SURVEY OF RECENT DEVELOPMENTS

SUMMARY

The second half of 2008 is proving to be a time of unprecedented global volatility, and the sound performance of the Indonesian economy over the first half will be difficult to maintain. With growth for the year projected to remain around 6%, Indonesia is relatively well placed to face the challenges of the unfolding global financial crisis, but the risks to the outlook are increasing. The crisis has begun to impact directly, with trading on the Indonesian stock market suspended on 8 October after an alarming one-day fall of 10% in share prices. Sustained pressure on the currency since mid-August has also seen Bank Indonesia running down its sizable foreign exchange reserves in attempting to support the rupiah. The authorities are taking steps to relieve liquidity pressures in the financial system, but will also need to address medium-term issues of stability, especially in relation to inflation; interest rate increases have so far done little to contain prices. Although exports have remained surprisingly strong, rapid import growth has resulted in a small current account deficit. Growth of exports is likely to decelerate as demand in developed economies slows, putting further pressure on the balance of payments and the currency.

The 2009 budget reflects the government's positive outlook, but the underlying assumptions about growth, inflation and interest rates seem rather optimistic. Tax revenue has been increasing strongly, allowing the government to allocate significant new spending to education, in particular; however the budget remains hostage to global oil prices, with energy subsidies still very large despite the unpopular recent increases in domestic fuel prices. Other issues likely to affect voting in the 2009 elections include scheduled electricity blackouts in Jakarta in response to demand continuing to outstrip supply; the government's apparent indifference to the fate of the victims of the Sidoarjo mud disaster; and its failure to make much impact on the level of poverty.

Despite asking major donors for additional loans for budget support, the government has unveiled a new strategy for managing development partnerships. This will encourage smaller donors to operate through multi-donor arrangements and larger donors to use government systems for more of their programs—a signal that the government intends to shape its relationships with donors despite the global crisis.

Notes

¹Recent polling by Jakarta's Centre for Strategic and International Studies showed Megawati Soekarnoputri as the candidate likely to get the most votes in a first presidential election round, polling some 8% ahead of the president (JP, 15/7/2008).

²See <http://www.bi.go.id/SDDS/series/bop/index_bop.htm>

³The FSF, based at the Bank of International Settlements, is a group of treasuries, central banks and supervisors from important financial centres, as well as some international financial institutions <http://www.fsforum.org > ).

⁴Both ministries are now headed by Sri Mulyani Indrawati.

⁵Infl ation target ranges are set each year.

⁶As, indeed, had the three previous budgets (JP, 18/8/2008).

On 14 October, after consultations with the parliament, the government announced a second round of modified assumptions for the 2009 budget in response to the worsening global crisis. These revised assumptions appear as note ‘a’ to table 2, but were announced too late for them to be analysed in detail for this survey. The analysis in this section and the data in table 2 are based on the assumptions in the supplementary budget document (‘Dokumen Tambahan Nota Keuangan dan RAPBN’) of August 2008 (table 2, note ‘c’).

⁸The first of these figures is based on the implicit GDP defl ator, while the second is based on CPI infl ation.

⁹The decline in non-tax revenues relative to GDP would not have an expansionary impact because the decreases do not benefit the domestic private sector: the main items here are decreases in the government's oil and gas revenues, its dividends from the SOEs, and other non-tax revenues.

¹⁰In the revised 2008 budget the estimated cost of fuel subsidies was increased from Rp 46 trillion to Rp 127 trillion, but the projected outcome is Rp 180 trillion.

¹¹Again at the request of the finance minister, the IMF sent a follow-up team to Jakarta in early 2008 to assist the MOF in analysing data from SOEs. The assistance comprised spreadsheet-based modelling tools, but little training was provided.

¹²The term ‘modernisation’ was adopted to capture the process of reforming each tax office to include new, integrated business processes and a commitment to giving up corrupt practices. Staff received large additional allowances as an incentive to sign up to a new code of conduct.

¹³For example, the World Bank's $150 million Project for Indonesian Tax Administration Reform (PINTAR) to modernise the systems and processes of DGT.

¹⁴It is widely held that Kadin (the Indonesian Chamber of Commerce and Industry) played a central role in persuading the DPR to pass the 2007 Tax Administration Law, and that it has been pushing for both the income and VAT bills to be passed in 2008.

¹⁵Revenue responses to a tax rate change depend upon the tax system in place, the period being considered, the extent of informal sector economic activities, the existing level of tax rates, the prevalence of legal and accounting-driven tax loopholes, and the ability to substitute productive factors in response to changes in tax arrangements (Laffer 2004).

Figures quoted in this section are drawn from internal working documents supplied to the authors by the MOF.

¹⁷Several regions, especially in Eastern Indonesia, are well behind the all-Indonesia average (Hill, Resosudarmo and Vidyattama 2008, in this issue). Indonesia is doing particularly poorly in relation to a number of health indicators and, as a result, may fail to reach several of its Millennium Development Goal targets (World Bank 2008).

¹⁸These correspond to the pillars set out in the OECD's Paris Declaration on Development Effectiveness, widely considered world's best practice for development assistance.

¹⁹For example the OECD average for general government net financial liabilities in 2008 is 42.4% of GDP; see <http://www.oecd.org/dataoecd/5/51/2483816.xls>, accessed 10 October 2008.

²⁰Dissolution in early 2007 of the Consultative Group on Indonesia, the official mechanism for managing donor ‘pledges’, can be interpreted partly as a refl ection of the greatly diminished importance of aid in Indonesia.

²¹Authors’ calculations based on figures from table 2.

Additional information

Notes on contributors

David Cavanough*

*The views expressed in this article, including those in box 2, are those of the authors and do not reflect the views of the Australian government or of the departments to which the authors belong