Bangkok's poorly designed capital control rocks stock markets

Friday, December 22, 2006 Vincent Lingga, The Jakarta Post, Jakarta

Thailand's imposition of foreign exchange controls that caused a drop of almost 20 percent in local stock prices and systemic, yet smaller falls in other Asian markets Tuesday, is an example of a well-intentioned, but poorly designed and ill-timed policy.

For Thailand to slam controls on its capital account less than three months after the military coup is certainly counterproductive, especially because the military-appointed government has yet to build up its credibility in the market.

The stock market in Bangkok and other Asian exchanges did rally back Wednesday, recouping most of their losses from the previous day, after the Thai government rescinded the capital controls.

However, the Thai attempt to control capital foreign exchange flows will nevertheless resurrect the debate on the merits and drawbacks of controlling short-term capital inflows.

It was strategic, though, for Indonesian Finance Minister Sri Mulyani Indrawati and Bank Indonesia Governor Burhanuddin Abdullah to immediately and repeatedly reassure the market on Tuesday and Wednesday of Indonesia's strong commitment to upholding its fully open capital account.

Bank Indonesia has issued several regulations to minimize the risks of currency speculation against the rupiah without compromising its open capital account. In 2005, the central bank moved to limit foreign exchange derivative transactions with foreign counterparts against the rupiah to a maximum of US$1 million and to cap dollar purchases in outright forward transactions and swaps at $1 million.

The central bank also imposed a three-month minimum investment hedging period on foreign exchange transactions. This means that investors with underlying investment in Indonesia must keep their funds in the country for at least three months. Hedging transactions subjected to this new regulation include outright forward transactions, swaps and call and put options.

These moves aim to prevent wild volatility of the rupiah by reducing the speculative element in the currency market, by among other things decreasing the inflow of hot money to the country.

The return in droves of foreign portfolio investors to the Asian financial market after the 1997

financial crisis has raised great concern about market vulnerability to boom and bust cycles. Thai authorities have been apprehensive over the steady appreciation of its currency, the baht, and worried about the threat of currency speculation.

The reasons for fully liberalizing capital flows were partly pragmatic, as technological innovations, such as new financial instruments, made it easier to circumvent capital controls.
In Indonesia in particular, controls on foreign exchange flows could be highly problematic and vulnerable to corruption, due to the inadequate institutional capacity and high level of venality within the government bureaucracy.

Most studies have also concluded that liberalizing foreign exchange flows could stimulate growth by reducing distortions and enhancing access to foreign financing, as Thailand and Indonesia have proven with the bullish sentiments in their capital markets.

An open capital account may improve economic performance over the business cycle by encouraging more prudent domestic macroeconomic and financial policies, as well as improving short-term access to financing.

Policymakers in countries such as Indonesia with an open capital account are forced to adopt prudent policies because investors are free to bring their money elsewhere, whereas policymakers in countries with capital controls can pursue less prudent policies without being afraid of facing sudden massive withdrawals of funds, at least in the short run.

The potential long-run benefits of an open capital account must, however, be weighed against immediate costs: a country's vulnerability to global shocks or to sudden changes in investor sentiment. Capital flows are subject to pronounced cycles that may induce boom and bust cycles in production and investment.

One source of vulnerability is a mismatching of maturities or currencies, which makes recipient countries illiquid. Such a severe liquidity shortage makes a system vulnerable to panics, while policymakers' options are severely restricted, as painfully apparent in Indonesia during the height of its financial crisis in early 1998.

With capital controls, a central bank can set both the interest rate and the exchange rate simultaneously, at the cost of limiting capital inflows that could finance productive activity.
The question is do the benefits of liberalizing outweigh the costs?

As Indonesia's experience since the early 1980s have proven, the benefits seem to far exceed the costs.

Chile tried to control short-term (portfolio) capital inflows in 1991 by imposing an unremunerated reserve requirement (URR), first on foreign borrowing (except trade credit) and later on short-term portfolio inflows (foreign currency deposits in commercial banks and potentially speculative foreign direct investment).

The reserve requirement was raised from 20 percent to 30 percent. A minimum stay requirement for direct and portfolio investment from abroad also was imposed.

But these controls seemed to be less-than effective because investors found ways to circumvent the controls. The problems lie mostly in the difficulties in the design and application of capital controls.

Read full post »

Capitalizing on the Hong Kong platform

Friday, December 08, 2006, The Jakarta Post

The Hong Kong Trade Development Council (HKTDC) invited journalists from Australia, Asia and Europe, including The Jakarta Post's Vincent Lingga, to attend the 7th Hong Kong Forum of business associations from around the world. The meeting discussed the future role of Hong Kong amid the astronomical growth of mainland China's economy, which will probably become the second largest in the world within three to four years. Below are his reports.

Its integration into the global supply chain, its strategic location in the center of Asia and its position as the gateway to the world's fourth largest economy, China, have been and will continue to be the main advantages Hong Kong offers investors.

But the fundamentals that will sustain and even increase Hong Kong's role as the leading trading and financial center in Asia, despite the fantastic growth of China's Shenzhen, Shanghai and Beijing, are what senior economist Helen Chan calls the Hong Kong brand.

Ms Chan, with the Hong Kong Finance Secretary's Office, describes the key components of the Hong Kong brand: a strong rule of law, good governance, first class infrastructure and a credible financial services regulatory system.

Hong Kong Trade Development Council (HKTDC) Chairman Peter Woo uses a slightly different term: the Hong Kong Platform.

The recent issuance of the world's largest initial public offering, US$16 billion worth of shares, on the Hong Kong stock exchange is another indicator of Hong Kong's growing global role.

The Hong Kong equity market is the second largest capital market in Asia and the fourth in the world. With a total market capitalization of over $1.5 trillion, it raised $50 billion in the first 10 months of this year alone.

"As of October, 355 mainland Chinese enterprises were listed in Hong Kong, representing one third of the total number of listed companies and 46 percent of the total market capitalization," Financial Secretary Henry Tang told the Hong Kong Forum. In addition, Tang said, Hong Kong also is a leader in asset management, with $580 billion worth of business last year.

Hong Kong's extensive financial and business service cluster is unique in Asia for its breadth, depth, sophistication and mix of international and local firms. This cluster includes private banking, fund management, corporate finance, currency trading, insurance, venture capital finance, direct corporate investment and stock brokerage as well as support services such as legal, accounting, management consulting, executive search, public relations, advertising, communications and information technology support.

"Hong Kong will remain the leading financial and trading center in Asia," says Bramono Dwiedjanto, general manager of the state-owned Bank Negara Indonesia (BNI), which has operated a full branch in Hong Kong since 1962.

Dwiedjanto told The Jakarta Post last week that a number of financial and trading companies had moved their offices to Singapore immediately after the 1997 financial crisis in East Asia. But most of them have returned to Hong Kong due to its advantages.

" I don't think Singapore will ever take over Hong Kong's position," added Dwiedjanto, who worked for two years at the BNI branch in Singapore.

"Our long international business experience and our knowledge of China make us the best partners for foreign companies to do business with or in China, and for mainland Chinese companies to do business with the outside world," said HKTDC Executive Director Fred Lam.
Lam acknowledged that several cities in China have also been developing as major financial and trade centers.

"But it is not a zero-sum game between Hong Kong, Shenzhen, Shanghai or Beijing. They will supplement each other," Lam said.

Hong Kong is thus poised to play a pivotal role in the modernization of the Chinese economy.
There has been lingering concern about the sustainability of China's economic miracle under its one-party authoritarian system.

But almost 30 years after the opening of China's economy to the outside world, and nearly ten years after Hong Kong's reunification with China, their economic integration is proceeding quickly and smoothly. The "one country, two systems" principle has allowed Hong Kong to retain its capitalist economy and its own legal system.

Clusters of industries

Today many manufacturing companies have moved out of Hong Kong in search of lower-cost land and labor, notably to the Pearl River Delta region in southern China. Still, many industries remain active in Hong Kong, operating their local offices as trading companies and business headquarters that support offshore production.

They mastermind and control the production process from their headquarters in Hong Kong, making the most of location advantages and division of labor.

The relocation of Hong Kong's industry should thus be viewed as an expansion of Hong Kong's industrial sector, according to a 2005 study by Sung Yun Wing and Chou Win Lin of the Chinese University of Hong Kong.

Hong Kong is also a favorite base for the Asian regional headquarters and offices of foreign companies.

" As of October, there were almost 4,000 regional headquarters or offices of foreign companies operating in Hong Kong," said Mark Michelson, an associate director of InvestHK, Hong Kong's investment promotion body.

Superb logistics

Hong Kong manufacturers and exporters have increasingly played the role of integrators, matching demand from North America or Europe with sources of supply throughout Asia and beyond.

Hong Kong can fill this need because it is home to a number of dynamic clusters of interrelated industries that draw on common skill bases and can reinforce each other's competitive positions.
This role was described by Michael J. Enright, Edith E. Scott and Ka-mun Chang in their book,

The Greater Pearl River Delta and the Rise of China. A Hong Kong company might help a garment company in the United States design its autumn collection, for example, and then organize purchasing, manufacturing and logistics to get the product onto retail shelves on time, meeting quality and budget specifications.

Hong Kong's infrastructure and real estate development cluster links property and construction groups with engineers, architects, surveyors and interior designers. Its seaport is among the world's busiest and most efficient container ports.

Hong Kong also offers legal expertise in the area of air and maritime regulations and dispute resolution, as well as finance and insurance for air and sea cargo.

Pearl River Delta

One of the regions that has benefited from Hong Kong's position as a financial and trade center is the Pearl River Delta (PRD), one of the most economically dynamic regions on the Chinese mainland.

PRD has developed into a manufacturing center of global importance and one of the world's fastest growing economic regions, thanks largely to the role of Hong Kong as an international financial and supply chain management center.

PRD, Hong Kong and Macao are now known as the Greater Pearl River Delta economic zone.
While Hong Kong, with a population of only seven million, has developed as a leading center for management, coordination, finance, information and business services, PRD, with a population of more than 60 million, has emerged as a manufacturing powerhouse.

"Greater Pearl River Delta, with a $410 billion gross domestic product last year, accounted for one-fifth of China's $2.2 trillion economy," said economist Chan.

The attractiveness of mainland China, especially its southern region, has shifted investor interest from Southeast Asia to Northeast Asia. Hong Kong has gained a bigger share of these investments, at the expense of Singapore, thanks to its infrastructure, clear and transparent rules and regulations, international access and proximity to large markets.

Since the 1997 Asian financial crisis, major international financial service companies have increasingly concentrated their regional activities in Hong Kong.

The emergence of the PRD region has allowed Hong Kong companies to decentralize many activities from Hong Kong into the surrounding areas. PRD thus accounted for the bulk of Hong Kong-mainland China trade, which totaled $265 billion last year.

Hong Kong has cumulatively invested more than $260 billion in the mainland, mostly in manufacturing plants in the PRD region.

"Some 75 percent of the estimated 80,000 factories established in the PRD region since the late 1970s have been owned by Hong Kong companies," said Michelson.

Future role

In this changing environment, Hong Kong firms may move further up the value chain, upgrading their services and assuming more front- and back-end roles, such as contributing to product design and development.

China's participation in the World Trade Organization and the development of industries in the Pearl River Delta region will provide a greater scope for high-value activities linking these industries through Hong Kong to the rest of the world.

These developments will also provide additional opportunities for foreign investment and the location of management activities for a wider range of multinational companies in Hong Kong. Hence, Hong Kong is positioned to perform high value-added managerial, financial, coordination and information activities across more industries.

"High-technology, research and development activities should be the next dimension of our economy to make Hong Kong not only the trade and financial but also the technology center in Asia," HKTDC Chairman Peter Woo said at the Hong Kong Forum last week.

Hong Kong's economy will likely grow to look more like those of other major cities in developed countries such as Tokyo, New York and London. These global centers thrive on handling flows of knowledge, information, goods and finance, acting as the nodes at which economic activities are managed and financed.

Read full post »

Agricultural revitalization key to cutting poverty

Monday, December 11, 2006 Vincent Lingga, The Jakarta Post, Jakarta

The findings of the latest World Bank study to the effect that almost 70 percent of the poor in Indonesia live in rural areas and 64 percent work in agriculture boil down to a central message: the fight against poverty should be waged mainly on the rural front.

This does not, however, mean that the focus should be entirely on agriculture as rural non-farm economic activities (micro and small enterprises) also play an increasingly important role as sources of livelihood for villagers.

Although agriculture's contribution to national gross domestic product has declined to less than 20 percent, its direct and indirect contributions to the national economy remain significant through its forward and backward production, distribution and consumption linkages.
Put another way, the agricultural growth multiplier quantifies the impact of an increase in income in the agricultural sector on income growth in other sectors.

However, despite the vital role of agriculture in poverty alleviation, it is quite difficult to see how the Agricultural Revitalization Program of President Susilo Bambang Yudhoyono, launched in July 2005, connects with the new poverty reduction strategy -- the Community Empowerment Program -- that Coordinating Minister for People's Welfare Aburizal Bakrie described at a national poverty conference here last week.

Disappointingly, not a single minister, not even the agriculture minister, has elaborated on the agriculture-revitalization concept after its introduction by Aburizal Bakrie, the then coordinating minister for the economy, almost 18 months ago.

The World Bank report Making the new Indonesia work for the Poor, which was launched last week, reemphasized the vital need for higher productivity in the agriculture sector and rural non-farm small enterprises.

The report endorses the conclusions of similar studies by other domestic and foreign institutions, which have concluded that farmers' incomes can no longer be improved significantly by focusing on such staple crops as rice, cassava, soybean, sugar and corn as such crops will do little to provide additional employment and income growth due to diminishing productivity gains, especially in Java, where most farmers till less than half a hectare.

The problem, though, is that shifting to higher value agricultural activities, such as forestry and horticulture requires high-yield seeds, agriculture extension services, better infrastructure (such as rural roads), up-to-date information flows, market facilities and electricity.
Rural infrastructure is quite vital as in both agriculture and the rural non-farm economy, opportunities for growth can be generated by greater linkages with the urban economy and export markets.

Future agricultural growth will depend largely on urban and international demand for high value agricultural produce. In other words, smooth transportation is vital to facilitating linkages with the farm economy and stimulating the development of rural small enterprises.

The sad reality, however, is that farmers' access to basic services and markets has sharply deteriorated as the result of an acute lack of maintenance of the rural road network since 1998. Likewise, the scope and extent of agriculture extension services has declined since decentralization.

No wonder, agricultural total factor productivity has declined steadily since 1993, according to the World Bank report.

Regional administrations, which under local autonomy play a key role in the provision of both basic services and rural infrastructure, often do not understand the nature and importance of linkages between agriculture and the non-farm economy.

There is nothing wrong with the Community Empowerment Program concept. It will be more effective as it promotes the empowerment and involvement of poor people in conceiving programs, as well as transparent budgeting rules, processes and procedures, good-governance practices and increased accountability.

The program, however, will be less effective in alleviating poverty if it is not supported by strong and competent institutions, and an enabling environment for the revitalization of agriculture and the development of agribusiness in its broadest sense. Yet more challenging is that fact that the responsibility for creating such an enabling climate rests squarely with local government.

The message that one can really draw from the main recommendations of the World Bank study is that poverty alleviation should incorporate the broad objective of empowering farmers (improving their incomes) and the rural community through the development of the farm and non-farm economy, the improvement of rural infrastructure and the provision of basic services.

The revitalization of the agricultural sector will require tight ministerial coordination and cooperation with local administrations in mobilizing resources for the development of such basic infrastructure as roads, markets, processing facilities, rural financial institutions, farm research stations designed to meet area-specific conditions, and technical farm extension services.

The agriculture extension service should be decentralized and be complemented by a conducive business environment to stimulate private investment in the propagation of high-yield seeds for high value crops.

The questions now are twofold: how will the revitalization of the agriculture sector be integrated into the Community Empowerment Program, and which minister will be responsible for coordinating the government functions in all of the multidimensional activities involved in the Community Empowerment Program? Will it be the coordinating minister for people's welfare, Aburizal Bakrie, or the chief economics minister, Boediono?

Read full post »

Advancing beyond macroeconomic stability

Tuesday, October 17, 2006 Vincent Lingga, The Jakarta Post, Jakarta

This is the second in a series of articles The Jakarta Post will publish to mark President Susilo Bambang Yudhoyono's second anniversary in office on Oct. 20. The first article appeared Monday.

Almost two years into his five-year term and President Susilo Bambang Yudhoyono has yet to fully utilize his strong political mandate to transform the country's macroeconomic stability into improved living standards.

Macroeconomic downside risks have been reduced, fiscal management improved with a sustainable deficit and the government debt-to-GDP ratio halved to below 50 percent.
Macroeconomic stability has strengthened but the economy remains vulnerable to shifts in investor sentiment and occasional asset market volatility, because the bulk of foreign capital inflows consist of short-term, portfolio capital, which can fly out at the slightest sign of policy inconsistency.

The financial sector's performance has improved, though the largest two state-owned banks, Bank Mandiri and Bank BNI, remain fragile due to mountains of bad loans. Gross international reserves have increased markedly to enable the government to amortize all its debts to the International Monetary Fund four years ahead of maturity.

Exports have reached all-time records, expanding by over 17 percent in the first eight months of this year. However, most of this gain should be attributed to luck, as the increase was generated mainly by steep price rises in primary commodities such as palm oil, rubber, coal and oil, not by any improved economic competitiveness on the part of Indonesia.

Different from previous presidents, who were often associated with the abuse of power and rampant corruption, Yudhoyono still presents himself as an honest, hard working person with a great deal of integrity.

But his legitimacy and impeccable integrity will not mean much as people lose patience with his indecisiveness on badly needed reforms to reinvigorate the economy and create jobs.
The President failed to take advantage of his strong mandate and push through significant reforms at the start of his term. And he has failed miserably in the sector most meaningful to the majority of the people -- job creation. Unemployment has instead risen.

Poverty increased by 11.25 percent, or 3.95 million people, to almost 40 million people or 17.75 percent of the total population between February 2005 and March 2006, due to the devastating impact of the doubling of fuel prices in October 2005. This poverty incidence, though lower than that between 1998 and 2002, was the highest since 2003.

We don't mean to say the fuel policy was wrong. It should instead be praised as the boldest measure yet taken by the Yudhoyono government to strengthen the foundations of the economy. Its negative impact should be blamed on a poorly designed social safety net and anti-inflation measures.

Open unemployment and underemployment have reached as high as 40 percent of the 105 million total workforce because of persistently moderate economic growth (below 6 percent) amid an acute lack of new investment. Indonesia has failed to rejoin Asia's club of high-growth countries.

While the pace of economic reform announcements has been much slower than expected, the implementation of policy reforms is even more disappointing. The cascading impact of these problems is a disappointingly slow recovery of public and private investments.

Yet more worrisome is the trend whereby each percentage point of growth now generates fewer jobs in the formal sector than it did before the 1997 economic crisis, because of what most analysts see as the impact of too rigid labor regulations.

Things will not likely improve much in this labor market because the government has succumbed to demands of trade unions who oppose the amendments to the 2003 Labor Law, even though they represent no more than 5 percent of the total workforce.

The government apparently does not realize that in the long term, companies, workers and society as a whole will benefit from a more flexible labor market where workers have an incentive to invest in their own social capital and lifelong learning in the competition for better jobs.

Worse still, another set of important economic laws regarding taxation and investment, already several years behind schedule, will most likely suffer another delay. The only small consolation is the new customs law, which is scheduled to be approved by the House of Representatives tomorrow (Oct. 18).

The Infrastructure Summit held last November to woo new investment fell flat due to uncertainty about legal frameworks and lack of clear-cut provisions on government-private sector partnership and risk management. The second Infrastructure Summit, scheduled for next month, does not seem very promising either because of the delay in the formulation of a more conducive regulatory environment.

Promises and symbolic moves, though needed, are not enough to maintain the momentum of market confidence. The market requires concrete measures because only consistent and effective implementation will give credibility to government policies.

As long as the President remains hesitant to assert stronger political leadership to push through key reform measures and vital infrastructure projects, the pace of new investment will remain slow and the economy will continue to muddle through, unable to generate enough jobs for the unemployed and new entrants to the labor market, and lift the 40 million up from poverty.

However we define it, the high rates of unemployment and absolute poverty mean that our economy is languishing in critical condition. And a crisis requires strong political leadership and a fast, credible decision-making system.

Read full post »

Global economic imbalances raise risks of hard landing

Tuesday, September 26, 2006 Vincent Lingga, The Jakarta Post

The 2006 Global Meeting of the Emerging Markets Forum (EMF) here last week warned that the risks of a hard landing for the global economy had increased with the United States continuing its profligate spending amid steadily rising oil prices.

The EMF, an independent not-for-profit initiative of the Washington-based strategic advisory company, Centennial Group, sounded more pessimistic than the International Monetary Fund, which still foresaw a higher probability of a gradual, orderly adjustment of the American dollar.

Panelists and discussants at the EMF meeting, including several former senior executives of the International Monetary Fund and the World Bank, were worried that the U.S. current account imbalance is likely to worsen further. They said the adjustment process was being made even more difficult as a result of the combined impact of the steep hikes in oil prices and the decline in the propensity of net oil exporters to import from the U.S and to invest in dollar assets.

While oil exporters, notably in the Middle East, are together accumulating US$1 billion in a net current account surplus every day, it is estimated that the U.S. will book a $900 billion deficit this year, as against $800 billion last year.

The U.S. has often been warned that its excessive consumption is dangerous for both itself and the world economy, but so far Americans have ignored such doom-mongering, increasing the risks of a hard landing for the global financial market.

As long as American and foreign central banks, notably those in Asia, are locked in a codependent relationship, the U.S. will likely continue its spending spree. According to the latest estimates by the IMF, more than half of all publicly available U.S. Treasury bonds are now held abroad, notably by central banks in Asia. These banks are thus trapped in something of a vicious circle.

Even though the IMF also recognizes some downside risks, it asserts in its 2006 Global Financial Stability Report, which was issued in Singapore last week, that "the structural strength of the U.S. financial market has no doubt enhanced the scale and sustainability of the U.S. current account deficit. The continuing confidence of international investors in U.S. markets supports the prospects of orderly adjustment in current imbalances."

The World Bank estimates that roughly 70 percent of global foreign reserves are now in dollars, making them highly vulnerable to currency correction. An abrupt change in the dollar value could spell trouble, as central banks find themselves with black holes in their portfolios.

Obviously this is neither healthy nor sustainable in the long run. But will the political will emerge to correct the imbalances?

This is unlikely in the near future. It seems that it will be extremely difficult to reach a global consensus to address these global imbalances. There seems to be a mood of complacency given that the markets have thus far been prepared to absorb the imbalances.

The natural adjustment mechanism for America's rapidly growing foreign liabilities should theoretically be a declining dollar, which would lower demand for imports and make America's exports more attractive on foreign markets. But the Asian central banks have been stalling this process as they want to keep their currencies from appreciating against the dollar, and are thus buying sackloads of dollars.

The pressures on the U.S. to get is fiscal house in order by cutting its budget deficit and encouraging American consumers to save are not enough. Too steep a fall in American consumption could instead threaten the world economy with a deep recession. This is because it is the spending binge in the U.S. that has absorbed a steady stream of exports and capital inflows from Asia and other emerging markets.

Hence, reform policies should be implemented to foster the necessary adjustments in saving and investment imbalances, especially in countries that are the main counterparts to the global current account imbalances, notably the U.S., China, Japan, Germany.

There is another factor that has increased the risks of a hard landing for the global economy and made it more urgent and imperative to intensify multilateral consultations so as to achieve a global consensus on ways to correct the global imbalances.

Besides the declining propensity of sovereign Arab oil exporters to invest in U.S. assets and the diversification of their portfolio investments away from dollar assets, the increasing accumulation of petro-dollars by private oil exporters is posing another threat to global financial stability.

This development is shifting the institutional management of an increasing amount of money around the world from central banks in Asia, which hold huge foreign reserves in dollars, to private oil exporters. While central banks are more conservative and constrained in their investment choices (they usually prefer U.S. Treasuries), private oil exporters are entirely free to invest wherever they choose.

The change in the investment behavior of oil exporters, which have been accumulating huge surpluses, could change the pattern of global capital flows at the expense of an orderly adjustment of the global imbalances.

The IMF seems to be the most technically competent body to keep monitoring and analyzing the investment behavior of sovereign and private oil exporters, and to ring the alarm bell whenever necessary. But this institution needs to be given the instruments it requires to strengthen its multilateral surveillance.

Read full post »

WB needs to wean itself off 'nanny' bank role

Thursday, September 21, 2006 Vincent Lingga, The Jakarta Post, Jakarta

The World Bank is an easy target for attacks from all sides given the conflicting demands of its 184 member countries. The bank is mostly active in developing countries, which make up the majority of its members, but its decision and policy-making is controlled by the few developed countries who make up the majority of shareholders.

The perception that the bank merely purveys the policies of developed countries, especially the United States, is therefore unavoidable. This notion is reinforced by the fact that it, together with the International Monetary Fund, is headquartered in Washington and that the U.S. has the privilege of appointing the bank's president.

The bank is under tremendous pressure. Most civil society organizations assail it for what they see as its failure to reduce poverty in the poor countries.

Developed countries criticize the bank for not using its leverage as a lender forcefully enough to obtain meaningful reform in the developing world.

The internal reforms the bank started making in the early 1990s by decentralizing, relocating its decision-making process to the country level, were apparently not fast enough to satisfy developing countries.
Indonesian Finance Minister Sri Mulyani Indrawati expressed the view of most other developing countries when she criticized the World Bank for often acting as a preacher, rather than a partner for developing countries.

Indeed, with annual lending resources of US$20 billion and the largest pool of development thinkers any single organization in the world has ever possessed, the bank's executives, many of whom are from developed countries, often face a strong temptation to act as arrogant advisers.

The bank, with over 10,000 well-paid professionals, commands a brain trust with a huge pool of broad-ranging knowledge and experience on the full range of technical and economic issues of development. Its experts possess the wealth of real-life development experience that the bank's lending operations have generated.

The bank started decentralizing its decision-making by appointing country directors who had the kind of power over budgets and projects that used to exist only at headquarters. But the results were seemingly far below expectations.

It was this slow-paced decentralization Sri Mulyani appeared to refer to when she noted at the World Bank-International Monetary Fund Meetings in Singapore on Tuesday that the World Bank should change the way it works on the front line.

The bank needs to strengthen its decentralization policy because it needs country-specific knowledge and expertise to help develop local institutions tailored to local political and social realities.

The country director in each member country therefore must have political savvy and be sensitive to a country's political constraints and to the opportunities of responsible leaders to push reform. That implies a premium on systematic analysis of local politics and institutions.

Under the rubric of country ownership, the bank has tried to tailor its lending policies so that clients have more say in their design.

The emphasis on local politics and institutions is crucial because institutional capacity, the quality of governance and the commitment to development differ widely from one country to another in the developing world. The bank's approach should take these differences into account.

The emphasis on local institutions and local ownership of policies, which was reasserted by the World Bank-IMF Development Committee (the highest policy-making body) in Singapore, was aimed at building respect for and partnership with local efforts by the bank staff.

As a Washington-based independent think tank, the Center for Global Development, suggested in a recent report, "the Bank should become less of a nanny bank, preoccupied with detailed conditionality and structural reforms. It should instead concentrate more on supporting healthy local economic and political institutions."

However, local political ownership is not necessarily conducive to equitable growth, as can clearly be seen in Indonesia under the authoritarian Soeharto administration. The World Bank, instead of forcing reform on Indonesia, fully supported the economic policies of the Soeharto government for more than 30 years and condoned its corrupt system.

The bank's effectiveness then depends on how it manages its lending operations in order to support policy reforms and development result.

Read full post »

IMF reforming its decision-making mechanism

Wednesday, September 20, 2006 Vincent Lingga, The Jakarta Post, Jakarta

The International Monetary Fund took a major step Monday toward improving its acceptance and credibility among developing countries by adopting a package of reforms on quotas and voice in the IMF, with respect to its decision- and policy-making powers and the reshaping of its surveillance foundations.

These reforms are the first step in a long process that will increase the representation of many developing countries to reflect their rise in the global economy. Right away, the resolution of the IMF board of governors will increase the voting power of four countries -- China, Korea, Mexico, and Turkey -- that are most clearly underrepresented.

Equally important is that the board of governors has agreed the IMF must strengthen the voice and representation of poor countries that continue to borrow from the IMF but only have a limited share in IMF voting.

The reforms will improve legitimacy, in terms of how IMF governance is structured and how that is perceived among developing countries, which have long complained about what they see as the grossly unfair control of the IMF by developed countries.

Experience has shown it is not enough for the IMF, and its Bretton Woods sister -- the World Bank -- for that matter to prescribe the right policy advice. This advice is more likely to be accepted if it comes from an institution that is seen as representative of the interests of developing countries, which make up the majority of members and borrowers from the IMF.

The reforms just adopted by the highest policy -making body of the IMF will go along way toward improving IMF acceptance and credibility. The IMF's credibility will continue to be undermined if the monopolistic behavior of large countries with veto power is not checked.

Still encouraging is that more reforms are in the pipeline as the board of governors also has ordered the IMF executive board to reach an agreement on a new quota formula to guide the assessment of the adequacy of members' quotas in the IMF. Such a formula should provide a simpler and more transparent means of capturing members' relative positions in the world economy.

The present IMF quotas have been seen by most members as a distorted mirror of today's economy because they must do three things at once: They determine how many votes a member can cast on the board, how much money a country must put into the IMF coffers, and how many dollars a country can take out before attracting penalty interest rates. As a result, many countries are now underrepresented.

The reforms are implemented at a time when the IMF's popularity is at its nadir and its budget is shrinking because many of its best customers are now doing without it.

What then are the jobs of the IMF? Apart from generating mountains of analyses, the IMF's function is to inject foreign exchange in countries that have temporarily run short. But lately no one has been calling on its reserves. Brazil and Argentina have both repaid their debts. Even Indonesia has paid in advance half its $7.8 billion debts and plans to amortize the remainder later this year. Hence, now only Turkey still owes a significant amount of money to the IMF.

With no way of treating members in financial crisis with what "patients see as bitter pills", the IMF is left only with the power of surveillance, keeping an eye on the policies and frailties of its members. But even this surveillance role has increasingly been detested in many countries, especially in Asia.

But the fact is that, like it or not, the IMF's role as an emergency lender is still relevant, at least until regional financial cooperation can be expanded through reserve pooling. After all the IMF can immediately call on about $220 billion of hard currency if needed to help countries in financial distress.

True, South Korea, Japan, Singapore, Indonesia, China, Malaysia, the Philippines and Thailand, which together command international reserves worth 10 times the IMF total, have begun pooling a small fraction of their resources under an initiative launched in Chiang Mai in 2000. But this regional arrangement has yet to be tested.

If emerging economies want to insure themselves against financial crisis it would not be cost efficient to set up their own "safety net" to make emergency lending available. But how can the IMF, as an emergency lender to all countries, regain the confidence of its estranged members.

That is the main objective of the package of reforms adopted by the IMF board of governors at its annual meetings in Singapore.

Read full post »

Regulations the biggest barrier to new investment

Monday, September 11, 2006 Vincent Lingga, The Jakarta Post,

Indonesia may find some consolation in the praise of the World Bank and its private-sector arm, the International Finance Corporation, over the improvements made in its business climate but this commendation means virtually nothing in the way of wooing investments because most other countries performed much better.

Indonesia predictably remains among the most difficult places in terms of the ease of doing business, ranked 135th of 175 countries surveyed for the 2007 Doing Business report, compared to 131st among 155 countries in the 2006 report, which tracks indicators of the time and cost of meeting government requirements in business startup, operation, trade, taxation and closure.

The fourth annual Doing Business survey measures quantitative indicators on business regulations and compares their enforcement across 175 economies based on data available as of last January.

The report, therefore, does not cover developments after the launch of the investment policy reform last March, which calls for expediting the time of business startup to 30 days.

But do not expect too much from the government's regulatory reform. Indonesia has been notorious as a laggard in reforms. Even President Susilo Bambang Yudhoyono, who came to office with a strong political mandate, failed to get the message from the Doing Business survey "take advantage of your new mandate and push through significant reforms at the start of your term.

The government did succeed in cutting down the time and cost of starting up business from 151 to 97 days and from the equivalent of $1,300, or 101.70 percent of the country's gross per capita income, to $1,111 last year, but scored poorly on most other key indicators.

The country would have scored much lower still if the ranking included such variables as macroeconomic stability, the quality of infrastructure, currency volatility, investor perception and law and order.

The comparative data in the report should give the government, notably chief economics minister Boediono, the ability to measure the government's regulatory performance compared to that of other countries, taking good lessons from global best practices to prioritize reforms.

It is disappointing to note that even among the ASEAN countries, Indonesia only scored better than Laos.

It took about 224 days in Indonesia to comply with all licensing and permit requirements, compared to the average of 147.4 days in the Asian region. The enforcement of commercial contracts took about 126.5 days, as against the Asian average of 52.7 days. Employment regulations were also among the most rigid.

Once incorporated, a company may want to buy land upon which to build a plant but the cost of registering property in Indonesia has reached as high as 10.5 percent of the property value, compared to the average of four percent in the region.

Overall, businesses in Indonesia often shoulder administrative costs that are twice as high and have to struggle through twice as many bureaucratic procedures as their counterparts in other Asian countries.

The March investment policy reform was designed to address all these business woes by expediting the procedures for business startup, speeding up customs, licensing, and court procedures, and made labor regulation more flexible.

As businesspeople here can easily testify, pointless regulations foster graft as the more irksome the rules, the greater the incentive to bribe officials not to enforce them. Because it is so difficult to obey all the rules, businesses tend to remain informal -- outside the law and the tax net. They cannot raise credit from the formal banking system.

However, it is not reasonable to expect a much faster pace of regulatory reform in the country. At best, improvements will be incremental, as found by the latest World Bank report.

The central government may be able to push harder with reforming and streamlining the first two sets of procedures for starting up business: First, by obtaining approval from the Investment Coordinating Board and second, through establishing a limited liability corporation through the Justice and Human Rights Ministry, which requires at least 10 different procedures involving notaries, banks and the tax department.

But the third set of procedures -- obtaining numerous licenses and registrations from ministries and local governments -- could be the hardest part because local administrations often follow their own rules, setting their own standards and criteria.

The government, therefore, took a shortcut by introducing last June the concept of a special-economic zone, which is being implemented on Batam, Bintan and Karimun islands in cooperation with the Singaporean government.

The regulatory environment and physical infrastructure in these SEZs will be developed to the standard of at least the world's 30 top performers in terms of the ease of doing business.

The government seems determined to turn the three SEZs into islands of competence, growth poles and catalysts for investment promotion in other parts of the country.

Read full post »

ASEAN single market by 2015 highly ambitious

Friday, August 25, 2006Vincent Lingga, The Jakarta Post, Jakarta

 Past experience has taught us to welcome with qualifications the kind of agreement reached by ASEAN economics ministers in Kuala Lumpur on Tuesday. This accord is part of a push for the creation of European Union-style economic integration in the region by 2015, five years ahead of the deadline set in Bali in October 2003.

The 39-year-old Association of Southeast Asian Nations has been notorious for its stop-and-go economic-liberalization policies to create a single market. More than 13 years after the gradual phasing in of the ASEAN Free Trade Area (AFTA), intra-ASEAN trade remains very small, or still less than 35 percent of total foreign trade, due to numerous non-tariff barriers, different product standards and procedural red tape. 

The different stages of development of the 10 ASEAN-member countries have created different sensitivities and caused distrust and all too often, business sense takes a back seat to narrow-minded nationalism.

However, the reason cited by the ASEAN ministers for fast-forwarding to a single market by 2015, instead of the original 2020 schedule, could be strong enough to convince the ASEAN leaders, who will hold their annual summit in the Philippines in December. 

The ASEAN ministers rightly argued that the region would lose out to China and India in the fierce competition to attract foreign capital if the 10 member countries remained fragmented markets with different customs rules and production standards, numerous non-tariff barriers, licensing systems and red tape. 

The challenges from the two emerging economic powerhouses and the collapse last month of the Doha Round of multilateral trade negotiations could make the domestic political climate in the ASEAN countries more conducive to selling the regional economic integration concept.

The ministers also seemed to increasingly realize that the regional grouping will be rendered irrelevant in the current process of economic globalization if ASEAN does not accelerate the development of a single market and eventually full economic integration.

In fact, several members, so fed up with the disappointing pace of the economic integration process in the region, have broken ranks with ASEAN to pursue separate free trade arrangements with other major trading countries. 

Meanwhile, the laggard in the run to economic integration is Indonesia, which is the largest market accounting for 220 million of ASEAN's 560 million people, because its economy is among the least efficient and competitive among member countries. 

In fact, this country has yet to regain foreign investor confidence even after foreign direct investment flows to ASEAN reached the levels before the 1997 economic crisis, at $34 billion last year. The bulk of these investments went to Thailand, Malaysia, Singapore and Vietnam.

The main reason is that Indonesia remains outside the global supply chain because of the extremely slow pace of its economic reforms and its crumbling, basic infrastructure. 

 

The main objective of the single market concept is to develop the ASEAN region into an efficient part of the global supply chain through free trade in goods and services and a liberalized investment climate. Trade and investment are inseparable factors in enhancing specialization and economies of scale based on local competitive advantages. 

The rationale is that foreign investors will be encouraged to establish regional production networks in ASEAN countries if the region has become a reliable part of the global supply chain because better logistics will enable companies to tap local comparative advantages and economies of scale. 

Manufacturers now require an efficient supply-chain management to allow for lower warehousing costs, lean manufacturing, just-in-time delivery because they have to adjust to the changes in the whole demand cycle. Without such advances in logistics and supply capability, regional market integration through subdivision and dispersion of production processes will not be cost-effective. But Indonesia has a lot to do before it develops into a strong component of the global supply chain. This will require efficient transport, expedient and harmonized customs procedures, common production standards, an efficient licensing bureaucracy and easy visa requirements. 

National and international studies have shown that supply chains (logistical arrangements) in Indonesia are still grossly inefficient, as evidenced by the high portion of free-on-board goods.

Indonesia, as the largest market among the six founding member countries, needs to show strong leadership by accelerating its economic reforms so that it can honor its commitments to the ASEAN single market concept. 

Region-wise, if ASEAN is really serious about developing an efficient supply-chain system in the region, the grouping should make concerted efforts to facilitate smooth trade between two ASEAN countries through a third and open up air-cargo services, including express delivery firms.

Above all, ASEAN needs an independent dispute-settlement mechanism. The absence of a mechanism to resolve disputes between members within AFTA's implementation could cause major problems.

The verification of the country-of-origin certificate -- necessary if products with a minimum 40 percent ASEAN content are eligible for tariff cuts -- could become a major source of disputes.

That is because many manufacturing companies in the ASEAN region still depend on design input or components from suppliers outside the region. But manufacturers are still in the dark about how the customs services in member countries will go about ensuring that commodities traded under AFTA properly meet the compulsory ASEAN content rules. 

Even more sensitive for ASEAN, which prefers consensus and avoids confrontation, will be the likely political repercussions of any economic integration. ASEAN leaders asserted during their summit in Bali in October 2003 that economic integration will not lead ASEAN into any political union -- hence there will not be any supranational institution such as the European Commission.

But if goods, services, capital, and businesspeople begin to circulate freely around the region, the line between internal and external affairs will blur and ASEAN countries may have to open up to each other politically as well.

Read full post »

'Competition watchdog reduces unfair business practices'

Wednesday, June 14, 2006, The Jakarta Post

Indonesia's Business Competition Supervisory Commission (KPPU), which last week observed what many analysts see as its sixth turbulent year of operations, has undeniably become a more effective watchdog of business competition in Indonesia. Even though it lost in courts on many of its rulings, the commission has served as an increasingly powerful deterrent against unfair business practices. Commission Chairman Sjamsul Maarif shared his reflections on the commission's performance in an interview with The Jakarta Post Vincent Lingga.

Question: Do you think the establishment of the commission six years ago has succeeded in preventing or reducing unfair business practices in Indonesia?

Answer: Prior to the enactment of the 1999 Antimonopoly Law, the Indonesian economy had been characterized by pervasive government intervention in industrial, labor, and credit markets for more than 30 years, making monopoly, unfair business practices, and anti-competition common practices in the Indonesian economy. It was these anti-competitive business activities and regulatory distortions that the KPPU dealt with in the first six years of its work.

Certainly six years is too short a time to assess whether KPPU has been effective in executing its task, given the deeply-entrenched monopolistic practices and other forms of abuse of the dominant market power in the country's economy.

How many cases has the commission issued rulings on?

One of the general objectives of the 1999 Antimonopoly Law is to promote a culture of competition in society through changes in behavior among stakeholders. Recognizing this objective, the commission does not see its achievements solely in terms of court's decisions on the commission's rulings. There are two main factors that correlate to one another. The court's decision itself as the formal decision and the behavioral changes in society and specifically in convicted business actors.

Over the past six years, the commission had dealt with 61 cases and issued 39 rulings, of which 28 declared the defendants guilty. But 15 of these defendants challenged the rulings in courts. Of these court cases, the commission won in three cases, with the rest still pending either at the district courts or Supreme Court.
Although many legal aspects of the law enforcement need to be strengthened, there has been significant progress in the domestic competition environment.

The commission finally won its high-profile case against Pertamina and its business partners with regard to the sales of the oil company's tankers. But it seems that the Supreme Court's rulings have not been executed. What is the problem?

The Antimonopoly Law rules that the commission shall seek an order to request the decision to be enforced by the district court. The commission filed a request with the Central Jakarta District Court as soon as it received the Supreme Court's decision in early March that upheld the commission's ruling on the case of Pertamina's tanker sale. But the commission is still waiting for concrete action on the part of the court.

Why does it appear that the commission has lost in the courts on many of its rulings on high-profile cases? Is it because the commission lacks the competence to build up a strong case or is it due to the judges' lack of knowledge of complex business transactions?

Six years are obviously far from adequate to promote a culture of competition and to build the institutional capacity to enforce the competition legislation. Legal aspects, the culture of competition and government policies are only some of the important issues that need to be adjusted to the dynamics of competition. Given its novelty, all stakeholders -- businesses and law enforcers and the people in general -- are still in the early learning period.

While the commission has steadily improved its institutional capacity through its international networks, efforts to improve the knowledge of appeal judges have also been made through workshops and seminars. The concept of competition, however, is quite dynamic, requiring all law enforcers to keep updating their knowledge.

At the earlier period of implementation, many court judges did not even seem to have understood the basic concept of competition law. But now, workshops and seminars conducted to improve stakeholders understanding of competition law seem to have shown significant results.

What amendments should be made in the 1999 Antimonopoly Law in order to give the commission stronger legal teeth?

One of the main reasons for the need to amend the 1999 Antimonopoly Law is to strengthen the legal authority of the commission to enforce the competition more effectively. Some obstacles in the implementation of the law are derived from the acute lack of investigative powers in the hands of the commission.

The authority of the commission provided under the law does not include the practical authorization for the commission to conduct on-the-spot investigations or raids or to confiscate evidence. Without these powers, the commission has to rely merely on the information given by the examined parties in the investigation process.

Besides a stronger legal authority, the commission also seems to need to improve the capability of its investigators to comprehend increasingly complex business transactions. How is the commission addressing this problem?

When it comes to enforcing the law, the commission needs to ensure that all of the members of the secretariat's staff have sufficient capacity and competence to perform their tasks. Developing a good understanding of competition issues, analytical skills on competition and strategies to conduct effective investigation on anticompetitive practices is one of the commission's priorities.

Many efforts have been made to improve the capacity of the secretariat's staff mostly through training, workshops and seminars. Sharing experiences by participating in international roundtable discussions on competition policy and law has also been one of the most effective ways to learn and update the knowledge of our staff.

Read full post »

We need firm decisions and action, Mr. President!

Friday, June 02, 2006 Vincent Lingga, The Jakarta Post, Jakarta

Five months into his second year in office, President Susilo Bambang Yudhoyono has yet to grow on his job.
Seemingly failing to learn from his failure to establish a national economic council early on in his presidency in late 2004, Yudhoyono is about to set up an economic advisory task force within his executive office in charge of advising him and monitoring economic policy execution.

What then was the point of the "big bang" reshuffle of his economic team the President made with great fanfare last December when he appointed the highly respected economist Boediono as his chief economic minister?

What the President really needs is not another long list of economic advice nor economic advisers, but an effective economic management center that can quickly fix problems by executive fiat at the highest level.

The President and his economic ministers already have thick bundles of policy recommendations, reform measures designed on the basis of accurate diagnoses of our economic problems by the national business community, national and foreign economists, foreign chambers of commerce, the International Monetary Fund, the World Bank and several other well-known economic think tanks.

Many of the policy recommendations have been translated into impressive sets of infrastructure and investment reform measures that were introduced in the first quarter, and another package of reforms in the financial sector is in the pipeline, slated to be launched this month.

The biggest problem lies in the day-to-day management of the policy implementation. What is outstandingly missing is an effective system of fast decision-making to address implementation problems.

Hence, what Yudhoyono urgently needs is an effective economic management center within his executive office that can quickly decide and act firmly with utmost urgency to fix economic problems, remove barriers to reform implementation and coordinate inter-ministerial action.

The center should function like an operation room in a war-like situation, where economic ministers, top bureaucrats, top economists and leaders of business associations discuss and decide on concerted efforts to fix any economic problems.

An effective decision-making and management center would be more capable of setting the right priority for action and building up a favorable public-opinion environment and a national political consensus on the correct sequencing of economic reforms.

Unlike most Cabinet sessions on economic matters at present, which seem more perfunctory than business-like, meetings at the center should run as brainstorming sessions that bring the country's political leadership face-to-face with representatives of the main economic agents, all determined to translate political resolve into real action.

Any economic issues, such as barriers to exports and investment, credit financing for small and medium-size enterprises, port clearance, imports, tax assessment and even such matters as privatization of state companies would be settled quickly at the highest level.

Judging from his managerial capability, Vice President Jusuf Kalla is well positioned and greatly qualified to run such a center, but he is not the right man for the job. Given his business background and the widely diversified business conglomerate his family owns, Kalla would constantly be suspected of potential conflicts of interest.

Therefore it is the President who should personally chair this economic management center, but he should give a full mandate to his chief economic minister Boediono to conduct the daily operation of the center and coordinate inter-ministerial action.

Yudhoyono needs only to attend weekly or monthly decision-making meetings at the center. His personal presence at such meetings would keep all officials on their toes because they would have to be ready with answers to any questions the President or business leaders might ask.

The right management and coordination by chief economic minister Boediono, and the support of business leaders represented in the decision-making process, would create a conducive environment for economic policy implementation.

This kind of decision-making mechanism would make bureaucratic action more important than bureaucratic procedures and rigidities, resolving problems by executive fiat on the spot.

Read full post »

Vested regional interests win in Cemex divestment

Monday, May 22, 2006 Vincent Lingga, The Jakarta Post, Jakarta

An acute lack of leadership on the part of President Susilo Bambang Yudhohoyono's government to act decisively on unpopular, yet good, measures is an apt way to describe this ongoing business saga.

For the ministers of finance and state enterprises botched what was supposed to be a normal business deal between Mexico's Cemex cement group and an Indonesian private conglomerate, the Rajawali group.

Finance Minister Sri Mulyani Indrawati, on behalf of the President and the chief economics minister Boediono, last Tuesday notified State Enterprises Minister Sugiharto that the government had no money to take up Cemex's 25 percent holding at Indonesia's largest cement group, state-controlled PT Semen Gresik (SG).

But what should have been a firm and wise stance to allow for the final closing of the Cemex-Rajawali deal could instead thrust it into legal limbo. For the finance minister also stated in the same letter that the government understood Sugiharto's initiative to buy back the Cemex stake as long as it followed prevailing rules and regulations, including transparent and accountable mechanism.

Sugiharto -- acting like a businessman flush with cash and with a yen for an acquisition -- immediately notified the Cemex chief in Singapore last Wednesday that the government, through state companies and regional administration-owned companies, would purchase Cemex's holding in SG at US$336.7 million -- the same price Cemex had agreed on with Rajawali early this month.

Let the legal experts decide whether Sugiharto's offer would still conform to the 1998 government-Cemex contract which stipulates that in the event Cemex divested its 25 percent stake in SG, the government would have to notify Cemex of whether to take over the stake or let the firm sell it to other parties.

Essentially, Sugiharto's letter is merely a proposal and not a legally straightforward reply to Cemex's May 5 notification to the government of its sales deal with Rajawali. Moreover, the government cannot transfer its first right of refusal to other parties, even state companies.

It is difficult to understand the real motive behind the government's ambiguous stance. Even if the rumor was true that Bosowa cement company, linked to Vice President Jusuf Kalla, was also a "partner" in the Cemex-Rajawali deal, the government should have allowed the private transaction to proceed.

Let Rajawali get "burned" by its investment in SG, for Cemex had suffered under its frustrating eight years of investment in SG. The likely troubles lying ahead were indicated by the West Sumatra governor's threat last week that whichever party takes over the Cemex holding, the West Sumatran people would push ahead with the long-held demand to spin off Semen Padang (SP) from SG.

The Cemex-Rajawali deal would not do any harm to national interests. Nor could Rajawali do any harm to SG. It would be a minority shareholder in SG because the government still owns 51 percent, with the investing public holding the remaining 24 percent.

Nor would Sugiharto serve any national (taxpayers) interests by mobilizing funds from state companies and firms owned by regional administrations to acquire the Cemex holding. This deal will instead erode $337 million from our international reserves as capital flight.

The greatest benefit to the cement industry, which has very bright prospects in view of the accelerated development of infrastructure, notably power plants and turnpikes, would be if Sugiharto mobilized the funds through state companies to build a green-field (new) cement plant to anticipate a national cement deficit beginning in 2008.

The only plausible reason behind Sugiharto's move could then be an inordinate fear that the Cemex-Rajawali deal would again set off protests, notably in West Sumatra, where vested interests, narrow-minded nationalists and various groups of rent seekers have tried since 2001 to spin off SP, one of three SG cement subsidiaries, from the SG group.

Leaders of the West Sumatra provincial legislature, the then governor of West Sumatra and top SP executives in mid-2001 passed a decree expropriating SP until such time as it is separated from SG.

But would the campaign to spin off SP from SG to make it a stand-alone state company really benefit the West Sumatra people? Not likely, if the findings of the special audit on SP by PriceWaterhouseCoopers in 2004-2005 is any indication. The rent seekers simply want to retain SP as their cash cow as they did in 2000-2003.

The forensic audit that was made at the order of SG shareholders and completed in May 2005 found almost all types of bad corporate governance practices rife in SP. They were notably rampant between 2001 and September 2003, when it was controlled by the then renegade management with the full support of local rent seekers within the legislature and local administration.

Auditors estimated tens of millions of dollars in outright and potential losses due to bad practices or even blatant fraud in procurement, inventory and marketing management.

Neither the SG management nor Sugiharto have come clean to reveal the auditors' stark findings to the West Sumatra people. Worse still, Sugiharto did not submit the audit to the Corruption Eradication Commission for further investigation and prosecution.

Now the government, the first one directly elected by around 60 percent of voters in 2004, has caved in to the misguided regional sentiments against private interests taking over the Cemex stake in SG.

What a great move to scare off potential foreign investment, as well as a resounding sullying of the pledged reform of state companies.

Read full post »

The natural resource dilemma for government

Tuesday, March 21, 2006 Vincent Lingga, The Jakarta Post, Jakarta

How the government resolves the imbroglio currently gripping mining firm PT Freeport Indonesia and its operations in Papua will have a very significant bearing on other big mining ventures already operating, as well as on new investment in mineral development.

Mining, in addition to fisheries and plantations, should be one of the most promising resource-based ventures in Indonesia, thanks to the country's major reserves in oil and natural gas, copper, old, nickel, coal, tin, silver, diamonds and base metals.

However, legal and regulatory certainty is vitally important, especially for mining firms to invest, because this business is usually capital- and technology-intensive and very risky. It has a long payback period and the companies must operate mostly in remote areas where basic infrastructure is extremely inadequate.

But it is legal and regulatory certainty that has increasingly become a big issue after the launching in 2001 of regional autonomy, including the devolving of the central licensing authority for mining concessions -- with the exception of oil and natural gas -- to regional administrations.

Even tree-crop plantations, which are labor-intensive and generally eco-friendly, have been facing a plethora of obstructive bylaws. Only last Wednesday, executives of the Palm Oil Producers Association called on President Susilo Bambang Yudhoyono, urging him to remove the myriad of anti-business regulations, which have adversely affected the international competitiveness of Indonesia's palm oil industry.

There has been a perception, right or wrong, among the public, that most major mining companies -- which obtained their concessions under Soeharto's authoritarian rule between 1967 and 1998 -- bulldozed their way through the licensing system to obtain all the necessary permits for their operations in collusion with corrupt officials.

The democratic era and regional autonomy have encouraged local people, who for more than 32 years were completely excluded from the decision-making process regarding the exploitation of local natural wealth, to forcefully assert their rights.

They often resort to venting their frustrations during street protests and irrational demands that the mining operations in their areas be simply closed down, claiming that the mines have not benefited the local community, but have instead damaged the environment.

This is really a challenge for the government and investors because protesters usually consist of a mix of local leaders, pressure groups, human rights activists and environmentalists, some with genuine causes and legitimate grievances, but many others with self-seeking interests.

Certainly, business is not always right and those, which are found guilty of violating the laws and neglecting their social responsibility, must be brought to justice. But on the other hand, those which are not guilty but still find themselves being harassed and subjected to spurious claims, should be protected by the government.

Since protest demonstrators often block entry to a mine or plant, businesses need the government's firm action to get the protesters out of production compounds and to redirect their grievances to consultative forums or the court system.

Street protests, if not handled properly, will allow the mobs to have a field day, and businesses will be at the mercy of lynch mobs.

Simply ordering the closure of a mine without due process of the law boils down to the government succumbing to the mob's ultimatum, a precedent which could threaten the fate of many other resource-based investment ventures.

Only when there is certainty and consistency in law enforcement, so that the course of investment can reasonably be predicted, will big investors be interested to plough their capital in Indonesia.

Investors, domestic or foreign, understand and often expect that laws or rules can change over time to address social issues, new aspirations and new economic developments. But they will not accept unilateral official decisions made without any clear legal basis, merely the tremendous pressure from public protests.

It is always unpopular to stand up in the defense of big business, especially foreign big business, and politicians like the President, well-known now for his indecisiveness, do not like to do unpopular things.

But the experiences in other countries also demonstrate that a sign of true leadership is the ability to take the unpopular, yet vital, action that is in the best interest of the public.

Regional administrations also have a great interest in attracting more investments in natural-resource based ventures. Under regional autonomy, they are now entitled to 80 percent of the land rents and royalties from fisheries, forestry and mining companies. The revenue split between the central government and regional administrations is 85:15 and 70:30, respectively.

On the other hand, investors too should realize that merely abiding by the laws is no longer sufficient to secure smooth business operations.

They should broaden their social responsibility, not by philanthropic activities, which will only create a sense of artificial prosperity, but by empowering the local community through programs, which are designed to gradually transfer business, technical and social competence to local communities.

Successful investment ventures have shown that businesses, which have fulfilled their social obligations, are less vulnerable to pressures from local communities or administrations.

After all, a company's best defence is its reputation in the community.

The writer is a Senior Editor at The Jakarta Post

Read full post »