The proposed Technical Assistance (TA) is in line with ADB decentralization program in Indonesia, and complements the ongoing ADB programs in the public finance management (PFM) such as the State Accountability Revitalization (STAR) Project , and also ADB's capital market development program, such as Financial Market Development and Integration (FMDIP) Program. The project aims to build the capacity of the regional level authority to tap into financial resources beyond central government transfers particularly for local government infrastructure financing through bond issuance, hence addressing the weak link in Indonesia's capital market program
ADB views strengthening debt management capacity and creditworthiness of sub-national government at local and regional levels with an emphasis on municipal bonds is an important conduit to improve governance aspects at local level and also opens access to capital market. The program will support one province in its effort to access capital markets for infrastructure finance, and improve the regulations that regulate the municipal bond issuance as well as capacity building for the central government.
In designing the proposed TA, the Mission took into account:
1. Address the issue of supply and demand side of the subnational bond market in Indonesia.
On the supply side, the proposed TA will focus on working with the provincial government of West Java in improving their capacity in planning for capital investments, project selection, and improved financial management capacity. Increasing the capacity of SNGs in project selection will be a key to a successful local government bond market because the government regulation on municipal bond states that each municipal bond must be linked to a viable project that can provide a regular revenue stream to the SNG (i.e. modified revenue bond, not a general obligation bond). Another crucial assistance is on the support for improving financial management.
On the demand side, the proposed TA will focus on fine tuning the existing regulation on subnational bond. As such, some of the activities will work directly with OJK and possibly Bank of Indonesia. For example, the activities that will be undertaken are promoting subnational bond as one of the public securities so that they become admissible for statutory liquidity ratio (SLR) investment by commercial banks, improving the existing regulation on subnational bond on public disclosure and public investment guidelines, and conducting a shadow subnational bond issuance.
2. The synergy with the Economic Master Plan for 2025 or MP3EI master plan.
The master plan identifies the need for more infrastructure investment by the government to accelerate and expand the economy by 2025. The master plan's approach is to expose the competitive advantage of each region in Indonesia. Thus, it divides the country into 6 economic corridors. Within the corridors, the master plan identifies the infrastructure needs. The proposed TA takes into view for infrastructure needs in the selection of sub-national government that it will work.
3. Experiences from other development partners in advocating municipal bond in Indonesia.
In the implementation of the proposed TA, the experience of the World Bank team in assisting the Government of Jakarta will be taken into account. The Government of Jakarta has already initiated plans to finance $120 million of their capital expenditure through a municipal bond. The funds raised will be used to finance projects in water and sanitation, transport, and housing. It was initially planned for the bond to be issued at the end of 2012. However, the new Governor stopped the process on the basis of high budget surplus from 2011. Understanding the local political economy context in proposed SNGs under the proposed TA will assist the smooth implementation of the TA.
4. Work with a local government that plans to issue a subnational bond before the end of 2015.
The main local governments that will be assisted under the proposed TA is West Java. The focus on West Java is based on:
1. Earlier ADB's assistance has provided shadow rating for West Java. The rating result was AA or three notches below the rating of the central Government's treasury. According to the rating report, West Java's strong cash reserve position and robust economic growth have made the province's rating to be good. However, issues related to high poverty needs to be addressed to improve the rating.
2. The need to have more private sector participation in West Java to meet their capital development plan. As the third largest regional economy in Indonesia, the West Java Planning Agency estimated that the provincial government needs at least USD31 billion to finance their capital development expenditure in the next 30 years. Attracting more private investment requires commitment from the provincial government to continue to address PFM. In this context, the provincial government has already implemented measures that have improved its governance rating. Measures, such as installing a regional finance management system (with the help of ADB), have improved the ranking of their Performance Evaluation of Regional Government (EKPPD) from the rank of 15 out of 33 in 2009 to rank 8 in 2012. The improvement is also recognized by the Supreme Audit Board (BPK) by awarding the provincial government's financial statement an unqualified opinion. These advancements in governance are aimed to attract more private investment.
3. The provincial government's commitment to issue bond. As such, a governor's decree on establishing a formal team that consists of the regional planning agency, finance division, economic division, and also the governor's office was issued in October 2011. The team has actively met other relevant stakeholders at sub-national and national levels. A feasibility study and a time schedule on the issuance have also been produced. Following the timeline, West Java's municipal bond is expected to be issued by September 2015.The team budget is also indicative of the province's commitment. From the stand-point of the Ministry of Finance, the province's achievement on getting an unqualified opinion provides a clear path for them to issue a municipal bond.
4. A local infrastructure project needs that links to national interest. The Kertajati international airport which will be the underlying project to be financed by the bond proceeds is also listed in the MP3EI, thus it links to national interest. As such, the aero part of the airport will be the responsibility of the central government, and the State Budget has been allocated to support the development of the aero part.