
government approval or protection. The dictates of the
market had
little bearing on profitability, and even the most
inefficient
firms could prosper with the right government connections.
As a
consequence, almost all of Indonesia's industrial
production was
sold on domestic markets, leaving exports dominated by oil
and
agricultural products.
Major trade policy reforms, introduced in the
mid-1980s, went
a long way toward disentangling the government from the
marketplace. These reforms proved very successful in
promoting the
growth of new export industries. Still, the large
conglomerates
that had emerged under heavy regulations also had the
resources to
benefit most in the more competitive environment. By the
early
1990s, the government still confronted widespread popular
concern
over the distribution of gains from economic development.
The industrial and trade policy favored by government
through
the early 1980s was characterized by development
economists as
import-substitution industrialization. As illustrated by
the steel
industry example discussed above, the typical pattern was
to
encourage domestic producers to invest in a priority
sector,
selected by the Department of Industry, that could
substitute
domestic production for products previously imported
(see The Politics of Economic Reform
, this ch.). The enticement
offered to
the domestic investor often included sole license to
import the
product and restrictions on other potential domestic
producers. The
Department of Trade issued import licenses, and BKPM,
which had
jurisdiction over investment by all foreign firms and most
large
domestic firms, provided the constraints to potential
domestic
competitors. The overall direction of industrialization
was framed
in five-year development plans, but political influence
often led
to a more capricious pattern of benefits. In addition to
almost
1,500 nontariff restrictions, such as import license
requirements,
tariffs ranging up to 200 percent of the value of an
import were in
place on those imports not affected by licensing.
The inefficiencies that plagued this strategy were
documented
by Department of Finance economists who were preparing for
a major
tax reform implemented in 1985
(see Government Finance
, this ch.).
Case studies of firms in import substitute sectors showed
they
generated 25 percent of employment opportunities that
investment in
potential exports would have supplied, and that shifting
investment
from an import substitute to an export product would
generate four
times the foreign-exchange earnings. Indonesia thus was
left out of
the substantial regional growth in manufactured exports
during the
early 1980s. In Thailand and Malaysia, manufactured
exports
accounted for 25 and 18 percent of exports, respectively,
by 1980,
whereas manufactured exports generated only about 2
percent of
total Indonesian exports that year.
The complexity of trade regulations provided a rich
opportunity
for corruption within the Customs Bureau, which
administered
policies and assessed the value of imports to determine
the
appropriate tariffs. In April 1985, the Customs Bureau was
released
from its responsibilities, and a Swiss firm, Société
Générale de
Surveillance, was contracted to process all imports valued
over
US$5,000. Société Générale de Surveillance determined the
value of
imports into Indonesia at their port of origin and shipped
the
products in sealed crates to the Indonesian destination.
Importers
within Indonesia reported that their import costs fell by
over 20
percent within months of the reform.
The first measure to directly curtail high trade
barriers came
in the form of an export certification program designed to
offset
the high costs for exporters who purchased imported
inputs. This
was abandoned, however, when the United States threatened
to
curtail textile imports from Indonesia because of the
alleged
subsidy from the certification scheme. In response,
Indonesia
agreed to sign the General Agreement on Tariffs and Trade
(GATT-- see Glossary)
Export Subsidy Accord in 1985. This provided
a
further impetus for more substantial trade reform since
the
agreement prohibited government compensation for export
costs
created by nontariff barriers to imported inputs.
In May 1986, the first in a series of more substantial
trade
reforms was announced. The reform package provided duty
refunds for
tariffs paid on the imports of domestic producers who
exported a
substantial share of their products. To overcome the
problem of
nontariff barriers, such as licensing restrictions on
imports,
exporters were granted the right to import their own
inputs, even
if another firm previously had exclusive privilege to
import the
product. Restrictions on foreign investment were reduced,
particularly to stimulate production for export
(see Industry
, this
ch.).
Although these reforms improved profits of exporting
firms,
they did not help to encourage exports from firms that
preferred to
supply the protected domestic market. In November 1988, a
major
trade reform began to dismantle the extensive nontariff
barriers
and to lower and simplify tariffs rates. By eliminating
the
influential plastics and steel import monopolies,
government
indicated the seriousness of the new policy direction. The
1988
reforms brought the share of domestic manufacturing
protected by
nontariff barriers to 35 percent from 50 percent in 1986.
Deregulation continued in a series of reform packages
affecting
both direct trade barriers and government regulations that
indirectly influenced the "high-cost" business climate. By
1990
nontariff barriers affected only 660 import items,
compared with
1,500 items two years earlier. Tariffs, still charged on
almost
2,500 different imported items, had a maximum rate of 40
percent.
BKPM adopted a new policy in 1989 to list only those
economic
sectors in which investment was restricted; the negative
list
replaced a complex Priority Scale List that had controlled
investment in virtually all sectors. In 1991 the contract
with
Société Générale de Surveillance was renewed under new
provisions
mandating that the Customs Bureau be trained to eventually
replace
the foreign firm.
Most of the substantial reforms that began in the
mid-1980s and
continued through the early 1990s reflected a new
orientation to
market-led economic development. In some cases, however,
important
new policies reflected the longstanding government concern
that the
private marketplace could not be trusted to ensure
politically
desirable outcomes. This was particularly true of policies
concerning the processing of Indonesia's valuable natural
resources
and the sensitive area of pribumi business
development.
Indonesia was the world's leading exporter of tropical
logs in
1979, accounting for 41 percent of the world market.
Concerns about
environmental degradation and the lack of domestic log
processing
capacity led to restrictions on log exports beginning in
1980,
culminating in a complete ban on log exports in 1985
(see Forestry
, this ch.). The intent was primarily to foster
the nascent
plywood and sawmill industry, which could in turn export
its output
and expand employment and industry within the country. By
1988
Indonesia supplied almost 30 percent of world exports of
plywood.
The success of this policy led to other similar
initiatives,
including a ban on raw rattan exports in 1988 to foster
the
domestic rattan furniture industry and a substantial
export tax on
sawn timber in 1990 to promote the domestic wood furniture
industry.
Many benefits that fostered the growth of large
conglomerates
were reduced or eliminated, but the conglomerates adapted
quickly
to the new environment. For example, the Bimantara Citra
Group,
operated by Suharto's son Bambang, lost its plastics
import license
held through Panca Holdings in 1988 but gained new
interests in
sectors that had previously been closed to private
investment. The
group became the first Indonesian company permitted to
establish a
privately owned television station--Rajawali Citra
Televisi
Indonesia (RCTI)--and, in the early 1990s, was poised to
invest in
petrochemical plants, long a government stronghold
(see
Post and Telecommunications, this ch.). Another son, Tommy Suharto,
had a
major holding in Sempati Air Services, the first private
Indonesian
airline permitted to offer international jet service in
competition
with the government airline monopoly, Garuda Indonesia
(see Transportation
, this ch.). An extensive review of Suharto
family
holdings published in the Far Eastern Economic
Review in
April 1992 noted that public resentment of family business
gains
was growing, although government officials and businessmen
refused
to voice their concern openly.
The government took some measures to curtail the
continued
dominance of large conglomerates. In 1990 Suharto himself
publicly
called for large business conglomerates to sell up to 25
percent of
their corporate shares to employee-owned cooperatives on
credit
supplied by the conglomerates themselves, to be repaid
with future
stock dividends. The request was not legally mandated, but
the
attendant publicity that clearly identified the major
Chinese
minority firms involved was viewed as pressure to comply.
Within a
year, 105 companies had sold much smaller shares of
stocks, diluted
by special nonvoting provisions, to the cooperatives. A
further
initiative in 1991 called for large firms to become the
"foster
fathers" of smaller pribumi businesses, which would
serve as
their suppliers, retailers, and subcontractors.
Large, state-owned enterprises faced greater
competition, but
privatization of these operations did not seem likely in
the early
1990s. During the late 1980s, however, several measures
were
undertaken to prepare for possible eventual privatization,
including a thorough independent assessment of the
profitability of
each enterprise and a review of management compensation in
relation
to performance criteria. In 1988 the Department of Finance
issued
a new regulation outlining measures that could be taken to
improve
the performance of state-owned enterprises. The measures
included
management contracts with the private sector, issuing
private
ownership shares on capital markets or direct sale to
private
owners, and liquidation.
Another government policy initiated in 1989 suggested
that at
least some state-owned industries would be protected from
possible
privatization. A Council for the Development of Strategic
Industries was established, headed by Minister of State
for
Research and Technology Habibie. The council gained
control of ten
major state enterprises, including several munitions
plants, the
state aircraft firm Archipelago Aircraft Industry (IPTN),
and
Krakatau Steel. Under Habibie the industries' long-term
development
would be coordinated with continued government funding.
This
policy, viewed as a concession to the economic
nationalists in the
midst of government cutbacks, assured a major role for
state-owned
industries in Indonesia's most technologically
sophisticated
sectors.
Data as of November 1992
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