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Jakarta Post

Reinvigorate manufacturing or remain trapped in 5 percent growth

Jakarta   /   Wed, February 13, 2019   /   09:06 am
Reinvigorate manufacturing or remain trapped in 5 percent growth Illustration of economic growth (Shutterstock/Number1411)

Even under the most optimistic projections, Indonesia’s economic growth in the next five years is unlikely to exceed 6 percent. In fact, potential growth will most probably be at 5.68 percent, according to a joint study by the Asian Development Bank and the National Development Planning Ministry.

Hence, we can simply ignore it as an empty promise if any of the presidential candidates claim they can boost growth to 7 percent or more from an average of 5 percent over the past four years. 

Without a broader manufacturing base to produce high-value exports, balance of payments disparities will continue to hinder high economic growth.

The study, conducted to design comprehensive policies for the 2020-2024 period to reinvigorate manufacturing, cited continued dependence on commodities, premature deindustrialization, utterly low labor productivity and a shrinking demographic dividend as the main barriers to higher growth.

The conclusion and policy recommendations of the study for reviving the manufacturing sector are stipulated in a 310-page book entitled Policies to Support the Development of Indonesia’s Manufacturing Sector During 2020-2024, which was released by National Development Planning Minister Bambang Brodjonegoro last week. 

The report essentially warned that Indonesia would never rise from a lower-middle to high income country if it failed to increase growth to at least 7 percent. 

High growth can be achieved only with a stronger manufacturing base that utilizes more complex technology, which produces widely diversified high-value goods with high income elasticities of demand. 

Indonesia’s manufacturing sector indeed has declined steadily after the 1998 economic crisis. The sector’s growth has always been lower than national growth and its contribution to gross domestic product consequently fell from 27 percent in 1997 to about 20 percent in 2018, according to Statistics Indonesia.

High-tech manufactured exports such as office, computer and communications equipment have declined sharply while commodities such as coal, rubber and low-tech and medium-tech products such as palm oil, tires and automotive components and cars with very low income elasticities of demand have now become the bulk of exports. No wonder, more than 65 percent of the country’s exports are commodities or commodity-related.

One of the main factors behind the decline in manufacturing was the commodity boom for almost 10 years between 2003 and 2012 that lulled the government into complacency.

Most of the other barriers to manufacturing cited by the report have by and large been diagnosed by earlier reports on Indonesia’s manufacturing sector by the World Bank and Organization for Economic Cooperation and Development research development center. But the analysis and evidence-based policy recommendations provided by the book seem to be the most comprehensive so far.

We have been too familiar with such problems as inadequate and poor infrastructure, regulatory and bureaucratic barriers, excessively high logistics costs and acutely low labor productivity. Most of these problems have been and are being addressed by the government through accelerated infrastructure development and 16 reform packages on expediting business licensing and deregulation to cut red tape.

But the progress has been way below expectations because of the acute lack of finance, difficulties in getting reforms implemented in the era of regional autonomy and poor inter-ministerial coordination and low institutional capacity.

Other policy recommendations in the report that have been implemented by the government, but unfortunately at a very slow pace, are the development of industrial estates and special economic zones outside Java that focus on particular industries with a promising future. 

The government is recommended to follow the business models of such successful manufacturing countries as China, Taiwan and South Korea, whereby the governments heavily intervened in selecting the kinds of industries to be developed as the champions.

During the iron-fist Soeharto administration, Indonesia had partly implemented such a strategy but it failed miserably because the selection process was neither transparent nor based on clearly defined performance criteria and favored particular vested interest groups. 

The process of selecting industries to be developed as the champions should involve the private sector and focus on the country’s strengths and comparative advantages. The strongest candidates could be the few promising product segments such as fabricated metals, electrical equipment, machinery and equipment, chemicals and synthetic fibers.

One of the boldest recommendations is to attract large foreign manufacturers to make Indonesia their production base but with strong, clear cut rules requiring them to transfer technology and expertise in product design, engineering and development within a fixed period of time.

Indonesia’s rules on local content for foreign companies and joint ventures have never been as strong and consistent as China. In fact it has been the strong regulations on the transfer of technology that turned China into the world’s manufacturing powerhouse. 

True, China has been able to enforce such strong transfer of technology requirements because of its strong bargaining power given its huge domestic market. With a population of over 260 million and rich in natural resources, Indonesia can follow suit though at a smaller scale.

But to bear fruit, the industrial development strategy should be supported with a consistent and long-term policy, longer than the five-year political cycle.

Disclaimer: The opinions expressed in this article are those of the author and do not reflect the official stance of The Jakarta Post.