1.1 The Context
Once characterised as “chronic dropout”, and a country that “must surely be accounted the number one economic failure among the major underdeveloped countries” (Higgins 1968, p. 678),1 Indonesia was one of the star performers in Southeast Asia until the Asian financial crisis (AFC) of 1997–1998. After recovering from the slump preceding the 1965 failed coup and take-over by President Soeharto , the Indonesian economy grew at an annual rate of around 8.1 per cent during 1968–1981 and 1989–1996.2 Roughly three decades of high growth resulted in a rapid decline in the poverty rate (by national poverty line) from over 60 per cent in 1966 to around 11 per cent in 1996 and rising shared prosperity as inequality remained relatively low and stable.3
This period also witnessed massive structural transformation of the economy. From being the largest rice importer in the world in the 1960s, Indonesia became self-sufficient in rice by the mid-1980s. The manufacturing sector’s share in gross domestic product (GDP) nearly tripled, rising from just 9 per cent in 1966 to over a quarter in 1996 (Lankester 2004, p. 294), and manufactures became the principal driver of export growth during 1980–1995, with the share rising from an insignificant 2 per cent to more than 50 per cent (Aswicahyono et al. 2013, p. 185). Despite Indonesia having a considerably less developed manufacturing sector in the 1960s than India, its manufactured exports in absolute terms had outstripped India’s by the mid-1990s (Lankester 2004, p. 204). The rapid growth and structural transformation led by labour-intensive manufacturing exports catapulted Indonesia into the league of eight “high-performing Asian economies” (World Bank 1993).
However, Indonesia was also hardest hit by the AFC . The annual GDP growth plummeted from 7.6 per cent in 1996 to −13.1 per cent in 1998—a staggering decline by over 20 percentage points! It not only took longer to recover but also failed to achieve its pre-crisis growth rate despite benefiting from a decade-long commodity price boom almost immediately following the AFC . Since 1999, Indonesia’s average annual growth has been around 5 per cent—3 percentage points below the pre-crisis rate.
The manufacturing sector contracted in 1998 by roughly 13 per cent, about the same as for the economy as a whole. Although manufacturing growth recovered in 1999, as GDP, its growth rate remained below the pre-crisis level, and for first time since the 1960s, its growth rate fell below the economy-wide average. Furthermore, since the crisis, the share of manufacturing in GDP has tended to decline, triggering fears of a premature “de-industrialisation” (see, e.g., Tijaja and Faisal 2014, p. 2). Indonesia’s manufacturing continued to lose its competitiveness since 2001 and hence the share of manufacturing in merchandise export also fell from the pre-crisis peak. Thus, the AFC marks a turning point for Indonesia’s industrial sector (Aswicahyono et al. 2013, p. 185).
Indonesia seems to be the only Southeast Asian economy that has both benefited and suffered from the commodity price boom during the first decade of the 2000s. While the commodity price boom helped the economy to recover from the AFC and weathered the 2008–2009 global financial crisis (GFC), it also “created a twenty-first century Dutch disease” (World Bank 2016). This seems to have aggravated Indonesia’s tendency towards premature de-industrialisation.
Worryingly, the premature de-industrialisation has been accompanied by a growing disjoint between productivity and real earnings growth which has resulted in growing wage inequality. There has also been a disjoint between manufacturing growth and job growth, prompting the coinage of the term, “jobless growth”. That is, employment growth in manufacturing has been far slower than the pre-crisis rate and lagged behind the growth (albeit slower) in manufacturing. Thus, the quality of employment, as measured by formal sector waged employment, has also stagnated. As a result, the average labour productivity in Indonesian manufacturing is far lower than in Malaysia, Thailand and China, and its unit labour cost is higher than that of the Philippines and Vietnam (Diop 2016).
Nevertheless, manufacturing still has the best potential to become the engine of growth once again. Its average labour productivity is about five times that of agriculture, and it has plenty of room to grow as only about 30 per cent of Indonesian firms are in the formal sector compared with 95 per cent in Brazil and 96 per cent in China (Diop 2016). The dramatic decline in commodity prices since 2012 and the consequent partial downward adjustments of real exchange rate have also created an opportunity for the manufacturing sector to regain the momentum. This has led to the call for re-industrialisation (see ADB 2013; World Bank 2016; Economic Intelligence Unit 2016).
The Government of Indonesia (GOI), too, has given priority to re-industrialisation . In 2007, the GOI introduced Law No. 27 on Long-Term National Development Plan (Rencana Pembangunan Jangka Panjang Nasional or RPJPN) for the period 2005–2025. RPJPN identified the industrial sector as the engine of growth for strengthening the economic structure. Thus, the 2008 Presidential Regulation on National Industrial Policy has set a long-term industrial development vision for Indonesia to be a strong industrialised nation by 2025. This vision was further elaborated in the Regulation of the Ministry of Industry issued in 2010,4 which states that Indonesia will be a strong industrialised nation by 2025 through becoming a new industrially developed country by 2020 (Vision 2020).
The priority to re-industrialise is further strengthened by the Government Regulation No. 14/2015 concerning Master Plan of National Industry Development (Rencana Induk Pembangunan Industri Nasional or RIPIN) 2015–2035. RIPIN is drafted to fulfil the mandate of Law No. 3/2014 concerning industry. Among the ...