Monday, June 07, 2010


Until the onset of the 1997/98 economic and political crisis, the Indonesian economy has grown by an average of 7 percent per annum. The economy experienced a slowdown in the mid-1970s and again in the mid-1980s when the world economy was in a recession. Each time, however, the Indonesian economy was able to come out stronger, as the 'crises' forced the government to undertake the necessary reforms in order to sustain the country's economic growth.

Sustainable development as is understood in Indonesia is not only about economic growth. From the mid-1970s on it has been defined as involving three main elements, namely a sufficiently high economic growth, improved distribution of income and the fruits of development, and national (including economic) stability. This so-called 'trilogy of development' in essence proposes a kind of 'balanced development' in which growth will not be pursued at the cost of creating instabilities and a worsening in the distribution of income. Also, concern with distribution and equity issues should not lead to the adoption of policies that would result in economic stagnation. National stability is important but the pursuit of monetary stability, for instance, should not be at the expense of growth and welfare.

The strategy of development, nonetheless, is one that is growth oriented. It attempts to achieve growth with distribution and stability. Sound macroeconomic policies were adopted to achieve economic growth and stability. For many years, the government has strictly adhered to policy prescriptions that it has set for itself. These include the principle of a balanced budget, a current account deficit of no more than 2 percent of GDP, and a limit to external borrowing to maintain a debt-service ratio (DSR) of less than 20 percent. Distribution objectives were pursued through a policy of developing 'eight channels for more equal distribution' that is meant to improve access of the poor to basic health, education and training, job opportunity, credit, etc. A significant portion of the national development budget has been devoted to the agricultural sector, rural development and the provision of basic needs. It can be shown that progress has been made on many of these fronts. Most widely quoted has been the success in the reduction of the numbers of people living under the poverty line, from 70 percent in the late 1960s to 20 percent in the early 1990s. Gini-coefficients to denote relative income distribution have not seen a significant deterioration. Moreover, those indicators suggest that income distribution in Indonesia is better than in many other large developing countries.

The crisis of 1997/98, which is still ongoing in Indonesia, has led to a serious questioning of all these achievements. Were the achievements real? Why has it been that the crisis has hit Indonesia so hard? The Indonesian economy is expected to experience a contraction of 15 percent or more. Such severe contraction of the economy has not happened before. Inflation has reached 80 percent for the first eight months in 1998 and is expected to reach 100 percent for the whole year. Unemployment has increased to as high as 20 million, from about 6 million at the onset of the crisis. The number of people living under the poverty line is estimated to have risen to 80 million, or about 40 percent of the population. About half of them are faced with serious food security problems. Why have things gone so wrong? Is it because Indonesia has been pursuing a wrong development strategy?

Many have blamed the crisis on the premature opening up of the Indonesian economy, particularly of its financial sector. This strategy of opening up has not been adopted overnight, but began with a process of economic liberalisation since the late 1960s. Over the years, this process has been driven by various factors, both internal and external to the economy. This process has not been a smooth one, but whenever it achieved progress in terms of a further opening up of the economy it has been driven by the necessity to do so in order to sustain the country's economic growth and development. Indeed, as will be shown later, this process has not rested on some kind of a blueprint. The reforms have been based on pragmatism. It has been reinforced by regional and global commitments, such as through AFTA (ASEAN Free Trade Area), APEC (Asia Pacific Economic Co-operation), and the WTO (World Trade Organisation). The wave of competitive liberalisation that has emerged in East Asia has also been a positive factor in the adoption of open economic policies by countries in the region, including Indonesia. These developments have been widely praised, and countries in the region that have adopted this strategy are believed to being doing so largely in their own self interest. Yet, the question being raised today is whether this kind of strategy is sufficient in dealing with globalisation, particularly in regard to the huge and volatile flows of international capital.

A crisis, however, is pretty much in the eyes of the beholder. In April 1998 when the Indonesian students began to step up their demonstrations throughout the country, they demanded that President Soeharto make an end to corruption, collusion, and nepotism (CCN -- or KKN in the Indonesian vocabulary that has been adopted also by Malaysians), which in their view are the main source of the crisis. Demanding an end to CCN or KKN has become a shorthand for demanding 'good governance'. There is as yet no Indonesian word for governance, and until this crisis, the concept of governance has not been given sufficient attention to. Globalisation or governance has been often singled out as the main factor that has led to the East Asian crisis. There are some that have put the blame on either 'contagion' or 'conspiracy'. Yet, the crisis cannot be pinpointed to a single source.

There are many views and theories on the crisis in Indonesia as well as in the other East Asian countries. They can be clusters into three main themes. The first theme focuses on issues of financial fragility and the impact of volatile capital movements. Policy recommendations range from issues that are more or less of a technical nature, namely on how to strengthen prudential regulation and supervision of financial institutions, to those that involve complex policy choices regarding a country's capital regime, exchange regime and exchange rate system. The second theme stresses the importance of institutional development and institutional arrangements, either in the domestic context of enhancing governance practices and procedures or involving regional initiatives (regional surveillance mechanism) or multilateral, global co-operation (co-ordinated controls on short-term capital flows). The third theme addresses the issue of long-term growth strategy. As mentioned before, the prevailing development strategy based on international-oriented policies has been questioned. There is the view that incremental changes can be adequate, but others argue for the need for a totally new development paradigm.

In the case of Indonesia, the crisis has underlined the importance of governance and a strategy of development that can effectively respond to the challenges of globalisation. In policy terms, the challenge to Indonesia is how can it make a credible commitment to maintaining its open economic policies and to good governance. The next section reviews the process of economic liberalisation in Indonesia and efforts to make a credible commitment to open economic policies. This will be followed by a review of the governance structures, in terms of the broad institutional setting and policymaking processes in the economic field. The final section outlines the main issues that Indonesia has to address in responding to the challenges of globalisation.

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