Indonesia economic update & Country Partnership Strategy

Indonesia economic updateNear-term issues and looking ahead to 2012

Shubham ChaudhuriIndonesia Lead EconomistWorld Bank

March 2, 2011World Bank, Washington DC

OutlineWhat I will be talking about

Near-term issues: managing risks, maximizing opportunities The latest growth numbers: more of the same, floating along Managing capital flows Coping with food price increases Improving budget disbursement

Looking ahead to 2012 Strong investment driving economic growth Exports strong but current account continues to narrow High commodity prices are a double edged sword Why isn’t higher investment resulting in even higher growth?

Emerging challenges for higher and broad-based growth While jobs are picking up they aren’t growing in line with the economy And inequality is rising RPJM growth targets are going to need higher or more productive

investment

Near-term issuesManaging risks, maximizing opportunities

Maximizing opportunitiesFrom a strong near-term outlook

Building on strong GDP growth performance

Sources: BPS and World Bank forecast for 2011

Maximizing opportunities...building on recent growth performance

Year-on-year growth Contributions to year-on-year GDP growth

Jun-01 Jun-03 Jun-05 Jun-07 Jun-090

2

4

6

8

10

0

2

4

6

8

10

Per cent Per cent

“Non-trad-able”

“Tradable”

Source: CEIC, World BankNote: “Tradables” defined as manufacturing, agriculture, mining and quarrying

… and the relative trend of stronger growth for “non-tradable” sectors continues

Jun-01 Jun-03 Jun-05 Jun-07 Jun-090

2

4

6

8

0

2

4

6

8

Per cent Per cent

“Non-trad-able”

“Tradable”

Maximizing opportunities, managing risks…from capital inflows into Indonesia

The rise in net portfolio inflows has dominated the financial account since 2009

2006 2007 2008 2009 2010 Q1-Q3-15

-10

-5

0

5

10

15

20

25

-15

-10

-5

0

5

10

15

20

25Net Other InvestmentNet Portfolio InvestmentNet FDI InvestmentFinancial Account

USD billion USD billion

Source: BI, CEIC

Maximizing opportunities, managing risks…from capital inflows into Indonesia

Nov-08 May-09 Nov-09 May-10 Nov-10-60

-40

-20

0

20

40

60

15

30

45

60

75

90

105IDR trillion USD billion

Net non-resident investor purchases (LHS):SBI JCI SUN

Foreign Reserves (RHS)

With the majority of portfolio flows going into government securities

Maximizing opportunities, managing risks…from capital inflows into Indonesia

Portfolio capital inflows have contributed to a lowering of yields on government bonds…

Local currency government bond yields (5-year)

Source: CEIC, World Bank

0

3

6

9

12

15

0

3

6

9

12

15

Jan-09 Sep-09 May-10 Jan-11

Indonesia

Philippines

ThailandMalaysia

Percent Percent

United States

Maximizing opportunities, managing risks…from capital inflows into Indonesia …and a medium-term rise in domestic equity prices

The JCI is up 40% since 30 Dec 2009 (compared with an average of 12% for 10 benchmark global indices). Fall in equities in early 2011 but then recovery

Source: CEIC, World Bank

25

50

75

100

125

150

25

50

75

100

125

150

Jan-08 Jan-09 Jan-10 Jan-11

Shanghai

Thailand

Bombay

Equity Indices 2Jan08=100

Jakarta

Malaysia

Maximizing opportunities, managing risks…from capital inflows into Indonesia

… but the exchange rate has remained relatively stable

The rupiah strengthened by 3.6% in 2010 as a whole (with the REER appreciating by 5% over the year)

Source: CEIC, World Bank

8500

9500

10500

11500

1250080

90

100

110

120

Jan-08 Jan-09 Jan-10 Jan-11

IDR/USD (RHS)

Dollar Index (LHS)

Dollar Index IDR per USD

IDR Appreciation

0

2000

4000

6000

8000

10000

12000

14000

160000

50

100

150

200

250

300

350

400

Jan-96 Jan-99 Jan-02 Jan-05 Jan-08 Jan-11

NEER (LHS)

REER(LHS)

IDR/USD Spot (RHS)

Jan 2002=100 IDR per USD

IDR Appreciation

Managing risks... ...from capital inflows into Indonesia

0 20 40 60 80 100 120 140

FX Reserves

Total Short-Term External Debt

Private Short-Term External Debt

Foreign Holdings of Stocks

Foreign Holdings of Bonds

Foreign Holdings of SBI

Sept 2008

May 2010

Sept 2010

USD bn

Sources: BI, MoF and World Bank

Exposure to foreign ownership of financial assets has increased… …but foreign reserves have kept pace

Managing risks Inflation on the rise again

Source: BPS, World Bank

Headline Inflation has risen over the year, driven primarily by volatile (food) prices, while core inflation still remains below historical averages

Managing inflationRice prices in particular

Source: BPS, World Bank, FAO

Managing food price inflationA regional priority

Source: CEIC and World Bank

Regional food price inflation is also on the rise

-10

0

10

20

30

40

50

-10

0

10

20

30

40

50

Dec-06 Dec-07 Dec-08 Dec-09 Dec-10

ChinaIndiaIndonesiaMalaysiaPhilippinesThailandVietnam

Per cent YoY Per cent YoY

Poverty outlookPotential impact of rising food prices Sufficiently large food price shocks can raise the poverty rate, even

in times of robust growth, such as in 2005-06, and potentially 2011

Source: Susenas and World Bank staff simulations

2003 2004 2005 2006 2007 2008 2009 20102011f10

12

14

16

18

20

10

12

14

16

18

20

National poverty rate (percent)

Managing inflationPotential impact of rising food prices Sufficiently large food price shocks can raise the poverty rate, even

in times of robust growth, such as in 2005-06, and potentially 2011

Scenarios (28 December 2010)

Inflation (percent)

Projected March 2011

Poverty Rate (percent)

Change in Poverty Rate from March

2010 (pp)Poverty Basket Core

Spice and rice shocks remain 11.2 4.8 14.5 +1.2

Spice and rice shocks unwind 10.1 4.7 14.0 +0.7

Spice price shock unwinds, rice price shock remains

10.6 4.8 14.2 +0.9

Spice price shock remains, rice price shock unwinds

10.7 4.7 14.3 +1.0

Note: Inflation rates are from March 2010 to March 2011. Source: Susenas and World Bank staff projections

Looking aheadProspects for 2012

Indonesia growth is expected to accelerate over the next two years. High commodity prices will support growth off-Java and Bali. But Indonesia will need to address the challenges posed by these higher commodity prices, especially food and maybe oil prices.

Growth is expected to be driven by increasing investment levels

Sources: BPS and World Bank forecast for 2011 and 2012

Investment should increase: stronger FDI flows and high commodity prices Net exports should further boost growth in 2011 and 2012, consistent with solid

growth in Indonesia’s major trading partners. Higher inflation is a drag on private consumption expenditure

-4

-2

0

2

4

6

8

-4

-2

0

2

4

6

8

2005 2006 2007 2008 2009 2010 2011 2012Discrepancy Net Exports Investment

Government Private cons GDP

Per cent Per cent

Transport, communications and retail trade especially strong

Higher commodity prices likely to result in more output from mining and agriculture sectors.

The manufacturing sector is picking up as investments pay off and exports to major trading partners rise.

Sources: BPS and World Bank forecast for 2011 and 2012

0

2

4

6

8

0

2

4

6

8

2005 2006 2007 2008 2009 2010 2011 2012Other (incl services) Retail tradeCom & trans ManufacturingMining and construction Agriculture

Per cent Per cent

Manufacturing exports are growing, while the current account surplus narrows

The current account surplus will continue to narrow despite export growth, as investment and domestic demand result in increased imports

Manufacturing continues to contribute to export growth aided by an increase in capital goods imports (which have risen from 28% to 37% of total imports over the last 5 years)

Inflation pressures will continue, particularly if oil price continues its upward trend

2005 2006 2007 2008 2009 2010 2011 20124

8

12

16

4

8

12

16

Poverty Basket Infla-tion

Headline Infla-tion

Core Inflation

Per cent Per cent

Dec-00 Dec-02 Dec-04 Dec-06 Dec-08 Dec-100

100

200

300

400

500

0

100

200

300

400

500

FoodNon-energy

Energy

Food price increases have resulted in high CPI and poverty basket inflation.

Source: World Bank Source: BPS and World Bank estimates

Investment levels are increasing, but not delivering the growth we would expect

Investment levels, at over 30 percent of GDP – are now at par with many countries in the region.

4 5 6 7 8 9 10 110

10

20

30

40

50

0

10

20

30

40

50

1960

2009

2010

1999

Korea, Rep.

China Japan

Indonesia

India

Gross domestic capital formation as percent of GDP

Ln GDP per capita (2000 USD)

A far lower real investment to GDP ratio suggest supply side problems with investment

Outlook for 2011 and 2012

2010 2011 2012

GDP grow th 6.1 6.4 6.7

External indicators

Balance of payments (USD bn) 30.3 16.4 14.6

Current account balance (USD bn) 6.3 2.1 2.5

Trade balance (USD bn) 22.1 17.0 18.1

Financial account balance (USD bn) 26.2 14.0 11.8

CPI inflation 5.1 6.3 6.2

Poverty Basket Index inflation 8.6 8.3 7.0

Thank you

Emerging challenges

Growth has accelerated and 7 percent is in reach but only if there is progress on infrastructure and the investment climate. Growth will also need to be more inclusive.

Job creation remains a problem…especially good jobs…

Source: BPS

Indonesia’s workforce is strong and growing. Today, there are almost 114 million workers in Indonesia. Over the next decade the working age population will grow by another 20 million people.

Economic growth is not matched by growth of higher-quality jobs (formal and non-agricultural): over 61 percent of workers are employed informally; over 40 percent are still working in agriculture.

Labor

Force

Growth

Emplo

yment

Growth

Priva

te Se

ctor E

mp Grow

th

Agricu

lture

Mining

and Q

uaryi

ng

Manufa

cture

Utilitie

s

Const

ructio

n

Who

lesale

, Trad

e, Rest

Transp

ort, C

omm

Financ

e

Publi

c Serv

ice

-4.0%

-2.0%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

Average growth 1991-96 Average Growth 2005-10

While poverty levels are declining inequality is rising

Higher growth will take higher or more productive investment

Average 2012-2014* Low RPJM High Low RPJM HighInvestment 8.0 11.0 12.0 11.0 11.0 11.0

TFP 2.2 2.2 2.2 1.5 2.2 3.0GDP 6.6 7.0 7.3 6.0 7.0 7.4

GDP/cap (USD 2010 prices)* 3470 3530 3570 3410 3530 3570

Investment Varies (TFP as in RPJM) TFP varies (Investment as in RPJM)

A growth accounting exercise allows us to reflect on the growth targets in the RPJM and the implicit investment growth.

With L given and Q as a target, we solve for A or K respectively. With historical productivity gains of around 2.2, investment would need to grow at 11 percent to achieve economic growth of 7 percent. Annual investment growth in 2010 was 8.5%.

Ka%+La)%-(1+A%=Q%

Emerging ChallengesAchieving higher, and broad-based, growth

Facilitating Job Creating Investments

Social protection and social assistanceAchieving

broad-based,

inclusive growth

Raising the level of growth

Regulatory certainty

and transparen

cy

Public infrastruct

ure investment

s

Mobilizing fiscal

resources

Enhancing fiscal space Subsidy reform

Higher fiscal deficitUsing Fiscal Space more

effectivelyManaging bureaucracy

reformMonitoring and evaluation

Addressing emerging challenges

Focus on:• Increasing growth through infrastructure investments and an

improved business environment• Addressing inequality through social assistance and social

protection programs as well as removing obstacles for job creation• Creating and using more effectively the necessary fiscal space to

finance Indonesia’s priorities

Indonesia is lagging behind most ASEAN peers in infrastructure development

Country Main Airport

Optimum Passenger (mil)

Optimum Cargo (tons)

Jakarta 22 300,000Manila 25 600,000KL 40 1,200,000BKK 45 3,000,000Singapore 73 3,000,000Source: PT Angkasa Pura II, other airports, media reports(Standard Chartered)

With physical inspection

Without physical inspection

Time to import

1

5.12

2.14

5.35

3.36

1.55

4.93

3.28

1.84

6.12

Lower middle income East Asia & Pacific Indonesia

Source: LPI 2010 (World Bank)

Country Main Seaports

Container handling (box per hour)

Vessel berthing (h)

Vessel waiting (h)

Jakarta 23.3 50-57 2Surabaya 10 65 2Thailand (LC)

35 8 0.4

Manila 28 NA NASingapore 31.3 Varies 2

Source: ASEAN Ports Association(Standard Chartered)

Infrastructure levels have not recovered to pre-crisis levels yet

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

Source: Philippine’s Transport for Growth, 2009 (World Bank), various years

Subnational

Central

Public Infra Spending/ GDP Investment in infrastructure (% of GDP)

Indonesia needs a big push on infrastructure with the government and public sector playing a lead catalytic role. Private sector participation is often around 20% of investment, PPP will need market friendly design.

Rationalize/ prioritize investments. See next slide for connectivity priorities. Identifying and implementing financing, accountability and capacity-building

mechanisms to incentivize and empower local governments to deliver on water, sanitation and roads

Creatively tackling tariff reform in the power sector

Connectivity is a prerequisite to developing National Economic Corridors

Strengthening economic integration through National Connectivity is the best way to get both the benefits of the concentration of production and the long-term benefits of a convergence in living standards

Connectivity increases the gravity foces of economic corridors by amplifying market forces that are already driving concentration of activities/production in certain areasPriorities for ConnectivityType of Connectivity

Priority

Intra-island

Complete Trans-Java Expressway and coordinate with rail services in Java

Enhancement of JABODETABEK connectivity as part of Northern Java economic corridor, with a particular role for commuter trainsPerformance-based transfer program to local governments for investment and maintenance of local infrastructure

Inter-island (domestic)

Reduce costs of inter-island shipping by improving maritime connectivity-shipping-deregulation and investment to improve efficiency of regional and gateway portsTransparent on-budget subsidies for pioneer shipping in Eastern Indonesia, and develop RO-RO nautical highways

International Improve operational efficiency at Tanjung Priok (including access to the port by road and rail) and move ahead plans to develop a new deep water port in western Java

Strengthening the investment climate and creating jobsSome data and principles

-2-101234567 1993-1997 1998-2002 2003-2007 2008-2009

Net FDI inflows-to-GDP (percent)

Singapore

Hong K

ong SA

R,

China

Thailand

Malaysia

Taiw

an, China

Mongolia

Vietnam

China

Papua N

ew

Guinea

Indonesia

Cam

bodia

Philippines

Lao PD

R

1 2 19 21 3373 78 79 103 121 147 148 171

Global Rank in Doing Business 2011 - selected countries in East Asia

An Indonesia that takes dynamic steps at improving its investment climate will increase the competitiveness of domestic goods and exports. Present reform efforts are moving in the right direction but require a greater push to yield results.

Effective reform requires coordinated actions by different ministries, institutions and layers of government. Therefore, it needs to be led from the top. A single agency should be tasked with undertaking a multi-year national and subnational regulatory review and reform initiative.

Strengthening the investment climate and creating jobsA Regulatory Reform Commission

Priority reforms:• Draft regulatory reform law incorporating the need for Regulatory Impact

Assessments and a 60-day public disclosure and feedback period prior to enactment of new regulations.

• Revise the Investment Negative List (DNI) maintaining the positive improvements in the 2007 revision while relaxing restrictions in key sectors.

• Push ahead on the National Single Window agenda by accelerating current work plan implementation, e.g. replacing paper copies for a single electronic document and single approval.

• Establish National Logistics Council to implement logistics reform blueprint.

Easiest and fastest way to accomplish these reforms is to create a Regulatory Reform Commission with a broad mandate and authority to balance interests, address policy, coordination and implementation issues existing Timnas PEPI structure provides foundations for such a commission

Access to Finance remains a challengeParticularly for the poorer segments of the population

49 3 31 17

0% 20% 40% 60% 80% 100%

Access to Financial Services in Indonesia(All sample)

Bank Formal Other Informal & Semi-formal Underserved

Using Formal - 52 %

Financially Served - 83 %

Underserved

19 2 40 39

0% 20% 40% 60% 80% 100%

Access to Financial Services in Indonesia(Poor Households)

Bank Formal Other Informal & Semi-formal Underserved

Using Formal - 21 %

Financially Served - 61 %

Underserved

Mainstream financial inclusion into the planning process

Streamline existing individual ministry programs into coherent programs to maximize impact and increase effectiveness

Improve coordination among various government ministries and central and subnational governments.

Maximizing opportunitiesIndonesia’s remaining demographic dividend

Children: 14 and below (%)

Elderly: above 64 (%)

Working age: 15 to 64 (%)

Dependency ratio (%)

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

80.0

90.0

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

80.0

90.0

1950 1960 1970 1980 1990 2000 2010 2020 2030 2040 2050

Dep

ende

ncy

ratio

: ch

ildre

n an

d el

derly

to w

orki

ng a

ge (%

)

% o

f pop

ulat

ion

Expand and target skills training to address Indonesia’s skills shortage

Skills shortage: Only one-fifth of workers have finished senior secondary school; only 6 percent have a tertiary degree.

Employers are looking for increasingly higher skill levels, resulting in high wage premiums for educated workers,

BLK revitalization and expansion is important, but not enough. The number of BLK is not enough to meet potential demand.

Pilot a complementary third approach to training using public-private partnerships.

Consider the Jovenes model from Latin America that provides comprehensive training (including soft skills), work opportunities, links with industries, and vouchers for vulnerable groups.

Address unemployment and pension rights at the same time as severance

Hiring and firing regulations are among the region’s most rigid but compliance is low creating a “lose-lose” situation for employers and most workers: High de jure rates discourage entrepreneurs and stunts creation of “good” jobs. Low de facto pay (as reported by workers) leaving the majority of employees unprotected.

East A

sia & Pa

cific

China

Indon

esia

Malaysi

a

Philip

pines

Thailan

d

Vietna

m0

20

40

60

80

100

120

Redundancy Costs (weeks of salary)

Source: Doing Business, 2010 Negotiate to:

1. Introduce an SJSN pension program for workers.

2. Adjust severance rates downward in-line with regional standards.

3. Reform severance system to improve real protection and boost job creation.

More can be spent on Social Assistance, but funds should be spent effectively…

2005 2006 2007 2008 2009Unconditional Cash Transfer (BLT) 4,620 18,619 - 13,206 3,733 Subisidized rice (Raskin) 5,100 5,700 6,284 11,210 12,987 Health Insurance for the Poor (Jamkesmas) n/a 3,065 4,567 4,448 4,620 Scholarships for the Poor n/a n/a 323 1,238 2,562 Conditional Cash Transfer (PKH) n/a n/a 720 946 1,068 Social Welfare for Children n/a 211 187 311 296 Social Welfare for the Disabled n/a 130 152 190 217 Social Welfare for the Elderly n/a 53 57 69 82 Total Targeted Social Assistance 9,720 27,779 12,291 31,619 25,564

Share of central government spending (%) 2.7 6.3 2.4 4.6 4.1 Share of GDP (%) 0.4 0.8 0.3 0.6 0.5

Targeted Social Assistance Spending by Program (IDR billion, realized expenditure)

Constraints:

Fragmentation

Gaps in coverage

Targeting errors

Monitoring and Evaluation

Recommendations Prepare white papers and operationalize

reform roadmaps for each SA program.. Clarify institutional arrangements and begin

performance-based budgeting Unified database of potential beneficiaries

can improve targeting outcomes. Monitoring and Evaluation needs to be

made permanent and regular.

Future social protectionStrategic vision

Vision of the SJSN laid out in White Paper and government regulation

SJSN programs: cover the whole population, with the same benefits to all and base benefits only Health: Basic health services Pension: Lifetime old-age annuity, disability and survivor benefits (20%

replacement ratio) Old-age Savings: Modest lump-sum at retirement (3% contribution rate) Death: Lump-sum on death of worker (10 mill Rp.) Worker accident

Achieving the vision Building and reforming legal structures, institutions and infrastructure SJSN program design, governance, financing and sequence of

introduction Harmonization with existing programs Budget impact

Mobilizing fiscal resourcesEnhancing fiscal space – fuel subsidy reform

Indonesia’s fuel subsidies are very regressive, costly, and continue to create uncertainty for public finances

The number of vehicles in Indonesia is rapidly growing leading to a steady increase in the consumption of subsidized gasoline and diesel

The gap between subsidized and economic fuel prices is on the rise resulting in a large increase in subsidy spending in coming years (current oil price above any of the assumptions below)

2010 2011 2012 2013 2014 SumAPBN-P Proj. Proj. Proj. Proj. 2011-14

Baseline scenario (RPJM assumptions, avg oil price of US$80/barrel) 89 104 115 149 192 560Flat oil price assumption of US$90/barrel from 2011 -- 131 162 186 214 692Flat oil price assumption of US$100/barrel from 2011 -- 157 193 223 258 831

2010 2011 2012 2013 2014 AverageEstimate APBN RAPBN RAPBN RAPBN 2011-14

GDP growth (%) 5.9 6.4 6.8 7.3 7.7 7.1Exchange rate (IDR/USD) 9050 9250 9750 9850 9850 9675Indonesian crude oil price (USD/barrel) 78 80 75 80 85 80

IDR trillion

Key assumptions from RPJM

Projected spending on fuel subsidies under different oil price assumptions

Fuel subsidy reform Alternative reform options Reform options

Current proposal (subsidies removed for private cars) The ESDM Road Map (January 2010) Convertible fuel vouchers Indexation of regulated fuel prices to the economic cost of fuel Full deregulation of fuel prices with compensating BLT program

International experience shows that it is difficult to target fuel subsidies well, and instead that many countries are moving to eliminate universal fuel subsidies by reducing the price gap while compensating the poor directly Indonesia can do the same, as it has successfully done on an ad hoc

basis before, but to go further and imbed sustainable reforms Building broad-based political support will be critical to achieve reform

as will socializing reforms with wider public (e.g. media campaigns)

Fuel subsidy reformThe potential impact of reforms

Reductions in fuel subsidies will impact three key variables – fiscal spending, inflation and the poverty rate. The poverty impact can be offset through BLT.

Cumulative Cumulative Cumulative Average 2014

(Only gasoline and diesel prices adjusted; kerosene and LPG prices held at 2010 levels) Fuel Subsidy

Exp (IDR tr)

Exp on social assis (BLT)

(IDR tr)

Net fiscal saving (IDR tr)

CPI Inflation

(%)Poverty

(%)BASELINE SCENARIO:Status quo (unchanged fuel subsidy regime, ongoing conversion to LPG, US$80 oil)

560 0 0 5.6 11.3

Current proposal: Subsidies removed for private cars in Java & Bali in Q2 2011, remaining private cars 2012

Without BLT -58 0 58

Without BLT -142 0 142 0.2 0.2With BLT -142 28 114 0.2 -0.4

Convertible Fuel Voucher: 25% discount on 15 liters per month per houshold for all households who do not own car

-456 62 394 0.9 -0.2

Without BLT -177 0 177 0.6 0.6With BLT -177 28 149 0.6 0.0

Without BLT -466 0 466 0.9 0.9With BLT -466 28 438 0.9 0.3

Full Deregulation

OUTCOMES 2011-2014

ALTERNATIVE REFORM SCENARIOS CHANGES relative to baseline

ESDM Roadmap (Price adjustment): Subsidies for all private cars removed 2011, for motorcycle 2012

Full Indexation:at 10% below economic price

2011 APBN then RPJM Oil Price and Macroeconomic Assumptions

Looking ahead: the potential wage bill by 2014 with BR

2010 (p) 2011 (p) 2012 (p) 2013 (p) 2014 (p)Baseline national wage bill (IDR billion) 361,108 402,966 441,915 499,081 564,505

% GDP 5.8 5.8 5.9 5.9 5.8 % Total national expenditure 28.3 29.3 28.9 29.0 29.0 % Total national domestic revenue 34.1 34.8 33.3 33.2 32.9

Estimate national wage bill with BR 395,175 442,509 486,935 549,577 824,887 % GDP 6.3 6.3 6.5 6.4 8.5 % Total national expenditure 31.0 32.2 31.9 31.9 42.4 % Total national domestic revenue 37.3 38.2 36.7 36.5 48.1

Central BR 34,067 39,543 45,020 50,496 55,288 Sub-national BR - - - - 205,095 Key assumptions (Budgets for 2010 and 2011, RPJM for 2012-14):

GDP growth (%) 5.8 6.3 6.9 7.4 7.7 CPI change (%) 5.3 5.3 6.0 5.5 5.5 Central gov. fiscal deficit (% GDP) 2.1 1.9 1.6 1.4 1.2

Memo items:Total national expenditure (IDR billion) 1,274,666 1,376,131 1,528,173 1,720,940 1,944,979

% GDP 20.4 19.6 20.3 20.2 20.1 Total national dom. revenue (IDR billion) 1,058,683 1,159,020 1,326,224 1,504,302 1,713,412

% GDP 16.9 16.5 17.6 17.6 17.7 GDP (IDR billion) 6,253,789 7,006,727 7,522,630 8,523,667 9,684,888

Driven by: (1) high annual civil service pay rises; (2) increasing numbers of civil servants at sub-national level; (3) new performance allowances for pilot BR agencies at the central level

Bureaucracy reformPolicy options to manage fiscal risks

Range of policy options to help contain wage bill and fiscal risks from bureaucracy reform Short-term measures include:

Carefully screen/audit BR plans and sequence payment of performance allowances

Offset new performance allowances by streamlining/abolishing old allowances

Decompress performance allowances Consider setting wage ceilings as share of expenditure or revenue Temporary freeze or capping of annual pay increases Partial or selected hiring freeze, accelerated early retirement

Longer-term response may include undertaking functional reviews and rationalizing size and structure of government

Mobilizing Fiscal ResourcesIndonesia can afford higher budget deficits

0

20

40

60

80

100

0

20

40

60

80

100

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

IndonesiaMalaysia

ThailandPhilippines

China

India

Brazil

Percent

Sources: IMF Public Debt Database, IMF Fiscal Monitor, Ministry of Finance, BPSNote: Figures for 2010 are projections with exception of Indonesia

Higher budget deficits, combined with a renewed focus on efficiency of spending, would allow Indonesia to undertake the necessary investments

20092010201120122013201420150%5%

10%15%20%25%30%

BaselineLarger deficit by 0.5 pp of GDPLarger deficit by 0.5 pp of GDP plus growth boost

Public Debt to GDP ratios Total debt service to revenues

Indon

esia

China

India

Philipp

ines

Thaila

nd

United

Stat

es

Euro a

rea

0

10

20

30

40

0

10

20

30

402001-2004 2005-2008

2009-2010

Percent

Interest payments (% of revenue)

Interest payment (% revenuie)

Better use of fiscal resourcesImproving subnational spending

0%

5%

10%

15%

20%

25%

30%

35%

2001 2002 2003 2004 2005 2006 2007*

Sha

re o

f tot

al s

ub-n

atio

nal e

xpen

ditu

re (%

)

Government Apparatus

Education

Infrastructure

Others

Health

Agriculture

250,000

270,000

290,000

310,000

330,000

350,000

370,000

390,000

0%10%20%30%40%50%60%70%80%90%

100%

2001 2002 2003 2004 2005 2006 2007 2008

Good Fair Poor Damage Length of road (Km)

Status of district road by condition

Some initial thoughts on improving subnational spending: Develop financing instruments that allow urban districts to finance necessary

infrastructure investments; Develop performance based transfers, with more rigorous assessment of performance and

recognition of success; Improved information system for transparency and planning purposes;

Better use of fiscal resourcesImproving Indonesia’s M&E System

Three characteristics of successful M&E systems Intensive utilization of the M&E information in one or more stages of

the policy cycle; Information meets standards for data quality and evaluation

reliability; Sustainability: the system will survive a change in administration,

government ministers, or top officials.

Increase utilization through relevant information, enhance skills to use information and provide incentives for use of information.

Improve availability and quality of relevant M&E information for planning and budgeting purposes. Quality assurance needed.

Ensure sustainability through powerful champion, stewardship by capable ministry and incentives in agencies to use M&E information.

Changing culture: impose accountability on line ministries and agencies, prepare guidelines of M&E role on results based budgeting.