Manufacturing Sector in Post-Crisis Era

This year, Indonesia will celebrate 20 years of Reformation, which marked the end of the 1997/1998 Asian financial crisis.

After the end of the crisis, which had hit Indonesia severely, the economy is now in a stable condition and the inflation rate is under control. Last year, the inflation rate fell to as low as 3.6 percent in line with the central bank’s estimates.

The foreign exchange reserve reached US$132 billion, the highest in history. The Composite Stock Price Index (JCI) rose to a range of between 6,300 and 6,500. Although the number is increasing, the government’s debts remain at the safe level at 29.2 percent of gross domestic product (GDP), far below the 60 percent threshold.

Indonesia also recorded achievements in the investment aspect. International rating institutions, such as Moody’s, the Japan Credit Rating Agency (JCR), Rating and Investment Information (Inc), Standard and Poors (S&P) and Fitch, gave Indonesia a worthy investment grade. The ease of doing business ranking rose from 120th to 72nd. In the latest report from a US News survey, Indonesia was ranked second of countries with investment-grade status, beating Singapore and Malaysia.

Indonesia has also entered the ranks of countries with a scale of $1 trillion (One Trillion Dollar Club). Within the next three years (2017-2019), Indonesia will be the fifth-largest contributor to world economic growth, according estimates of the World Economic Forum (WEF, 2017).

Measured by its purchasing power parity (PPP), currently Indonesia is ranked 8th in the world and it is predicted that by 2050, based on a business as usual assumption, Indonesia will be ranked in fourth place.

However, with such achievements, Indonesia is unable to accelerate its economic growth. Until now, Indonesia’s economic growth remains stagnant. During the period of the Susilo Bambang Yudhoyono-Boediono administration, the economy was stagnant at 6 percent. At present, under the Jokowi-Jusuf Kalla administration, the economy grew at an average of only 5 percent. By contrast, economy growth in other members of ASEAN, such as Vietnam and the Philippines, exceeded 6 percent. With its low economic growth, it is difficult for Indonesia to become a high-income country.

Looking back to the New Order era, we need to introspect and review the achievements that could not be made by the current government, such as remarkable growth in the manufacturing sector. During that time, the manufacturing sector was the largest contributor to the national economy. Unfortunately, the performance of the manufacturing sector at present is no better than that during the New Order era. Not surprisingly, the economy cannot grow as high as those during the decades of the New Order. At that time, economic growth reached above 7 percent per annum.

Manufacturing sector slows down

The growth of the manufacturing sector during the Reformation Era is in stark contrast with those during the New Order period. Based on data from the Central Statistics Agency (BPS) in 2004, manufacturing growth, which reached its highest level at 6.38 percent (above 5.03 percent economic growth) after the crisis, fell to 4.6 percent in the following year. To date, growth in the manufacturing sector remains below economic growth.

The manufacturing sector, which grows below economic growth, has no significant impact on the national economy. In fact, its contribution to the national economy has declined. This is called deindustrialization.

The contribution of the manufacturing sector to the economy has continued to decline since 2001, during which the manufacturing sector contributed 29.05 percent to GDP, the highest level in history. Today, contribution of the manufacturing sector to GDP fell to only 20.16 percent.

The speed of deindustrialization is faster than in other Southeast Asian countries, whereas the contribution of the manufacturing sector is generally smaller than in Indonesia. Data from the World Bank shows Indonesia’s average deindustrialization rate toward GDP during the 2009-2016 period reached 3.6 percent, while in Thailand, whose industrial contribution was higher than in Indonesia, the deindustrialization rate fell only by 1.4 percent. In Malaysia, whose contribution of manufacturing is below that of Indonesia, the deindustrialization rate was only 2.4 percent.

Deindustrialization takes place in a number of countries, but in Indonesia, deindustrialization can be categorized as premature as it occurs before it reaches its peak level. In other countries, deindustrialization begins after the contribution of the manufacturing sector to the economy reaches 30 percent.

There are two things that can illustrate this as a serious problem. First is the capability of manufacturing in absorbing the workforce. In other countries, the manufacturing sector can absorb more labor than other sectors. However, In Indonesia, where the contribution of agriculture in absorbing manpower continues to decline every year, manufacturing can only contribute 14.1 percent, lower than other sectors, such as trading (23.3 percent) and social services (16.9 percent), which provide most of the employment in Indonesia.

Deindustrialization results in a decline in the ability of this sector to absorb labor. In the aftermath of the crisis, the industrial sector absorbed an average of 71,190 people a year, while the trade sector absorbed 144,497 people per year and community services 122,890 people per year.

Second, the multiplier impact that can be enjoyed by people in the long run is quite small. Compared to services, the manufacturing sector has greater multiplier effects, such as the ability to meet domestic demand and exports, the creation of jobs and the increase in revenues both for the central and local governments.

Reindustrialization

Indonesia needs to get out of the comfort zone in which it still relies heavily on natural resource-based industries. We need to start thinking of switching to an industry with higher added value and how we can produce products needed by the world.

Malaysia has been dared enough to diversify its industry from raw material-based industries to technology-based industries, such as semiconductors and other electronic equipment manufacturing.

Proton, as Malaysia’s national automobile brand, was also established and developed during the post-crisis era. What Malaysia did at that time was replicated by Vietnam by introducing an import substitution policy to support its export-oriented industries, such as electronic device producers.

As a result, leading global semiconductor manufacturers have now established factories in Vietnam and sell the products in the global market. Vietnam today has been able to master the global semiconductor production chain. Reindustrialization needs to be constantly promoted. Indonesia’s industrial performance has not recorded significant achievements during 20 years of Reformation.

Reindustrialization can be started from the establishment of the long-term vision of the Indonesian industry. In the National Mid-Term Development Plan (RPJMN) 2015-2019, in 2019 the manufacturing industry is targeted to contribute at least 21.6 percent to the economy. It means that reindustrialization has become the main agenda of President Joko “Jokowi” Widodo’s government.

However, again Indonesia is still targeting a less strategic industry. The development of labor-intensive industries in the midst of increasingly high labor wages and industrial automation is not an answer to the complex problems of industry.

Going forward, Indonesia needs to develop technology-based manufacturing or research-intensive industries. If it is not able to develop from scratch, industrialization with the development of import substitution industries like those promoted by Malaysia and Vietnam is worth a try. It is important in order to pursue faster manufacturing growth in the future.

 

 

This article has been published in Harian Kompas

https://kompas.id/baca/english/2018/04/04/manufacturing-sector-in-post-crisis-era/

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