Catalog

1. Creating Basic Institutions and Improving Governance

a. Anticorruption

125. Needs. Reduce the burden of widespread, systemic corruption exacts. Specific actions include (i) encouraging market competition (para.148), (ii) promoting civil service and PEM reform, (iii) supporting citizen participation in public decision making (para.131), (iv) legal and judicial reform (para.128), and (v) ensuring that ADB projects are models of best practices.

126. Other Agencies’ Activities. Separately and through the Partnership for Governance, ongoing and planned aid-funded programs involve (i) providing direct TA to the Attorney General’s office, (ii) supporting the drafting of a nationwide plan of action, and (iii) funding a wide range of specific activities including the support of non-government organizations (NGOs). Within the Partnership, the World Bank has taken the lead in coordinating efforts in this area and further provides specific support for civil service and PEM reform.

127. ADB’s Role. ADB should continue to support anticorruption efforts, coordinating its activities within the broader work program of the Partnership for Governance. Within this structure, several important areas of work are present for ADB:

1. An independent anticorruption commission is mandated by Law No. 31 of 1999 on the Eradication of Criminal Acts of Corruption.²⁹ ADB should continue to support the establishment of the commission.
2. Effective operation of this commission demands concurrent activities for legal review and reform, and extensive consultations with the Indonesian public and civil society. An example is the current ADB TA supporting a governance audit of the Indonesian public prosecution service, providing in the process substantial public consultations.³⁰ The governance audit will be used to make informed decisions about reform of the public prosecution service in a systematic and strategic manner.
3. ADB’s operations must be models of best practices and support improving governance in public agencies. ADB (a) will continue efforts to strengthen staff dedicated to project administration and disbursement activities, (b) will strengthen recently initiated high-level dialogue with ministry officials over current practices, and (c) will conduct joint CPRM exercises with other major agencies to spotlight issues of project financial management.
4. Anticorruption efforts must be included in agency capacity assessments conducted in the course of sectoral reviews and project design.
5. Current involvement in broader public sector financial management and procurement capacity building in the public sector will continue.

b. Legal and Judicial Reform

128. Needs. Many actions must be taken to enable the legal and judicial systems to be supportive of more general reforms. A thoroughgoing reform of the judiciary is critically needed to reduce KKN. The Government created the National Commission on Law Reform (NCLR) to advise the President. The NCLR has created a series of commissions to fashion work plans. Reforms are required to strengthen the organization of the poor, promote their legal rights, and extend the rule of law to rural areas. Actions are needed to support the development of regulatory institutions (para.151). There is need to develop gender neutral laws (para.196).

129. Other Agencies’ Activities. As an important focus for the Partnership for Governance, the World Bank has taken the lead in coordinating aid activities, and bilateral agencies such as USAID and the Dutch Government have provided considerable support.

130. ADB’s Role. ADB should focus on activities complementary to specific projects and programs. For example, ADB has provided assistance to revise laws in the energy, finance, and social sectors, and support the decentralization process. This work should continue and specific efforts should be within the coordinated efforts of the Partnership for Governance and tied closely to broader sectoral commitments. Reform needs assessments will be conducted in the course of sectoral reviews and project design. High priority sectoral areas for continued work include corporate governance, decentralization, environment and natural resource management, nonbank finance, and private-sector infrastructure investment.

c. Support for Civil Society

131. Needs. To strengthen institutions, particularly NGOs, to give voice to the concerns of people at the grassroots level; to support local governments to be more responsive to local needs; and promote good governance.

132. Other Agencies’ Activities. Through the Partnership for Governance and separately, USAID, other bilateral sources, and international NGOs such as Asia Foundation are particularly active in strengthening the role of NGOs and encouraging wider participation in government decision making.

133. ADB’s Role. ADB will widen the involvement of stakeholders in ADB operations, not only in preparing, processing, and implementing projects, but also in advisory assistance, country programming, and strategy preparation. Efforts should also foster better public understanding of ADB’s activities. IRM will specifically work with ADB missions to ensure civil society participation. ADB’s rural development operations and those in less developed areas offer opportunities to strengthen partnerships with civil society organizations, including NGOs, legislators, universities, and labor organizations. Avenues to achieve meaningful results include ADB’s support for decentralization and for environmental protection. The Japan Fund for Poverty Reduction will be useful in reinforcing ADB activities in this area.

2. Encouraging Pro-Poor and Pro-Jobs Sustainable Recovery

134. The COS for Indonesia is in many respects a private sector strategy, as it recognizes the need to develop a private sector that can support sustainable poverty-reducing growth. Promoting private sector-led growth involves multifaceted tasks and tools. The strategy for Indonesia is consistent with ADB’s Private Sector Development Strategy.³¹

135. Needs. Economic performance must be improved in two related respects: (i) in the near term the yet fragile recovery must be strengthened, and (ii) the relatively pro-poor growth seen in Indonesia in the past must be resumed. Both require rebuilding investor confidence to ensure strong private sector participation. In the Government’s terms, the recovery must become pro-jobs, supporting the creation of employment opportunities and income growth.

136. Other Agencies’ Activities. IMF and the World Bank take the lead in macroeconomic policy reforms. Bilateral technical assistance is available for areas such as foreign direct investment (FDI), PEM, and privatization. International Finance Corporation (IFC) has programs of equity and loan support to the private sector, without government guarantee, and programs of technical assistance to SMEs.

137. ADB’s Role. ADB must continue to support the macroeconomic stabilization program of the Government with IMF. More proactively, ADB will support the policy and institutional environment promoting the private sector, particularly in corporate governance (para.155), nonbank financial institutions (NBFI) (para.143), SOE reform (para.142) and SME development (para.148), and in sectors such as agriculture, power, and transport.

138. ADB should also continue to support the private sector through nongovernment-guaranteed debt and equity financing and through the use of guarantees without government counterguarantees. This is important to promote competition, deregulation, and privatization, and good corporate and financial governance. The scope for direct support to the private sector is potentially large, given the ongoing programs for privatizing SOEs, merger and consolidation of financial institutions, and corporate debt restructuring. ADB’s ongoing program of encouraging privatization of national water supply enterprises (para.179)—through policy reform as well as direct investment without government guarantee—may serve as a model for supporting privatization.

139. With respect to private sector support, ADB must proceed cautiously. The overhang of external and domestic debt, exchange rate volatility, weak banking system, limited governance structures, and political-risk concerns constrain private investment, both domestic and foreign. ADB’s private sector portfolio has been seriously affected by the crisis. ADB will of necessity take a selective approach to new debt and equity financing of the private sector; however, it must move resolutely when solid opportunities appear. Areas that may offer potential for private sector operations include banking, nonbanking financial institutions, energy (particularly power and gas), social infrastructure, and export-oriented agroprocessing. This form of investment in Indonesia’s economic future will strongly complement ADB’s assistance for policy and institutional reforms in the recovery phase.

b. Supporting and Focusing Infrastructure Investment

140. Needs. Sound infrastructure is a prerequisite for poverty-reducing growth. Most major sectors are dealt with in other sections of the report: rural infrastructure (para.172), social sector (para.183), transport (para.180), and urban sector (para.176). Energy and communications are discussed here. In the gas sector, in telecommunications, and, a fortiori, in the oil sector, investment can mostly come from private sector sources. Power sector needs include maintenance of the relatively developed electricity system in Java-Bali and extension of service to the less developed islands. The risk of power shortages in Java-Bali must be sensibly diminished. In telecommunications, there is the need to maintain and improve of services in the more developed areas and to extend the service to more isolated islands. Appropriate regulatory institutions must also be developed.

141. Other Agencies’ Activities. JBIC finances public sector investment in gas and electricity development and in telecommunications, supported by JICA technical assistance. German assistance also finances public energy sector investments. The World Bank provides policy advice in the energy sector and IFC can provide non-government guaranteed investment in the two areas. Technical assistance on policy issues such as regulatory development is available from bilateral sources in some cases.

142. ADB’s Role. ADB’s operations over the years have contributed to meeting infrastructure needs, while encouraging reliance on the private sector, where possible, especially for communication and energy. In telecommunications, ADB public sector assistance is anticipated to develop a comprehensive information technology (IT) strategy (para.159). The need for ADB actions in the energy sector varies by region. For natural gas, ADB may be required to assist in strengthening transmission and distribution networks to support efficient energy use and improve access, especially for the poor. For electric power, possible operations related to rural development in the less developed islands include expansion of rural electrification and renewable energy use. For more developed areas such as Java-Bali, ADB will need to undertake the following:

1. Work with the Government to continue implementing the ongoing power sector restructuring through further policy-based lending and TA. This will require attention to the (a) unbundling of vertically integrated services and establishing a competitive electricity market, (b) financial sustainability of service provision, (c) access of the poor to basic services, (d) developing appropriate regulatory institutions, (e) resolving problems now facing private sector power providers, and (f) incorporating “best practices” with respect to the environmental impact of infrastructure development. The Japanese and the World Bank have indicated a willingness to act together and have requested ADB to lead in coordinating discussion with the Government on these issues. This may require considerable time, especially to maximize private sector participation in the electricity market being established in Java-Bali.

2. Develop a partnership with other interested funding agencies to ensure that investment requirements will be met. ADB would be a catalyst, providing coordination and technical support. For example, the Government has specifically asked ADB assistance in preparing build-operate-transfer (BOT) project proposals for international tendering. ADB’s assistance may also be requested to enhance the capacity of the Government to negotiate with private sector investors. The World Bank has indicated a willingness to act in this regard and activities should be coordinated.

3. Support, where necessary, power investments to complement the public sector technical assistance activities. More broadly, within infrastructure sectors, particularly electric power, the Government has specifically requested ADB assistance in preparing BOT project proposals for international tendering to ensure competition in choosing private sector developers in regions where a competitive market-based structure will be unsuitable in the medium term. ADB’s assistance may also enhance the capacity of the Government to negotiate with private sector investors.

c. Financial Sector Development

143. Needs. Restructuring the financial sector is key to sustained economic recovery and continued growth, reduced macroeconomic volatility, and improved social protection. Bank restructuring, regulatory strengthening, and commercial bank supervision must continue. Nonbank financial sector reforms are equally important: improving the capital markets and reforming the pension and insurance sectors, both sources of long-term funding and investment, will increase financing options for corporations. A revitalized corporate sector will, in turn, support sustained economic growth and reduce poverty over the long term. These are long-term goals, demanding considerable institutional change.

144. Other Agencies’ Activities. The World Bank supports work in the banking sector. IMF supports strengthening of the Central Bank. Bilateral programs, particularly from USAID, provide technical assistance.

145. ADB’s Role. ADB will especially focus on the nonbank financial sector, particularly to encourage the formation and strengthening of regulatory institutions and support broader and deeper reforms. Primary ADB objectives will include (i) promoting good governance to achieve a more stable, efficient, and resilient financial sector; (ii) improving social protection for those covered as well as expanding coverage, through reform of pensions and insurance sectors; and (iii) improving the country’s access to global capital markets. This will extend ADB’s work, initiated in 1998, in financial governance reforms. The proposed financial sector strategy is based on maximizing synergies of reforms of pension, insurance, and capital markets. An increased flow of funds from the pension and insurance sectors into the capital markets will also increase the amount of long-term capital available for corporate restructuring, which should, in turn, stimulate employment, social stability, and development.

146. Efforts on pensions and insurance will promote vibrant, efficient, and well-functioning sectors that provide adequate support to the population in a fiscally and socially sustainable manner. Some primary social concerns to be addressed include assuring adequate minimum income for the aged, cushioning unanticipated declines in household income, and expanding coverage to include larger segments of the population. In addition, some proposed measures aim to prevent systemic crises in the insurance sector by targeting financially unsound insurance companies for swift restructuring and by strengthening the legal and regulatory framework.

147. Nonbank reforms in capital markets will focus on (i) strengthening supervision of and enforcing compliance by securities markets participants; (ii) enhancing transparency in market transactions; (iii) improving corporate governance standards of publicly listed firms; and (iv) supporting the modernization of market infrastructure, including stock exchange and depository institutions.

d. Supporting a More Competitive Economy

148. Needs. Prerequisites for a more competitive economy include an improved business environment, corporate restructuring, and sector and economy-wide reforms that promote competition, governance, and balanced growth in industry. SOEs, an important segment of the economy, need focused corporate restructuring, including those in the power sector. Specific programs of support for SMEs should be market-oriented to redress past policies and ensure that barriers to SME development are removed.

149. Other Agencies’ Activities. The World Bank, bilateral sources, and specialized agencies of the United Nations (UN) provide policy advice. IFC provides a package of assistance for SME development and supports SOE privatization. Japanese assistance programs support industrial restructuring, including in power.

150. ADB’s Role. ADB will support policies to promote industrial efficiency and competitiveness through deregulation and liberalization, corporate restructuring, SOE privatization, sound corporate governance, and an improved business environment. In the state sector, ADB will support the development of (i) a common analytical framework for assessing the viability of SOEs, (ii) financial and operational restructuring strategies for SOEs, and (iii) operations to identify sound privatization options with support mechanisms to finance restructuring. This work complements general good corporate governance actions. Programs of SOE reform must recognize possible negative consequences, and projects must be designed to mitigate impacts, for example, of labor retrenchment.

151. ADB has engaged the Government in policy dialogue on the proper role of the public sector in developing competitive markets and sectors such as agriculture, finance, natural resources, power, transport, urban, and water supply. Restructuring and liberalization efforts typically demand careful review of administrative and regulatory responsibility. Developing basic regulatory institutions demands years of efforts and concurrent strengthening of government capacity. Some necessary activities, such as pricing for public or utility services, touch on politically sensitive issues that often fail to produce a consensus for change. ADB should be prepared to maintain such efforts, supported by sectoral ESW and in coordination with other international funding agencies.

152. ADB already gives major assistance to provide significant opportunities for SMEs and to improve incentives for the trade and industry sector.³² Future assistance will improve access to export and domestic markets; support debt restructuring, improve investment and marketing advisory services, increase access to financial services, assist public institutions such as the Competition Commission, strengthen linkages to the large scale manufacturing sector, and support implementation of environment management standards.

153. SMEs require active project assistance as well as appropriate development policies. An ongoing ADB project is formulating an active program of assistance to SMEs, particularly in poorer areas of Kalimantan and Sulawesi.

154. Technical assistance to support policy reform, especially regulatory and supervisory institutional development, should be coordinated with the World Bank’s and other aid agencies’ efforts in industry and trade policy. SMEs will require both technical assistance and funding through loans and equity investments. Coordinating with other funding agencies such as IFC, Asia Foundation, and USAID is crucial.

e. Improving Corporate Governance

155. Needs. The crisis exposed serious weaknesses in the operational framework of both public and private financial and corporate entities. The agenda of reform in corporate governance is substantial, as there is need to promote governance at the corporate level as well as from the policy, legal, and regulatory standpoint. Promoting investor awareness is a particular need.

156. Other Agencies’ Activities. Although a number of multilateral and bilateral sources provide assistance within and parallel to the Partnership for Governance, ADB has been given the lead role to formulate the agenda and coordinate work on corporate governance reforms.

157. ADB’s Role. In addition to addressing issues of competition, ADB needs to support measures to improve the commercial environment for enterprises. These include developing legal provisions that improve the disclosure of information, enhancing protection of shareholders and creditors, improving accounting and auditing standards, strengthening rules for listing on the stock markets, and improving regulations on transactions in financial markets. Improving corporate governance complements the strengthening of NBFIs, SOEs, and SMEs. ADB’s involvement in such areas needs to extend from development of an overall strategic and institutional framework for corporate governance to codification of amendments in the law to clarify authority and responsibility as well as to improve accountability and disclosure mechanisms. In addition, ADB’s support must extend to improving corporate governance at the regulatory, company, and investor level. Strengthening governance at the regulatory level is particularly critical to ensure effective oversight and enforcement of the legal and regulatory framework.

158. The Government established the National Committee on Corporate Governance (NCCG) in August 1999. The NCCG has both private and public sector representatives. Its mandate is to improve national understanding, introduce internationally compatible standards, and initiate efforts to improve corporate governance. It focuses on improving the company registration system, strengthening implementation of the company law, and improving accounting and auditing standards. ADB recently approved TA to the NCCG and should continue to provide support.³³

f. Positioning the Economy to Benefit from Changing Technology

159. Needs. Changes in information technology (IT) hold the promise of vast productivity increases in some sectors. However, the rewards of these changes are not costless, neither do they come quickly. The availability of Internet connections is rising, with approximately one-quarter million paid subscribers in 1999 and perhaps an equal number utilizing public access centers such as Internet cafes. Overall, however, the state of telecommunication lags behind that needed to support significant economic growth in many areas of the country. While there are some opportunities for small-scale, relatively non-capital intensive initiatives, the promise of the new IT economy will demand substantial public and private investment. Computers and telecommunications equipment must be made accessible to all, economic and social structures reorganized so that they are flexible enough to nurture appropriate changes. The education system must be relevant and accessible to all, markets must be competitive, there must be proper incentives for technology to flow from abroad, and the financial systems must support innovation and investment. The present public policy falls short of providing a strategy to ensure that public actions address the needs.

160. Other Agencies’ Activities. Bilateral programs and multilateral support for education provide some hardware and software support; Japanese assistance is available for some telecommunications investments.

161. ADB’s Role. The first step is to draft an adequate IT strategy in partnership with the Government and in consultation with civil society. The strategy could then be used to draft high-priority action plans. The strategy should acknowledge the following:

1. One aim is to raise the productivity of the rural economy and of SMEs by supporting the extension of information services to these low-productivity sectors.
2. Change at all levels of the formal education system is key. Efforts must complement more fundamental investments to upgrade education—computer literacy is above all an enhancement of basic literacy.
3. There is a wide scope for IT investment in nonformal education.
4. Efforts toward an information society will be stymied if there is no concurrent improvement in the telecommunications systems—no telephones, no Internet.

3. Balanced Regional Development for Regional Equity

162. Unbalanced regional development needs to be redressed in several ways: (i) supporting decentralization; (ii) enhancing rural and urban sector development; and (iii) expanding transport systems, particularly to link isolated areas to markets. Pro-poor investments contributing to economic growth are essential to bring about social stability. Public works programs will emphasize providing essential services, utilizing opportunities to revitalize local labor markets, and offsetting the hardships faced by poor households. The opportunities to address pro-poor investments should be maximized by connecting construction-related vocational training, providing viable employment opportunities, and improving access to assets through expanded infrastructure.

163. A geographic focus is needed to credibly address regional needs in agriculture, microfinance, roads and maritime infrastructure, rural electrification, small-scale infrastructure, and the urban sector. In many respects there is regional concentration of ADB assistance; between 1985 and 2000, ADB undertook over 200 subprojects in Sumatra, against 128 in Java and under 100 in any other area. In more recent years, project focus appears to have moved to the east, especially in Sulawesi and Kalimantan.

164. To improve program effectiveness it is necessary to provide guidelines for a geographic focus. In this, ADB must consider the incidence of poverty in a region—both the proportion of poor people in the population and the absolute number—and other indicators of developmental need. ADB must also take into account (i) the capacity of local governments and civil society to become partners in development, (ii) national and regional development plans, (iii) likely programs of other aid agencies, and (iv) other considerations such as maximizing synergy and complementarity in public investment. Competing considerations must be balanced to ensure maximum benefit. The process is not risk-free, and must include:

1. extensive fieldwork and participation by local governments and other stakeholders;
2. assurance that no region is ignored as aid agencies focus their efforts;
3. mechanisms for exchange of policy analysis, design, and implementation experience across the regions, to ensure that lessons learned can be shared; and
4. efforts to avoid discriminating against valid national or subnational programs due to emphasis on the regional approach.

165. Establishing regional offices may deepen communication between ADB and the local communities. Selecting the location can itself be a useful exercise if ADB encourages local governments to approach the decision-making process analytically. Dialogue has been initiated with the Government, World Bank, and JBIC to identify potential geographic centers. The following discussion of ADB guidelines for decentralization and rural and urban sector development is preliminary. Selected geographic centers will shape further details.

a. Decentralization

166. Needs. Decentralization has great potential to improve accountability and allow people at the grassroots level to have more voice in public decision making. Implementation will be extremely complex. In the worst case, political instability and governance problems could be exacerbated. It is necessary to build capacity at the local level; support reorganization at the central level; and review and revise a host of rules, regulations, and laws. Local bureaucratic regulations have often been damaging to development of a market-oriented, dynamic agriculture sector.

167. Other Agencies’ Activities. Separately and through the Partnership for Governance, the World Bank and bilateral sources such as GTZ, CIDA, and USAID support a wide range of capacity-building activities. GTZ has taken the lead in aid coordination.

168. ADB’s Role. ADB must promote institutional reforms that strengthen the capacity of local governments to undertake “bottom up” planning processes and make public decision making more transparent and accountable. ADB has supported the decentralization process, both at the center³⁴ and in the specific areas of basic social services (health and education), development administration, and environment management. Several ADB 2000 projects provide direct support for capacity building in local governments.³⁵ ADB should continue its efforts to support the decentralization process, in particular,

1. working within the Partnership to support regional governance initiatives;
2. assessing the capacity of local government partners;
3. ensuring that, within each sector, projects are consistent with local government capacity and appropriate capacity-building exercises are undertaken;
4. working with the aid community to coordinate capacity-building exercises, especially with bilateral funding agencies; and
5. assisting Government agencies to develop consistent strategies and implementing plans for decentralization, helping them move from an operational focus to one of setting standards, providing technical assistance, and enforcing regulations.

b. Rural Sector Development

169. Needs. The rural sector is home to the largest segment of the poor. It has not yet recovered from the double difficulties of the economic crisis and the drought caused by El Niño in crop year 1997/98. The sector has stagnated in the 1990s with little indication of productivity increases, and is constrained by low technology and productivity, inadequate resources, deficient infrastructure, weak social capital, and a constraining policy and institutional environment. Rural development is the key to opening many isolated areas to development.

170. Other Agencies’ Activities. World Bank and Japanese assistance support rural development through infrastructure in irrigation, roads, and microfinance. The World Bank is active in policy reform and advice.

171. ADB’s Role. ADB’s program should emphasize three aspects: change in farming systems, rural infrastructure, and rural finance. The first is especially important to ensure that appropriate farming systems are developed to realize the comparative advantages of the diverse localities of Indonesia. Sharply altered terms of trade since 1997 suggest wider opportunities for export-oriented crops. Technology transfer, raising the productivity of agriculture, and rural nonfarm activities can lead to diversified agriculture in line with contemporary terms of trade and production costs. In many areas this will involve encouraging mixed farming systems, including community-based estate crop programs. Innovative community-based approaches will be needed and appropriate solutions are likely to be very localized. For this reason, a geographic focus can have a particularly strong synergistic effect, allowing a concentration of ADB resources.

172. Rural infrastructure investments are vital to an overall program of rural development. Farm-to-market roads and storage and transshipping facilities can enhance marketing, distribution, and agroprocessing. Projects by the private sector and community-based organizations should be encouraged. Public sector investment in rural electrification, roads, and irrigation and watershed management may be necessary.

173. Rural financial intermediation will be a third major priority. ADB’s experience in rural finance, and successful Government and civil society models of microcredit delivery and savings mobilization will form the basis for designing future projects in this area, along with successful approaches already developed by the poor to lift themselves out of poverty.

174. These activities are necessarily long-term, but short-run problems must be addressed. In particular, the sector remains vulnerable to a recurrence of droughts brought on by El Niño. Developing an action plan to increase the resilience of the economy to droughts is discussed in para. 225.

175. Investment in agriculture and rural development should be complemented by extensive policy and institutional reforms to make the development process more market-oriented and at the same time socially inclusive. Policy reforms to support market-based development will promote increased openness and competition, diversification and export-oriented production, and the removal of cross-regional barriers and distorted incentives including those that encouraged environmentally unsustainable practices. There is a particular need to encourage the private sector and community-based institutions to become more involved in agricultural development. Major institutional reforms will aim at supporting decentralized rural development. Reforms are needed to allow the poor to participate in all aspects of policy and project creation and implementation.

c. Urban Development

176. Needs. For urban development, the Government is moving away from conventional IUIDPs, and toward a broader concept of social development. Four elements are needed: (i) strengthening management capacities in local governments, together with heightened private sector involvement; (ii) increasing local communities’ participation in decision making; (iii) reducing income disparities in access to basic infrastructure services and shelter; and (iv) better targeting of assistance. In many localities, urban issues and rural issues overlap, making urban-rural linkages important.

177. Other Agencies’ Activities. The World Bank supports municipal and community development projects. Japanese aid funds urban infrastructure. German assistance has supported municipal capacity building and US assistance supports urban environment management.

178. ADB’s Role. The main objective of ADB’s urban sector strategy is to assist decentralization and urban social reconstruction by directly and indirectly targeting poor beneficiaries. This requires a geographic approach. Decentralization significantly alters the policy and institutional framework within which urban development is to be carried out. As this process is accelerated, local governments are required to plan, provide, and manage basic infrastructure services and housing as well as plan and implement urban development. Promoting efficiently functioning urban centers will require a holistic approach.

179. A major concern is restructuring the urban water supply and sanitation services hit by the crisis and restoring them to sound financial health.³⁶ ADB can catalyze private investment in these services. Private sector participation would reduce the burden of subsidies on the budget and augment the development resources of local governments. Improving water and sanitation services also reduces pollution. Delivery of these services to the poor will require innovative approaches. Since water supply and sanitation services relate to public health concerns, operations will need to be coordinated.

d. Transport Systems

180. Needs. The shrinking development budget has taken a toll on the existing physical infrastructure assets in transport. Transport assets urgently need rehabilitation and some new investments are needed to sustain economic recovery and restore strong growth. Road and sea transport are particularly important for less developed and isolated areas.

181. Other Agencies’ Activities. The World Bank has supported road sector development, and railway sector reform and policies to encourage private financing for transport infrastructure. Japanese assistance supports road improvement, and German assistance has funded the railway sector.

182. ADB’s Role. ADB will support rehabilitation works that best enhance development potential: linking remote and less developed areas to growth centers; strengthening interisland flow of people, goods, and services; and opening up remote hinterlands to revive economic activity and increase productivity. Urgent policy issues include a strong pro-poor and regional focus in project design. Individual projects must be linked to regional development strategies. Moreover, given the tight fiscal capacity, ADB must work with the Government to develop mechanisms for sector financial sustainability and/or cost recovery. ADB must take a proactive stance to catalyze private sector involvement and investment. Private sector investment may be feasible in ports, shipping, distribution networks and facilities, and in civil aviation and airports.

4. Social Development

a. Enhancing Service Provision and Access

183. Poverty reduction includes improved access to basic social services such as education, health and nutrition, safe drinking water, and sanitation. Poverty assessment shows that Indonesia underinvested in these areas. Given the financial constraints likely to face the Government in the near term, it is unlikely that the overall level of public expenditure will increase. Care must be taken to ensure that the decentralization process enhances service delivery, particularly to the poor and less advantaged. The following sections specifically discuss education and health.

i. Education

184. Needs. Quality and equity remain substantial issues at all levels in education. The quality of education has in general been unsatisfactory, with problems in curriculum relevance, teacher quality, and provision of instructional materials. Although nearly universal access to primary education has been achieved, almost 70 percent of a cohort fail to graduate on time. Dropouts and high-grade repetition rates make the delivery of education costly and inefficient. Existing non-formal education alternatives reach only a small proportion of out-of-school youth. Higher education remains essentially the preserve of the middle-and upper-income groups, and the quality and relevance of much higher education instruction remain doubtful.

185. Other Agencies’ Activities. The World Bank targets provincial- and district- level school development, conducting parallel projects with ADB. The United Nations Children’s Fund (UNICEF) is active and CIDA supports HRD. The Japanese and Australian aid agencies support technical and vocational education.

186. ADB’s Role. The achievement of universal quality basic education will require significant investments, and community and private sector involvement. The organizational complexities of primary education delivery, with responsibilities shared among several ministries, centralized management (particularly of junior secondary education), and rigid and fragmented budgetary processes pose serious obstacles. Schools need to plan and manage integrated budgets that allow them to respond quickly and directly to perceived needs.

187. This strategy could be most effectively implemented through a decentralized approach to education management that encourages community participation and develops district capacity to plan, manage, and allocate resources. But these school-oriented approaches will not suffice. Poor families will still struggle to meet out-of-pocket costs of transportation, lunches, and uniforms; and accept the high opportunity costs of an enrolled child’s lost labor. It is essential to develop community-based programs of incentives to reduce dropouts.

188. A focus on basic education is clearly most closely linked to poverty reduction, but this does not imply that all resources must be allocated to it. Indonesia also requires highly specialized skills in a variety of fields if it is to develop its economy. Appropriate investment in higher education and skills training is therefore justified, even in the context of a focus on the poor. Investment in higher education and skills development should, however, (i) maximize private sector involvement, (ii) reorient the role of the government away from delivery and toward policy development and supervision, and (iii) ensure equitable access to higher education and skills training by women and the poor.

ii. Health

189. Needs. Health and nutrition issues are critical. Indonesia's health care delivery system has low efficiency and effectiveness in allocating, utilizing, and managing resources. The traditional vertical system of health care planning and budgeting does not allow decentralized decision making. It is complex and inflexible due to complicated procedures and fragmented budgetary sources. The system does not recognize or reward performance, and does not encourage improvement and expansion of services. 190. While the average nutritional status of Indonesia has improved over the decade prior to the crisis, nutritional status is still in many provinces very low. The crisis highlighted the vulnerability of the poor. Nutrition programs must therefore remain high priority. It is also recognized that the poor face increasing health risks from environmental problems such as pollution.

191. Other Agencies’ Activities. The World Bank targets primary health care. UNICEF is active and CIDA supports HRD. The Australian, Japanese, and US aid agencies, and other bilateral programs support health activities, especially those related to women and children. NGOs are also active in the field.

192. ADB’s Role. ADB will continue policy dialogue and support for reforms and investments that ensure access to quality essential services, targeting especially the poor and vulnerable groups. With decentralization, strengthening local technical capacity and marshalling local support for health services will be the immediate priority. Reforms and investments will be pursued in parallel. To guarantee sustainability, reforms in health care financing are needed: these imply mobilization of new resources, better targeting of public subsidies to the poor, developing effective public-private partnerships, and encouraging private investment in the sector. Decentralization will facilitate community participation, directly and with the assistance of NGOs, in identifying local health needs and implementing locally appropriate solutions. Priorities include the health of women (reducing maternal mortality and improving reproductive health) and children (nutrition and early childhood development). ADB will also continue supporting the successful family planning program, improving quality, and widening choice. ADB’s efforts will focus on primary health care and first-level referral services (district hospitals) that not only have proved cost-efficient, but also benefit most the poor and disadvantaged.

b. Social Protection

193. Needs. Some groups and communities remain outside the reach of the development process. Reaching them may require targeted poverty reduction initiatives. Social assistance and social insurance are two well-known vehicles to address the needs of these groups. Indonesia did not have effective systems in place during the economic crisis. Some programs—early warning systems for famines, labor-intensive works, and nutrition programs—had previously been tried but discontinued in the early 1990s. Nevertheless, significant social safety net programs were quickly put in place. Social insurance efforts have been discussed (para. 146). A related problem is to support social assistance for the large number of people displaced due to political and ethnic strife. This issue is discussed in para. 222.

194. Other Agencies’ Activities. The World Bank and the Japanese aid agencies worked with ADB in supporting social protection efforts during the crisis. Many bilateral and NGO programs target various aspects of social protection. Specialized agencies of the UN support efforts in a number of relevant areas, including humanitarian assistance, support for refugees, and labor-market policies.

195. ADB’s Role. During the crisis, ADB played a major role in implementing social safety net programs. This has helped develop staff skills and institutional knowledge concerning the sector. The COS will support the transformation of existing social safety net systems from crisis-response interventions to a more sustainable public delivery system for the urban and rural poor. Social assistance activities must incorporate the following:

1. The social protection system should address food security, nutrition, basic health, education, and employment needs for the extremely poor, including the elderly and children, and must be gender-neutral.
2. The system needs to be fiscally sustainable.³⁷
3. The system needs to be flexible: in the event of another crisis, there must be mechanisms to channel increased assistance.
4. The design and operation must be consistent with and supportive of longer term work to develop pension and social insurance and social security programs.
5. Reforms and implementation of existing laws and regulations concerning labor and child rights will play important complementary roles.

c. Gender and Development Challenges

196. Needs. ADB consultations with local officials have made clear that an effective poverty reduction strategy must empower women in the spheres of governance, economic growth, and HRD. Such a strategy will emphasize gender mainstreaming in all operations, including policy dialogue, project planning, and implementation. Local government officials have provided ideas on how gender equity can be more effectively promoted. Approaches must vary depending on cultural factors and conditions in the different regions.

197. Other Agencies’ Activities. Most international funding agencies recognize gender and development issues as important. Many are involved in women’s health projects, and support gender equity in education, and livelihood activities to address the needs of poor women.

198. ADB’s Role. Conscious affirmative action is required to establish institutions and processes that genuinely mainstream women. Targeted interventions supported by ADB resources are likely to be needed in the areas of institutional development, public policy development, laws that are nondiscriminatory, extension of social protection, social service delivery enhancement, and development of monitoring systems. ADB operations in agriculture, education, health, and SMEs will be expected to explicitly target gender issues. Strategic partners in the international community will be sought to further this effort.