Database and Development Indicators

Indonesia
Improving the Climate for Investment and Productivity

Business Survey Highlights Investment Climate Challenge in Indonesia

JAKARTA, INDONESIA (26 May 2005) – A business survey conducted jointly by ADB and the World Bank provides further evidence of the need for strengthened efforts to improve the investment climate and reduce the costs of doing business in Indonesia.

The report, Investment Climate and Productivity Study [PDF: 1,608 kb, 48 pages] (ICS), presents and analyzes the results of a survey of more than 700 medium and large manufacturing firms in 11 regions in Indonesia in 2003. The survey was conducted in collaboration with the Coordinating Ministry for Economic Affairs and the Central Board of Statistics.

Survey respondents identified three areas of primary concern:

• macroeconomic instability
• economic and regulatory policy uncertainty
• corruption

These were followed by taxation, the cost of financing, and labor issues (see chart below).

Mean Business Obstacle (0 = no obstacle, 4 = very severe obstacle)

Source: Investment Climate and Productivity Study, 2003.

The constraints are felt more sharply by large firms, multinationals, and exporters. Across regions, fundamental problems leading to low investment and productivity persist but vary in scope and degree, study notes. Firms outside Jakarta, for instance, say they must deal with more serious regulatory constraints but experience less corruption.

The study reveals that decentralization has led to deterioration in the business climate, especially in terms of a worsening of economic and regulatory policy uncertainty and corruption.

“Indonesia has achieved macroeconomic stability in recent years but investment, a critical component in the country’s growth historically, remains low,” said David Jay Green, ADB’s Country Director for Indonesia.

“The Government has acknowledged the weakness surrounding the investment climate and has initiated reforms to improve it. The success of these reforms is crucial to future economic growth. Increasing the level of investment in the country is critical. This is a daunting challenge given that investor confidence remains low,” he said.

In the survey, 79% of large firms and 59% of medium-sized firms identified economic and regulatory policy uncertainty and macroeconomic instability as a moderate to severe obstacle to further growth and investment.

“In several other aspects of the investment climate, firms with two or more establishments tend to face more constraints than those with only one establishment,” according to the study.

“There is a higher percentage of firms among those with two or more product lines that experience business obstacles than those with only one product, especially in taxation issues, labor issues, economic and regulatory policy uncertainty, and macroeconomic stability.”

Corruption is another serious concern with 38% of firms surveyed saying it is a major or very severe constraint on their business.

“Corruption is one of the greatest obstacles to economic and social development, as corruption undermines development by distorting the rule of law and weakening the institutional foundation on which economic growth depends,” the study states. “Corruption also stifles private sector growth and hurts the poor because it diverts public services from those who need them most.”

Corruption at the national level in Indonesia amounts to 4.6% of total sales, according to the study. At the local level, corruption amounts to 4.8% of total sales.

The study identifies three critical areas in which action is needed to improve the investment climate and foster economic growth:

• Institutional reform – the legal system and contract enforcement must be strengthened to improve policy credibility and consistency
• Local government capacity – the decentralization program has given local governments an expanded role in local administration and there is a need to improve official capacity to fulfill this new role
• Infrastructure – the infrastructure required for daily business operations such as power supply, transportation systems, and water supply, must be improved.
  

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