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«adb economics no. 411 working paper series october 2014 ASIAN DEVELOPMENT BANK   ADB Economics Working Paper Series Industrial Policy in Indonesia: ...»

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26 | ADB Economics Working Paper Series No. 411 As tariffs have minimal contribution to its tax revenue (only 4.0% in 2007), Indonesia has a greater scope to make tariffs as a main trade policy instrument for Indonesia. Other than domestic fiscal and real sector consideration, the ability of a country to use tariff-related measures is also restricted by its multilateral, bilateral and plurilateral commitments. As earlier shown, Indonesia has a wide binding overhang (the difference between its bound and applied tariff rates), which gives it considerable policy space. However, excessive, ad hoc, and inconsistent use of tariff policy would be costly to business and self-defeating to Indonesia’s efforts to enhance GVC participation. Tariff policy, however, is one of the few industrial policy tools left for developing country governments to use. On the defensive side, tariffs are used to shield potentially competitive domestic industry from premature import competition. On the offensive side, lower or annulment of tariffs on intermediate goods can boost productivity of domestic plants.

Indonesia has become increasingly active in using its tariff overhang in recent years by periodically changing its applied rates. In 2009 and 2010, the GOI increased tariffs on a range of goods that directly compete with locally manufactured products, including chemicals, electronic products, milling machines, cosmetics, medicines, and a range of agricultural products. In December 2011, the GOI increased applied import duties for wheat and soybeans from 0.0% to 5.0% (Tijaja 2013a). While this might reflect efforts to promote domestic value addition, it would have short-term implications for domestic industries currently relying on imported inputs, and more critical long-term implications if not clearly articulated in the context of consistent and transparent policy objectives. More recently, ad hoc setting of tariffs has been more common, particularly for food products, with the main purpose of ensuring domestic price stability.

There has also been an increasing use of export taxes with the objective of ensuring sufficient domestic input supply to support domestic downstream industry. In a number of cases this objective has been made explicit, as in the case of export taxes on cocoa, rattan, crude palm oil, and mineral ores.

In some cases, the use of export taxes has led to some success in promoting greater domestic processing, as in the case of cocoa. However, in others, it might supress income for raw material producers and workers in the short term, and in the long term it might even reduce supply capacity due to a disincentive to produce and improve productivity. The exact implications vary from case to case and depend on manifold factors.

B. Non-tariff Measures

Indonesia has also introduced a number of non-tariff measures (NTMs) of late. The recent proliferation of regulations related to licensing is a cause of concern. Regulations on non-automatic import licensing were recently applied to a broad range of final consumer goods, and there is also a requirement for pre-shipment verification for some. In these cases, import licences will now be issued subject to the discretion of relevant sector ministries, and have become a source of business costs and uncertainty. Importation of certain horticulture products is now also restricted to specific designated ports and airports (Tijaja 2013a).

The GOI has also recently introduced separate import licences for goods imported for use in the production process (value-added manufacturing) and further distribution (not for further processing) applicable for some products. Various import restrictions are also in place for key commodities, such as rice, sugar, and salt as well as alcoholic beverages. The increasing use of NTMs has generated concerns among businesses and investors. NTMs are generally less transparent, harder to monitor, and less coordinated due to their cross-agency nature, as such, they are a potential source of business uncertainty. The GOI needs to communicate clearly and consistently the policy objectives Industrial Policy in Indonesia: A Global Value Chain Perspective | 27 of any new measures that are being introduced, including NTMs. It needs to do so with an awareness of the implications they may have on current and potential business and investment, the longer term costs to value chain competitiveness, and their international obligations.

One type of NTMs is standards. Standards have become increasingly prevalent in GVCs. The capacity to meet the ever demanding standard requirements of international and other high-value markets, has become a criteria for participating in GVCs. Standards are also used by governments for the public policy objective of protecting the health and safety of their population and environment.

Standards allow the codification of complex technical and quality information that would address information asymmetry and enable hands-off coordination among firms in GVCs, and as such, facilitate the fragmentation of production processes. Standards allow inter-operability in network economies and are also used by firms to signal the quality of their products. However, standards can also be used as a trade-distorting measure when they are introduced with the intent to deter access of competing imported goods and services, resulting in deadweight loss (Tijaja 2013b).

There are three key roles that governments can play in regard to standards. First is to strengthen the country’s standards and conformance infrastructure. Second is to enhance the compliance capacity of domestic industry actors (particularly the smallholders). Third is to strategically participate in standards-setting bodies. Accessibility of conformity assessment services is critical, and while most can be competitively provided by the private sector, others might need to be provided by public institutions on a reasonable or concessional user-pay basis. The costs of standards compliance can also be prohibitive for smallholders, particularly for training and certification (Tijaja 2013b).

The new Industrial Bill regulates measures relating to standards compliance. One of the provisions stipulates that the implementation of Indonesian National Standard (Standard Nasional Indonesia or SNI) is voluntary. However, the other provision provides for mandatory adoption of SNI, with technical specifications and guideline procedures, as determined by the Minister of Industry, and the penalties for noncompliance.

The bill does not just regulate standards in relation to goods but also to services. Article 25.7 stipulates that administrative sanctions will be imposed on companies in industrial zone that are not complying with the National Standard for Work Competencies (Standar Kompetensi Kerja Nasional Indonesia or SKKNI). The SKKNI uses the same reference as the Profession Certification Institution (Lembaga Sertifikasi Profesi or LSP), where the GOI has been encouraging Indonesian workers to get certification from to prepare them for competition when the AEC is launched in 2015 (Jakarta Post 2014b). The transparency of requirements and the process of SKKNI are crucial in determining whether it will be trade facilitating or will act as a non-tariff barrier.

C. Tax Facilities

In 2011, the Ministry of Industry issued Regulation No. 93/M-ID/PER/11/2011 on guidelines and processes of applying for corporate income tax exemption or reduction facility for the industrial sector.

The six pioneer industries eligible for tax facilities are base metal industry, oil refinery industry and/or basic petrochemical industry, machinery industry, renewable resources industry, and telecommunication equipment industry. The Minister of Finance may decide on other pioneer industries provided that they meet these criteria: industries that have wide networks, high value added and externalities, can introduce new technology, and have strategic value for the national economy.

28 | ADB Economics Working Paper Series No. 411 The granting of tax facilities is subject to analysis and verification by a working team composed of the Director General of Industrial Development, Industrial Climate and Quality Policy Analysis Body (Badan Pengkajian Kebijakan Iklim dan Mutu Industri or BPKIMI), the Secretariat General, the Investment Coordinating Board (BKPM), and led by the Director General of Industrial Development for the relevant sector. Firms are required to submit an application for such facility to the Minister of Industry, copied to the head of the working team. The application will need to contain details on infrastructure availability in the location of investment, domestic employment absorption, assessment on how the criteria of a pioneer industry have been met, and proposed steps for technology transfer.

The regulation sets out a strict timeline and steps for the processing of applications.

In addition to income tax facility, the GOI also offers fiscal incentives in the form of import duty exemptions to industries in certain sectors on an annual basis. The GOI reviews the list of eligible industries every year, taking into consideration the input from industry players. Exemptions are provided for industries using imported goods and materials to produce goods and/or services with the

following criteria:

1. providing goods and/or services for public interests, being consumed by the general public, and/or protecting consumers’ interests;

2. improving competitiveness;

3. creating more job opportunities; and

4. contributing to state revenues.

Goods and materials for which an application for exemption is made must fulfill the following


1. not yet produced locally;

2. already produced locally, but not yet fulfilling the specifications required; or

3. already produced locally but the volume is not sufficient to cover the industry’s demands.

Import duty exemption is also available for the import of capital goods for certain business sectors, e.g., by an independent power producer, or for a purpose. An example is the Minister of Finance Regulations No. 177/PMK.011/2007 that controls import duty exemption on goods imported for the purpose of upstream oil and gas, and geothermal business activities.

Import duty reduction facilities may also be granted to manufacturing or service companies that are developing or expanding their business in Indonesia. These incentives include a reduction of the duty rate to 5.0% on imported machinery (excluding spare parts and components) and raw materials for a specified period, e.g., 2 years22.

Import Facilities for Export Purpose (KITE) is also offered, and is defined as the granting of exemption and/or restitution of duties for imported goods and/or materials to process, assemble, or be installed on other goods, the products of which are mainly intended for export. KITE, however, is not applicable to raw materials and supporting materials that are not integrated with finished products (Deloitte 2012).


See http://www.kpmg.com/cn/en/aspac-trade-and-customs/pages/trade-customs-indonesia.aspx Industrial Policy in Indonesia: A Global Value Chain Perspective | 29

D. Upgrading Support

Indonesia’s industrial policy objectives point to the desire to achieve global competitiveness through, among other things, the application of appropriate technology and knowledge. The GOI is keen to support higher value added participation in GVCs, including through the building of technological capabilities and industrial upgrading.

One policy instrument that has been used by the GOI to facilitate upgrading is the provision of support for machinery upgrading of select industries. The objective of this measure is to improve the competitiveness of the sector by replacing old machinery with newer machinery that would be more productive and energy efficient. So far resources have been allocated for the textile, apparel, and footwear industry, and the sugar industry. In the case of textile, enterprises have the choice of receiving a rebate23 for direct purchase of new machinery or soft credit.

Some questions were raised regarding the effectiveness of the measure. First is the issue of redundancy rate; that is, how much of those investments would have been made anyways without the measures (Thébault-Weiser 2008). Second, whether the measures evenly reach all firms in the sector, including small and medium enterprises or only relatively large firms would benefit from them. Last, but not least, it appears that the measures are currently targeted at existing rather than new (pioneer) industries, which raise the question of whether the right industries have been targeted.

E. Investment Regime

The Investment Law of 2007 sets the parameters of the investment regime in Indonesia. The law guarantees national treatment, protection against expropriation, and recourse to international arbitration in the event of a dispute with the government. The law also sets out the guidelines for investment incentives and institutional arrangements to administer investment projects. In a general sense, the law positively reflects the GOI’s commitment to an open and transparent investment regime (Tijaja 2013a).

There are two priority areas that require addressing in Indonesia’s investment regime. First is policy certainty. The review process for the investment negative list (Daftar Negatif Investasi or DNI) can be improved through better consultation, transparency, and link to current industrial policy framework. Under the current system, a sectoral ministry might introduce new restrictions to investment that are not timely incorporated into the prevailing investment negative list, creating uncertainties and confusion. Having a transparent review process for the negative list that would serve as the main mechanism for any changes to the investment regime in any sector will improve policy certainty.

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