[Analytics] Crafting a 2020 budget for Indonesia

An Indonesian flag is seen near a construction site in Jakarta, Indonesia, 17 February, 2016 (Photo: Reuters/Whiteside). Sketched by the Pan Pacific Agency.

The phrase ‘global growth slowdown’ is currently dominating international headlines. A rising wave of uncertainty has sent a series of quakes across global financial markets, as yield-seeking activities create increased volatility. For most emerging market economies, including Indonesia, paddling against this current is not viable. Given that it is an aggregate demand issue, the natural response is to focus on fiscal policy. Wisnu Wardana, Manggi Habir specially for the East Asia Forum.

Against this backdrop, the Indonesian government recently announced its 2020 fiscal year budget, which displays considerable ‘defensive’ strategies. It forecasts an annual revenue growth of 9.4 per cent, exceeding spending growth of 8 per cent. Interestingly, both fall within the natural growth rate.

Spending allocations will be channelled to support social welfare, while at the same time used to pay off rising debt interest. Priority programs that will receive additional funding are those assisting underprivileged citizens in gaining better access to healthcare and education. Other programs will attempt to expand the provision of clean water, encourage oil and gas explorations as well as enhance labour productivity.

Around 130 trillion Indonesian rupiah (US$9 billion), accounting for 5.1 per cent of the budget, is kept in reserve as a buffer against unanticipated headwinds like a shortfall in revenue. Some have questioned the wisdom of playing safe when decelerating growth is more apparent. The government’s response has been to increase the productivity of labour and assets. According to senior government officials, only half of the country’s assets are properly recorded and even less are currently productive.

The administration’s economic team have come to accept that quick-win programs have outlived their usefulness. Stepping on both the pedals of monetary and fiscal policy can result in an unwanted imbalance as the output gap widens. It is more appropriate to take a defensive approach, given current global uncertainties and domestic fiscal capacity.

Despite this realistic first year budget for Jokowi’s second term — which contrasts with his ambitious first year budget five years ago — the political challenge of realising the budget numbers will be an uphill battle. Aside from the budget’s built-in reserve, the forecast budget deficit is lower than expected, at 1.8 per cent, allowing more flexibility to tap into financial markets.

Despite the budget’s defensive nature, some are concerned about its overly ambitious predictions for tax revenue. In 2020, government income through taxes is forecast to grow by 13.3 per cent to Rp 1862 trillion (US$133 billion). Jokowi’s plan to increase investment by lowering current tax rates raises more questions about the source of increased tax revenue. With the world’s two largest economies embroiled in trade war and most forecasts indicating further global economic slowdown, it seems counter-intuitive to target such a sharp rise in tax revenue.

One tax source being discussed is an excise tax hike on tobacco sales. This won’t be easy. The tobacco lobby has already mobilised to oppose this policy. The initial excise tax rate hike of 23 per cent has been whittled down to 10 per cent in parliamentary discussions. The haggling will likely continue until the last quarter of this year when the budget is due for ratification. Other potential sources of tax revenue include taxes on the fast-growing e-commerce and the digital technology industries. There is always the temptation of another tax amnesty policy, but most view this as unlikely as it would be too close to the last one.

Another concern is whether or not the budget measures will be broadly effective. Current policy aims to improve the quality of Indonesia’s human capital, one of Jokowi’s major second term campaign promises. A 5.7 per cent increase in education spending is planned, representing a significant 20 per cent of the total budget. But is relying on funding education activities through the Ministry of Education enough?

Another important channel affecting a wider portion of society that often doesn’t receive the attention it deserves is Islamic education — the pesantren and madrasah institutions. Given their limited funding, these alternative educational channels — whose activities fall under the jurisdiction of the Ministry of Religious Affairs — often do not teach a comprehensive curriculum that, for example, includes sufficient science and technology subjects like their government school counterparts do. These subjects, increasingly important for people entering the workforce, are costly to teach. The government proposes an additional 8.9 per cent spending through the Ministry of Religious Affairs, a rate that is higher than the budget’s overall expenditure growth.

Another concern is the President’s tendency to tinker with his government’s ministerial structure, hoping it will help expedite the implementation of his policies. This time there is talk about splitting and merging several ministries or their sub-units. If Jokowi’s first term is any indication, where this same tactic was used, the additional time it takes for the bureaucracy to adjust to new reporting lines delays the implementation of policy.

It might be advisable for the government to persist with the current bureaucratic structure, however imperfect it may be. Solidifying the country’s long-term foundation in human capital requires time and patience and Indonesia cannot afford any delay under intensifying global competition.

Wisnu Wardana is an Economist at Bank Danamon Indonesia and Manggi Habir is an Independent Commissioner of Bank Danamon Indonesia.

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