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Insight: Macroeconomic management imperatives in Jokowi’s second term
The election is over and the results are in
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span>The election is over and the results are in. The question now is how Joko “Jokowi” Widodo’s second term will play out. Will he be bolder in tackling vexing issues or more conservative? The first time around, Jokowi’s honeymoon was short. This time it is straight to work.
Early indications do not point to a clear path. For example, the President said he would push ahead with necessary reforms as he is not running again. But the government is still intervening in the market. The latest example is ordering airlines to cut ticket prices.
What is the global environment the government faces? And what is the state of the domestic economy that constrains policy?
Both appear to leave less room to maneuver compared to when Jokowi took office in 2014. Back then, shifting fuel subsidies to infrastructure spending was obvious. Now, such low hanging fruit is harder to find.
In the global arena, strong United States growth is no longer clear. Hence it is more difficult to predict if the US Federal Reserve will no longer raise interest rates. Slower US growth will likely slow down global growth as well. Especially with China already in the slow lane. These will have a severe impact on emerging economies. Especially a commodity exporter like Indonesia.
And now we are entering the perilous trade war between the US and China. The large size of sanctions the two countries have hurled at each other means the fallout will also be big. For example, the US recently raised tariffs on US$200 billion of imported Chinese goods. China immediately retaliated with tariffs on $60 billion of American products. Another $300 billion in US imports from China is now at risk.
Higher tariffs not only hurt consumers, but producers as well. The fallout is lower growth for both countries. Which might end up pushing the US economy into recession.
Slower global growth affects emerging economies through three channels: trade, finance and currency. The first, is when demand for our exports drops in volume and price. The second is when equity and bond flows decline or even reverse. Meanwhile, the currency weakens when sentiment sours.
On the domestic side there are three big issues: fiscal and monetary policies as well as direct market intervention.
Fiscal revenue growth appears to be slowing. Tax revenue by April only grew 0.5 percent compared to last year. In the same period, gross domestic product (GDP) grew around 5 percent. This is bad news for the already low tax to GDP ratio of only 12 percent.
Raising the tax rate now is not appropriate given the slowing economy. Hence enlarging the tax base appears to be the best option. But it will not be easy or quick. One proposal would be to broaden the value added tax base. This can have an income distribution impact which needs to be addressed separately.
What about expenditure?
Its two key features here are large mandated portions and low efficiency. Mandated expenditures include: regional transfers, education, health and rising subsidies. In regional transfers a new item, the village fund, has now grown to around Rp 75 trillion (US$5.2 billion). Yet its efficiency remains questionable.
Another example is education spending. Despite the large amount spent, students’ test scores remain abysmal. Other social spending also needs to be based on empirical studies. And continued funding tied to measurable outcomes.
Beyond this year’s challenges are the longer running issues. Population aging is coming. Rising demand for pensions and health care will strain the government budget unless policy changes are made now. One is the move from a defined benefit to defined contribution pension scheme. Pension funds also need better risk management. But they also need more flexible investment policies. Universal health coverage also requires better management and funding.
On monetary policy, it has been appropriate for the central bank to remain firm so far. But at one point it has to throw the dice. Monetary policy changes can take up to 18 months to move the needle in the real economy. Still the bank needs to balance financial stability versus growth aspirations.
Two other policies need attention: fuel subsidy and state-owned companies’ debt. Now is the time to start phasing in an automatic fuel price adjustment mechanism such that fuel prices adjust gradually to reflect market conditions. In this way, the subsidy can be avoided and the impact on inflation can be contained.
The debt level of state-owned companies, especially those in infrastructure, needs careful monitoring. One way to reduce leverage is to raise more funds from the equity market. Another is to speed up government payments for infrastructure so that their cash flows are not stretched.
In short, what needs to be done appears clear. Sticking to any set agenda may sound like limiting one’s choices. But there is no better way to gain credibility. Which in itself can help in achieving your goals.
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The writer is a lecturer in the School of Economics and Business, University of Indonesia.
