The fourth principle of economics says ”Rational people think of the margin”. The margin is the difference between benefit and cost. Every person, in essence, will make decisions where he is convinced that the benefit of his decision is greater than its cost.
This also applies to the logic of government policies. Each should have benefits that override its costs.
Many economic policies cannot be assessed in a short-run context; instead they need to be evaluated under a longer-term framework. Economic policies may often seem unpopular when only seen in the short run, yet in the long run it is actually good for the people.
Government policies are dynamic, therefore it is unwise to assess policies in a static short-run context.
On the other hand, in the short run some policies may seem to have more benefit over their costs, making them seem popular yet, in the long run, they may actually be harmful for the people.
Take, for example, an excessive regional minimum wage (UMR) and the high cost of layoffs. These policies are good for workers who are already employed, yet in the long run they creates difficulties for job seekers to obtain jobs as employers are already paying high wages for their workers and facing complexities in downsizing.
Another example is the government policy of maximum price setting. In the beginning, this policy is aimed to ensure that all consumers can afford to buy goods but eventually price levels rise to extremes because the goods become scarce. The lack of incentives for producers to produce and merchants to sell goods, as the prices are set so low, is the reason why these goods become scarce.
Instead of creating cheaper prices, ceiling price policies in effect increase the price level.
Another example is the fuel subsidy policy, which is popular in the short run but in the long run may burden the budget and encourage the smuggling of cheaper fuels abroad.
Unlike the series of bailout policies in some countries during the recent global financial crisis in 2007, and those in Southeast Asia during the regional financial crisis in 1997.
At first, they were unpopular policies, seeming to only be protecting capital owners, yet had these policies not been decided, there would have been immediate and massive capital flight overseas, the country would have lost its foreign reserve, faced huge exchange rate depreciations and finally fallen into an even greater economic crisis.
One highlighted paradox policy in 2009 is the FTA (Free Trade Agreement) China-ASEAN that will be completed in 2010. Originally, this policy started from the AFTA+3, an enlargement of the ASEAN FTA to Japan, China and South Korea. This policy was initiated in 1997. The AFTA+3 policies may not seem popular because they force domestic producers to compete with foreign producers.
The author believes that “trade makes everybody better-off”. The value of Indonesia’s export to China is the third-largest among non-ASEAN members after Japan and the United States. The trend of PRC’s trade share to the total world’s trade is increasing.
Based on the Asian Development Outlook, the share of PRC’s exports to the total world’s exports increased from 2.5 percent in the 1990s, then doubled to around 5 percent in the 2000s. If Indonesia pulls out from the FTA China-ASEAN policy it will indeed seem nationalist and popular, but Indonesia will lose out when other member states continue to commit. These other members will enjoy the facilities of the China-AFTA, while Indonesia will not.
One of the illustrations that can be used to explain this situation is the “prisoner’s dilemma”. This illustration explains the rationality of two amateur criminals who have been questioned separately and choose to confess, even though had they each chosen to lie, their punishment would be lessened.
Each criminal knows that he will be punished for his mistakes and that he must choose to lie. But when investigators say that if his friend confesses and he is found lying, his punishment will be longer and his friend will be released.
Criminals will then think twice before lying. He will tend to be honest because he will be released if his friend lies.
In the end, these two actors will choose honesty as their dominant strategy. Amateur criminals will never lie because its “cost” is too high. This illustration holds true assuming that both criminals are amateurs because they do not trust each other.
The “prisoners’ dilemma” also happens in ASEAN economic cooperation, the AFTA. It experienced the “spaghetti bowl” phenomenon when it encourages free trade areas between members yet some member states create bilateral free trade agreements with non-members (BFTA).
In nature, the AFTA is a discriminatory trade policy for the members but becomes weakened when several members open its discriminatory policy to non-members through bilateral agreements.
Member states that do not have bilateral cooperation should also follow suit in order not to lose out if only relying on the AFTA. This situation is a similar illustration to the dominant strategy of the “prisoners’ dilemma” in which all the players choose to be honest when others are not.
However, a BFTA is not an easy option as there is the possibility of hub (dominant) and spokes (not dominant) problems. The economies of non-members in such bilateral partnerships are usually more advanced than those of the member states; therefore in any open negotiation, non-member states will gain more.
Econometrics simulation that the author designed for ASEAN shows that only Singapore and Malaysia are qualified to have bilateral free trade negotiations with non-members. The majority of ASEAN members, including Indonesia, are deemed unfit to have BFTA negotiations yet they will be at a loss if only relying on the AFTA while some have BFTAs. The author also found that a BFTA, though not so significant, tends to weaken the AFTA.
Indonesia and other ASEAN member countries which are unsuitable for BFTAs should not only depend on the AFTA. One of the most appropriate escape policies should be to support the expansion of the AFTA to non-member countries. This means that negotiations have to be conducted through the “umbrella” of ASEAN economic cooperation.
The form of this kind of cooperation is the AFTA Plus. If there are members who do not agree with the AFTA Plus, China for instance, then the objection should be made through an ASEAN forum prior to the decision.
When a policy has been decided then each member state must be ready to execute it, including explaining it to their people, especially to those who do not agree.
The dominant strategy is that all member states support the AFTA Plus. It can be seen as the “internalization policy” that overcomes the negative externalities of a BFTA. Pulling out from this common policy may be a popular move, yet if other ASEAN member states still commit, then that particular country will lose out.
Therefore, risking being unpopular in the short term, supporting an AFTA Plus agreement is probably the best strategy for Indonesia.
The writer is a PhD Student on the GSAPS Program at Waseda University, Tokyo and a researcher at LPEM-FEUI.
