1. Introduction
Indonesia has taken significant steps to liberalize its trade, investment, and regulatory regimes in several key sectors during the period under review, although the scope of the liberalization has affected some sectors more than others.
Agriculture supports the largest segment of the Indonesian population and the poor, and has a primary role in achieving the objective of poverty alleviation. The two thirds of farming households in Indonesia who are net consumers of rice were adversely affected when the Government announced a seasonal import restriction on rice from January 2004, which has been extended repeatedly and effectively become permanent. Indonesia has removed a number of licensing restrictions affecting agriculture. Sanitary and phytosanitary and food quality regulations have led to import restrictions, particularly on animals and animal products and other food items requiring a halal certificate. In the forestry sector, the ban on log exports was reinstated in a bid to stem losses from the smuggling of illegally felled logs, which is thought to account for more than half of output from the sector. However, this may not adequately address environmental damage caused by illegal logging and may instead depress prices, thereby encouraging domestic processing of wood-based products.
The 2001 liberalization of the oil and gas sector has allowed foreign firms to enter the oil market, particularly in exploration and production; private companies are now allowed to open retail outlets for fuel. Pertamina's monopoly on importing and distributing fuel has been lifted, and refining, storage, and transport have been liberalized; Pertamina was scheduled to be privatized in 2006. An electricity law passed in September 2002 envisaged an end to the state electric company's monopoly on electricity distribution and the possibility for private companies, both local and foreign, to sell power directly to consumers within five years. In January 2005, however, the Constitutional Court announced that the law was unconstitutional and it was annulled.
Indonesia's average applied MFN tariffs for the manufacturing sector have been reduced, but certain industries (e.g. chemicals, fabricated metal products, motor vehicles, motor cycles, bicycles) continue to be subject to high rates. In the textiles and clothing sub sector, average MFN tariff protection has dropped to 10.3%. However, since 2002, under a decree concerning textile import arrangements, only companies that have production facilities using imported fabrics as inputs for finished products may obtain import licences. There are no limits on foreign ownership in the automotive sector and no local-content requirements or incentives. Tariff barriers have also been lowered, although they remain high by international standards.
The financial sector has undergone major restructuring and reform since the financial crisis in 1997-98. The Indonesian Bank Restructuring Agency (IBRA) oversaw substantial consolidation during its six years of operation, but a large portion of the banking system remains in government control. During the period under review, Indonesia has continued to make progress towards establishing a strong and competitive private banking sector although the two biggest state banks still have weak governance and large non-performing loans (NPLs). According to Bank Indonesia, total banking sector NPLs as a percentage of total loans rose to 9.3% in 2006 compared to 8.2% in 2003. Banks still dominate the financial system, accounting for 80% of financial assets but the strengthening of non-bank financial institutions (NBFIs) - such as insurance companies, finance companies and pension funds, while small for a country of Indonesia's size - has become a key policy imperative, as articulated in the 2006 financial sector policy reform package. The development of NBFIs promises to increase access to low-cost financial services and mobilize domestic savings and channel them into profitable investments.
Indonesia has been undertaking significant policy reform in the telecommunications sector. This has brought about increased private sector and foreign participation. The two main carriers, PT Telkom and PT Indosat, which are 65% and 16% state-owned, respectively, have been partially sold to private investors. Competitive licences have been awarded for the provision of GSM mobile services, Internet services, and other value-added services.
Given its size and island structure, Indonesia faces considerable challenges in establishing the extensive transport infrastructure essential for its economic and social development. Road development policy is focused on increasing road capacity and quality by strengthening main national road corridors and providing better access to less developed and remote areas. Ports are generally inefficient, imposing additional time and costs on domestic cargoes and exports. While the main airports function well, increased transport demand due to deregulation and the proliferation of low-cost airlines is putting pressure on capacity at medium and small-sized airports.
Agriculture (including animal husbandry, fishing, and forestry) accounted for almost 13% of GDP in 2006; it remains the most important sector in terms of employment, providing livelihoods for over 44% of the workforce, which indicates that labour productivity in agriculture is only one fifth of the level in the rest of the economy. The country has a vast range of mineral resources, which have been exploited intensively, enabling the mining sector to make an important contribution to exports. The manufacturing sector began to expand rapidly in the mid 1980s and by 2006 accounted for 28% of GDP. More recently, the services sector has grown, boosted by the travel and tourism industry; in 2006 it accounted for over 40% of GDP and employed nearly 38% of the working population.
2. Agriculture and Forestry
(i) Features
Agriculture represented 12.9% of Indonesia's GDP and 44.5% of the labour force in 2006, is home to the largest segment of the Indonesian population and the poor, and has a primary role in achieving the objective of poverty alleviation, rural development and employment creation. Agricultural trade accounts for 16.7% of exports and 11.5% of imports. Indonesia is the world's largest producer of coconuts, second largest producer of copra, palm kernels, palm oil, and natural rubber, and the third largest producer of rice. Production is concentrated in the islands of Java, Sumatera, and Sulawesi. Smallholder farms (with an average size of one hectare) occupy the largest share of cultivated land (87%) and grow mostly food crops, accounting for 90% of total rice and maize output. Large-scale farms, state- or privately owned, account for a small share of agricultural output, but the larger share of agricultural exports, such as rubber, palm oil, coffee, and cocoa. Agricultural GDP is dominated by food crops (52%); rice production dominates these crops with over 54 million tonnes in 2006.
Indonesia is a net exporter of agricultural products, with palm oil and rubber accounting for the majority of exports in volume terms. Indonesia is the world's second largest producer of crude palm oil; with exports worth around US$4.5 billion it has become Indonesia's most important cash crop. Indonesia is the world's second largest producer of rubber, exporting approximately 90% of its production with total rubber exports exceeding US$3 billion in 2005. It is also the world's third largest producer of cocoa with an estimated 13% share of the world market; both foreign and domestic investors are currently active in cocoa production. Imports are more diversified with high volumes of soybean and sugar; also, a high proportion of imports is in animal feed (oilseed cake) and raw material for exports (cotton). In 2003, Indonesia was the world's biggest importer of rice, importing 13.5% of world trade; it was the third biggest producer, after China and India, with 8% of world production. Due to the current rice import ban, apart from the quantities imported by BULOG to replenish Government stockpiles, only limited registered quantities of rice were imported during 2006.
(ii) Main developments
The Medium-Term Development Plan (MTDP) 2004-09 identifies the main constraints to growth in the agriculture sector as including: relatively high poverty and low welfare of farmers; inadequate incentives to invest in production increases; low level of technology transfer for the processing of products, resulting in low productivity; high dependence on rice consumption as the major food crop; and lack of basic infrastructure and poor access to markets and services. As part of the MTDP, the Government has initiated a plan for revitalization of the agriculture sector with the objective of achieving annual average growth of about 3.5% during 2004-09 and increased incomes and well-being of farmers. The plan calls for increasing investment in key infrastructure, in particular farm-to-market roads and irrigation; encouraging diversification into higher-value-added crops; improving agricultural research; and better ensuring that exports meet world standards.
With almost two thirds of poor household heads working in agriculture, increasing agricultural productivity is essential for broad-based poverty reduction. Historically, agriculture has performed well and contributed significantly to Indonesia's growth, bringing with it increases in employment and a reduction in poverty. It achieved this by focusing on the staple food crops rice, corn, sugar, and soybeans. However, with productivity gains of most food crops slowing down significantly, and with the majority of farmers operating less than half a hectare, these crops provide less potential for generating additional employment and income growth. According to the World Bank, total factor productivity growth in agriculture has been negative since the early 1990s, from annual gains of 2.5% in 1968-92 to annual contractions of 0.1% from 1993 to 2000.
(a) Border measures
Tariff protection and binding commitments
In the Uruguay Round, Indonesia bound 100% of all agricultural lines; the number of bound tariff lines increased to 1,500 compared with only 65 before the round. In general Indonesia's tariffs are applied at levels well below bound rates. The average bound tariff is 47% and the average applied tariff is 8.7%. The difference between bound and applied tariffs varies among sectors. There is little difference between bound and applied tariffs for beverages and spirits but in other sectors the applied tariff is about one tenth the bound rate.
Initially set at zero (under Indonesia's IMF commitment on food items), the tariffs on rice and sugar were raised when BULOG's monopoly over imports was eliminated. Tariffs on the various types of sugar have been reduced in conjunction with a plan to restructure the sugar processing industry, including the closure of inefficient state-owned sugar mills; in 2003 the Government switched from an ad valorem to a specific tariff in order to deal with under-invoicing practices in particular. In the case of rice, the tariff was set at a specific rate of Rp 430/kg in 2000 (with an ad valorem equivalent at around 30%). Although meant to be temporary, the tariffs on sugar and rice are still in effect.
Non-tariff border protection
During the period under review, Indonesia had removed a number of licensing restrictions affecting agriculture. Those remaining include alcoholic beverages ; these may eventually have to be eliminated unless Indonesia is granted special exemptions. Indonesia had granted sole import rights for rice, soybeans, sugar, wheat flour, and garlic to BULOG, the national food logistics agency, and sole import rights for cloves were granted to the BPPC, a cloves marketing agency. Indonesia notified the WTO that BULOG operates as a state-trading enterprise within the meaning of Article XVII of GATT. The purpose of establishing Perum Bulog as a state trading enterprise (STE), is to support domestic rice producers, to stabilize the price of rice at consumer and producer levels in implementing its statutory functions, the agency engages in domestic procurement, sales/distribution, import/export, and management of rice reserve stock holding.
Sanitary, phytosanitary, and food quality regulations have led to import restrictions, particularly on animals and animal products and other food items requiring a halal certificate.
(b) Domestic support measures
Indonesia maintains a number of domestic programmes that are classified as domestic supports under the Agreement on Agriculture. These include general services, programmes to promote agricultural development, stock holding and administered price systems for some commodities, and domestic food aid. Most of these programmes appear to fall under the Green Box, as notified to the WTO.
(iii) Selected items
The agriculture sector can be divided into five broad sub-sectors: food crops, cash crops, animal husbandry, fishing, and forestry. The predominant food crops are rice and other food staples such as maize, cassava, sweet potatoes, and soybeans, and have traditionally been cultivated on relatively small landholdings. Indonesia is also an important producer of a wide range of cash crops, including rubber, palm oil, copra, coffee, tea, cocoa, sugar, and tobacco. Most of these commodities are grown on commercial plantations and are destined primarily for export.
Rice
Rice is the most important food crop and the preferred staple of the great majority of Indonesians. It has always been the main focus of Indonesia's policy on agriculture and food security; at the heart of the policy has been the Government's endeavour to stabilize the price of rice by intervening in the market to defend a ceiling price for consumers and a floor price for producers, and by controlling trade (Box IV.1). Self-sufficiency was attained briefly in 1985 and again since 2004, but in the intervening years Indonesia became one of the world's largest rice importers. During the period under review, the Government has come under increasing pressure to deal with rice farmers' complaints of low prices, particularly during harvests, which they have tended to blame on the abundance of cheaper rice imports. In January 2004, the Government announce that rice imports would be banned for six months to protect farmers during the main harvest. The ban was subsequently extended and remains in place as strong harvests from 2004 to 2006 have reduced the need for imports. In 2005, Indonesia produced 54 million tonnes of un-husked rice, equivalent to 32.4 million tonnes husked. Domestic requirements are estimated to be approximately 32 million tonnes.
Maintaining stable rice prices is critically important for the poor, as rice constitutes 24% of their consumption. Two thirds of farming households in Indonesia are net consumers of rice, that is, they consume more rice than they produce. High rice prices were detrimental to the poor during the crisis in 1997/8 when the collapse of the rupiah led to a surge in the domestic price of trade able goods consumed by the poor, most importantly the price of rice. The Government restored relative macroeconomic stability in 2001, strengthening the rupiah and bringing down the price of rice as a result. During the period under review, mostly due to shortages as a result of the ban on rice imports, the price of rice surged about 30% above international prices, rising 55% between February 2005 and March 2006, far ahead of other domestic food prices and was considered to be the main factor in the increase in the poverty headcount in 2006 . In 2006, local rice cost over 40% more than rice imported from Viet Nam (Table IV.5).
had an explicit mandate to ensure price stability and was given monopoly import rights to enable it to achieve this. Growing inefficiency at Before the economic crisis, Indonesia had a good record for stabilizing rice prices: the real price of rice had been kept roughly at or near the world price for 20 years. During this period BULOGBULOG , together with the economic crisis led to the collapse of the rice stabilization scheme. At the end of the 1990s, BULOG lost its monopoly; import licences were granted to general importers with no quantity limits, and the private sector was responsible for over half of Indonesia's total rice imports.
The fertilizer subsidy comes indirectly in the form of a gas subsidy to the nitrogen/urea factories and in 2006 amounted to Rp 3,006 billion. The gas subsidy reduces factory prices enabling smallholder farmers (mostly food crop farmers) to obtain affordable fertilizer prices. The amount of gas subsidies is limited to the production needed by smallholder farmers. The Government determines the ceiling prices for the outlets where farmers obtain the fertilizer.
The Government also subsidizes some food crop seeds for rice, maize, and soybean. Two state-owned companies PT Sang Hyang Seri and PT Pertani were assigned as suppliers of subsidized seed for the period 1986-06 (regulated in the Minister of Finance Decree No. 100/PMK/2005). In 2006, the amount of the subsidy was Rp 165 billion, enabling farmers to pay lower prices. In 2007, the MOA plans to provide subsidized seeds directly to farmer, with a total subsidy value of roughly Rp 1.7 trillion.
To facilitate access to financial services, the Government provides subsidized credit to smallholder farmers. Farmers pay interest at 9% per annum, and the Government pays the difference between the commercial and the subsidized rates. With this scheme, smallholder farmer are expected to have more access to commercial bank financing as credit risks are shared among the Government, commercial banks and farmers.
To provide an incentive to rice farmers, the Government determines the rice procurement price (HPP), usually before the beginning of planting season (around October). In 2006, the procurement price was Rp 3,350 per kg or around US$365 per tonne.
The Government is facing difficulties in imposing high import tariffs on rice to protect its domestic farmers and rice industries. The specific import duty of Rp 430 per kg has been bound since 2000. However, illegal imports and the black market are two major challenges, due to the low price of rice outside the borders, rendering tariff protection and restrictive import policies less effective.
There was a brief period of free trade in rice between January 1999 and December 2003, initially with no tariff and then with a specific tariff of Rp 430/kg. From January 2004, the Government announced a seasonal import ban, which has been extended repeatedly so that is has effectively taken on the character of a permanent ban. BULOG became a state-owned enterprise and, while it claims to no longer have a mandate to stabilize prices, has responsibility for purchases and sales from BULOG stocks. The authorities indicate that BULOG has the capacity to absorb around 5% of total domestic rice production.
Fishing
In 1982, international recognition of the concept of the archipelago State permitted Indonesia to declare the waters separating the many islands to be an exclusive economic zone, thereby giving the country undisputed control over the vast marine fisheries resources of this area. These resources began to be developed in 1987, both through licences issued to foreign fishing fleets and the encouragement of private investment in the fishing industry. Particular emphasis was given to shrimp and tuna fisheries. Nevertheless, productivity in the sea-fishing industry has remained low while over-fishing in some areas has threatened to deplete fish stocks. Illegal fishing, by foreign and domestic operators, has also been a serious problem, causing both environmental damage and revenue losses estimated at about US$2 billion per year.
Fishing is also of great importance in the subsistence economy and fish provide an estimated two thirds of the animal protein in the Indonesian diet. However, there is a widening gap between supply and demand for fish. Many marine fisheries are in decline with the productivity of coastal reef fisheries threatened by the use of destructive fishing techniques and poaching. The fisheries in western Indonesia are operating at or above the maximum sustainable yields, leaving little room for further expansion in commercial fisheries.
Commercial effort is focused on high-value species such as prawns and tuna. Fishing in Indonesia accounted for 2.4% of constant-price GDP in 2004. The value of shrimp exports alone stood at US$824 million in 2004, with the total value of fish exports at around US$2 billion. As an archipelagic country, Indonesia has over 17,000 islands and 81,000 km of coastline, which provide an excellent resource for brackish-water shrimp farming to support the growth of shrimp exports. Japan is the largest export market for Indonesian shrimp, followed by the EC and the United States. One of the most critical challenges faced by the industry relates to quality standards imposed by developed country importers, including freedom from antibiotic contamination; Indonesian shrimp growers lack the capacity to comply. Other problems are the low productivity and high cost of production of domestic shrimps, which have caused difficulties in managing cheap shrimp imports from the likes of China, Thailand, and Viet Nam.
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