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Annual Report 2001

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Indonesia

Economic performance

GDP growth in 2001 in Indonesia was estimated to have exceeded 3.3%, slightly higher than previously forecast, owing to increased household demand. Household expenditures increased by 6% and government consumption increased by 5% in 2001. Investment in plant and equipment began to taper off from a relatively strong start at the beginning of the year.

Manufacturing showed strong gains at 4.3%, and utilities and transport increased strongly. On the other hand, agriculture continued to weaken throughout the year, growing only at 0.8% in 2001. The annual inflation (CPI) ran at 11.5% partly because of reduced fuel and power subsidies. Relatively lax monetary policy also contributed to inflation. The Government faced difficulties in financing the 2001 budget deficit targeted at 3.7% of GDP. Owing to shortfalls in expected revenues, vital expenditures were curtailed. Development expenditures declined drastically from 42% of total expenditures in the precrisis years to 10.5% in 2001. The financing problem was worsened by limited performance in privatization this year, although the Indonesian Bank Restructuring Agency achieved its asset-selling target. To reduce the fiscal deficit, significant increases in domestic revenue mobilization are necessary. The Government plans to work for further debt relief from the Paris Club. Weakening international markets affected Indonesian exports. The dollar value of exports through December 2001 declined to $59 billion, down by over 9% from its 2000 level. Oil, gas, and non-oil exports fell. Total merchandise imports also fell through December 2001 to $35 billion, dropping 12.2% from the 2000 figure. In light of external events, tourist receipts dropped to 30% below target. The current account surplus deteriorated from $8.0 billion in 2000 to $5.1 billion in 2001. A slight increase in unemployment and a fall in reported employment were experienced in 2001.

ADB operations

Operational strategy: A country operational strategy (COS) was finalized and discussed with the Board of Directors. The COS replaced the interim strategy used during the 1997 financial crisis, which focused on structural reforms for economic recovery and social protection for the poor and vulnerable. In contrast, the COS focuses on longer-term development challenges, stressing the need to improve governance. ADB activities will be directed specifically to private sector development, human and social development, and mainstreaming environmental management to ensure sustainable use of natural resources. Along with the new COS, the Partnership Agreement on Poverty Reduction provided guidance for the future program. Loan and technical assistance projects processed in 2001 represented a transition between those needed to ensure sustainable recovery and activities to meet the goals of the new COS. Relatively small loan assistance—two loans—was approved, reflecting the difficulties of readjusting assistance plans to be consistent with politically realistic reform goals and to meet the needs of a quickly decentralizing country. The State-Owned Enterprise (SOE) Governance and Privatization Program loan will support sustainable economic recovery by improving resource allocation in the public sector. Privatizing SOEs will allow the public sector to release scarce resources for poverty reduction and social development programs. Government commitment in this program loan is an important signal—offering the promise of a policy environment supportive of private sector development. The Decentralized Basic Education Project will support devolution of basic education management. Supporting the Government’s decentralization program, the loan will be implemented primarily by local governments, communities, and schools in rural and urban districts. To cope with growing demand for transport services and infrastructure, private sector resources (domestic and foreign) need to be tapped to reduce pressure on the available scarce public funding.

Policy dialogue: ADB President Tadao Chino reiterated during his visit to Indonesia in September 2001 ADB’s strong commitment to supporting the Government’s efforts for reform, fighting poverty, and promoting sustainable development. The Indonesia Resident Mission was strengthened and played an effective role in wide-ranging policy dialogue. ADB took the lead in coordinating the international community’s statement on poverty at the April Interim Meeting of the Consultative Group for Indonesia (CGI) and on education at the CGI meeting in November.

ADB has been involved in the Partnership for Governance Reform, being a founding member of this organization. The ADB technical assistance will provide scope for the Partnership to establish regional centers for its work. An important aspect of the ADB assistance in governance reform is to encourage decentralization, and the Community and Local Government Support Sector Development Program aids in drafting regulations and guidelines.

Other areas of reform emphasized in ADB’s program include financial governance, small- and medium-sized enterprise (SME) development, project and aid effectiveness, and energy policy. Policy dialogue in the financial sector focused on corporate governance. A proposed law to prevent money laundering offered an opportunity to widen the discussion and build political consensus toward strengthening financial institutions. SMEs were encouraged—through review and revision of the regulatory environment inhibiting SMEs—to grow and occupy a more prominent position in the economy. Other proposed legislation to reform the power sector, especially directed toward establishing a competitive market in electricity in the Java-Bali area, also offers a forum for wider economic policy discussion.

Loans and technical assistance: ADB approved two loans totaling $500 million in 2001 for the decentralized basic education project and the SOE governance and privatization program. ADB approved 19 technical assistance grants totaling about $15.9 million. Seven were to prepare projects on poverty reduction, power transmission, private sector participation in infrastructure, decentralized health services, capacity building for decentralization, participatory irrigation, and microfinance; and the rest were for advisory purposes on developing a financial services supervisory institution; formulating a gas sector development plan; decentralizing education management; developing leading indicators for poverty monitoring; privatizing and restructuring SOEs; strengthening procurement policies, legal framework, and institutions; commercializing public service obligations; providing a regulatory framework for private and public water supply and wastewater enterprises; supporting country financial accountability; promoting fiscal decentralization; and reforming water enterprises.

Project implementation: Since joining ADB in 1966, Indonesia has received 256 loans, of which 66 were active at the end of 2001. Contract awards totaled $456.3 million, bringing the cumulative total to $11.2 billion. The contract award ratio was 14.9%, higher than the ADB-wide average of 14.8%. Disbursements during the year totaled $686.0 million, bringing cumulative disbursements to $12.1 billion. The disbursement ratio was 17.4%, lower than the ADB-wide average of 20.5%.

A joint country portfolio review was conducted by the Government, ADB, Japan Bank for International Cooperation, and World Bank, focusing on four topics: strengthening institutional arrangements for portfolio management under decentralization, improving project management, streamlining disbursement processes, and mainstreaming project implementation readiness criteria. Further strengthening fiduciary standards for public procurement and financial management under decentralization, and instituting reforms in the public procurement and financial management systems will also be addressed.

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