T

he government is proposing a draft revision of the 2017 state budget (RAPBN-P 2017) to the House of Representatives for approval, with a number of adjustments to its social and economic goals.

In the macroeconomic indicators in the draft of the revised 2017 state budget, for example, only oil and gas liftings remain the same. The targets for economic growth, inflation, the rupiah exchange rate against the US dollar and the three-month government Treasury Bill (SPN) are all changed.

The main concern regarding the revision, however, lies in the increased budget deficit, which is proposed to increase to 2.92 percent of the gross domestic product (GDP) from 2.41 percent in the original budget. Increasing the deficit is quite risky, because it is nearly at the legal threshold of 3 percent of GDP.

The Finance Ministry is confident that the realized deficit in 2017 will not exceed the targeted 2.92 percent. Finance Minister Sri Mulyani Indrawati believes that the realized deficit can be reduced to 2.67 percent, since the budget disbursement is normally below 100 percent. Last year, the realized budget disbursement reached only 98 percent.

However, in the last two years, the budget deficit has exceeded the government’s target. In 2015, the realized deficit was 2.59 percent, higher than the targeted 1.9 percent; while in 2016, the realized deficit reached 2.49 percent, exceeding the 2.35 percent target.

The deficit was mainly caused by the lower than expected tax revenues. As the main source of state income, tax revenues in 2016 did not perform well, even though a tax amnesty was offered that year. The realized tax revenues were only 83.5 percent of the target in 2016 and 83.3 percent in 2015. Both figures were below the 92 percent recorded in 2014.

In the draft revision of the 2017 state budget, the tax revenue target has been lowered by Rp 47 trillion, or about 3 percent, to Rp 1.45 quadrillion from Rp 1.49 quadrillion in the original 2017 state budget.

The proposed tax growth target in the draft budget revision is quite high compared to 2016 at 13 percent. In 2016, the realization of tax revenues grew about 3.5 percent from the previous year, while growth in 2015 was 8 percent year on year. To meet the target, the government will maximize additional tax bases resulting from the tax amnesty.

The stronger outlook of commodity prices and exports is expected to bring a positive impact on tax revenues in 2017. However, if the government fails to achieve the tax revenue target, the shortfall will also increase and potentially widen the deficit further.

Amid the gloomy outlook of state revenues, the state expenditures are expected to further increase. In addition to a sharp increase in subsidies for commodities such as liquefied petroleum gas (LPG) and electricity, the swelling expenditures are also caused by funding for the Asian Games to be held in Jakarta, the 2019 general elections, and the land certification program. The subsidies for fuel and LPG are inflated by almost Rp 20 trillion, or 58 percent from the original 2017 state budget.

The government has also cut its budget for official trips and meetings, which can save about Rp16 trillion. Inefficiency of the budget is always happen in every fiscal year. Based on the Finance Ministry’s spending review, the budget inefficiency reached Rp 8.7 trillion in 2016. In 2017, the potential of inefficiency of the budget is predicted at about Rp 50 trillion, increasing from initial estimate of about Rp 9.6 trillion.

Indonesia has recently been rated investment grade by Standard and Poor’s, following the two other international rating agencies Fitch and Moody’s, which had earlier issued the same rating for the country. It is the first time since the 1997-1998 financial crisis that Indonesia has been rated investment grade by all three major rating agencies.

The rating upgrade was made on the back of improvements in fiscal risk management. The budget deficit, for example, is lower than 3 percent while total debts are lower than 60 percent of GDP. Even if the budget deficit of the revised 2017 state budget is below the threshold, the government should make sure fiscal risk management is on the right track.

Although the ratio of government debt to GDP was quite safe at 29.3 percent in the draft revision of the 2017 state budget, the interest on debt payments continues to rise. The government’s spending on interest payments for both domestic and foreign debts is Rp 219 trillion, or 10 percent of the total budget.

Moreover, the primary balance has recorded a deficit since 2012. This means that state revenues are no longer able to meet all of its expenses.

In the 2015-2016 period, the primary balance deficit had well exceeded its target. In 2015, it reached Rp 142.4 trillion, far higher than the Rp 66.7 trillion target, while in 2016, it amounted to Rp 125.5 trillion, about Rp 20 trillion above the target.

Using debt to cover the deficit is a common practice for developing countries, even for advanced countries. The impact of the deficit on these countries is different because of the differences in their economic conditions. Developed countries are less concerned about their debts because of their high tax-to-GDP ratio, while in developing countries such as Indonesia, growing debts can severely hurt their state budgets, because of their low tax ratio.

When economic growth is financed by debt, the economy will be more fragile since the state revenue will run out of funds to pay the debts. With the widening deficit, the government has to raise more debts through the issuance of government bonds.

Although the sources of debts have shifted to the domestic market, foreign investors hold more than 40 percent of government bonds. This means that the bond market is facing a greater risk from a sudden outflow of foreign funds. This will in turn make the rupiah more volatile.

The issuance of government bonds will give a negative impact on liquidity in the economy. As the government’s bond yield is generally higher than its deposit interest rate, it can instead encourage depositors to shift their funds to debt papers.

In order to be able to compete, banks will have no choice but to raise their deposit rates. If this happens, the government’s goal of reducing the lending rate to a single digit will never be achieved.
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The writer is a researcher at the Institute for Development of Economics and Finance (Indef).