Getting off the Slow Line

KOMPAS/HERU SRI KUMORO

Ari Kuncoro

A number of global financial institutions have revised down their predictions on the world economic recovery amid the resurgence of Covid-19 cases in India, which has put the country in a hot spot. Last week, India broke the world record with over 400,000 cases in a day.

Sooner or later, the global economy will be affected as India is one of the hopes for the world economic recovery from the demand side. For Indonesia, the International Monetary Fund (IMF) lowered its growth projection this year to 4.3 percent (from 4.8 percent in February). Likewise, the Asian Development Bank (ADB) set its economic growth forecast at 4.5 percent.

The two projections are not much different from the government\'s lower limit of growth prediction of 4.5 percent. With the latest growth predictions, it seems that Blomberg\'s prediction that the world will see two paths of recovery, the fast versus the slow lines, is soon to become a reality. It can be seen from the latest economic data of developed countries. The euro zone contracted 0.6 percent in the first quarter of 2021. At the same time, China and the United States grew 18.3 and 6.4 percent, respectively.

Sooner or later, the global economy will be affected as India is one of the hopes for the world economic recovery from the demand side.

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Growth path

Even though the Brooking Institute in the US has placed Indonesia as one of the countries that will book a positive growth in 2021, the country still needs extra efforts to make it happen. This is because economic growth in Indonesia since recovering from the 1998 monetary crisis still relies more on consumption growth. Investment growth is weakening. Unlike previous years, Indonesia just waited for the investors to come, instead of “picking up the ball”. The weak investment is also partly caused by overlapping regulations, which have contributed to a high cost economy.

Such regulatory weakness can be seen in the World Economic Forum (WEF)\'s Global Competitiveness Index. In 2019, before the pandemic, for example, due to complicated licensing procedures, the time required to start a business in Indonesia was ranked 103rd. Meanwhile, the cost of starting a business in the country was ranked 67th.

Even before the pandemic, the average quarterly investment growth (year on year) of 5.31 percent during the period between 2015 and 2019 was not enough to boost economic growth above 5.2 percent. A rough calculation shows that to grow in the range of 5.3-5.5 percent, investment growth of 8 to 9 percent is needed.

To achieve higher growth, in order to get out of the recession caused by Covid-19 more quickly, double digit investment growth of above 10 percent is needed.

The latest data from Statistics Indonesia (BPS) show that Indonesia is still outside its long-term growth path. Until the fourth quarter of 2020, annual investment growth was still recorded at minus 6.15 percent, slightly better than minus 6.48 percent recorded in the previous quarter.

Investment Ministry

In the last seven years after the commodity boom, Indonesia was in the steady state of the Solow Growth Model (1956) with the contribution of the consumption and investment in the GDP respectively at 59 and 32 percent, an average growth of 5 percent per year. To boost this growth, assuming a two-year time lapse from the start of investment to production, investment growth should be at least 10 percent in order to achieve economic growth of 6 percent per year.

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The figure is quite difficult to achieve if everything is done on a business-as-usual basis. This is a tough task considering that the highest growth in investment in the real sector since 2013 was only 7.94 percent (year on year), which occurred in the third quarter of 2018. If the economic growth target is more realistic, for example 5.5 percent a year, then investment growth of 8 to 9 percent a year is needed. This means it is quite difficult to achieve investment growth of 8 percent by conventional means. It is necessary to reorganize the growth engine out of the box, such as the establishment of the Investment Ministry.

In addition to making investment growth not optimal, overlapping regulations and licensing procedures also make investors look for projects that provide quick payback. The implementation of the Job Creation Law is expected to be able to solve this problem. Without it, businessmen will prefer to invest in trade, hotel and property, rather than in the manufacturing sector. The abundance of commodities during the 2004-2012 period contributed to such an investment trend. Industry remains expensive, so businesses in the manufacturing sector are not interested in establishing a domestic supply chain with other industrial segments. The linkages between the small, medium and large (corporate) industrial segments are so weak. As a result, most industries relied on imported raw and auxiliary materials.

Data at the company level in the manufacturing sector show that the ratio of exports to total output fell from 56.2 percent in 2014 to 39.9 percent in 2019. Meanwhile, imports of raw/auxiliary materials rose from 9.9 to 15.4 percent. Overall, in 2019, imports of raw/auxiliary materials accounted for 72 percent of total imports. There is nothing wrong with the imported raw materials, especially if the output is exported. However, it occurred because of an artificially high cost economy that killed the local substitution industries. It is not surprising that economic growth has caused high foreign exchange spending.

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As with a vehicle with a large body, the aerodynamic drag coefficient will be very large, making it difficult to go fast. If forced to race at high speed, it will use a lot of fuel. The pace of growth can only be accelerated quickly if the condition of the world commodity cycle is good. This also shows that the commodity bonanza has covered the weaknesses of the domestic industry.

Unlike the Investment Coordinating Board, which only has a coordination function and focuses on large domestic investment and foreign investment projects, the Investment Ministry has executive jurisdiction to make policies across sectors and industrial segments and to coordinate with other ministries. This potential is able to address the weaknesses of Indonesia\'s industrial structure by reducing the high cost economy and creating linkages between small, medium and large industries so that the pace of economic growth can be spurred faster. This is indispensable for post-pandemic recovery.

The Investment Ministry can also use the potential of the Indonesian diaspora through coordination with the Foreign Affairs Ministry. Vietnam, for example, received the largest share in industrial relocation from China, thanks to its diaspora, which has become a cultural bridge in connecting investors between nations. Apart from profit incentives, investment is also a long-term commitment that requires a comfort zone and mutual trust.

ARI KUNCORO, Rector, University of Indonesia

This article was translated by Hendarsyah Tarmizi.