CLOSING CASE
Indonesia-Asia's Stumbling Giant
Indonesia is a vast country. Its 248 million people are
spread out over some 17,000 islands that span an arc
3,200 miles long from Sumatra in the west to Irian
Jaya in the east. It is the world's most populous Mus-
lim nation-some 85 percent of the population count
themselves as Muslims—but also one of the most eth-
nically diverse. More than 500 languages are spoken
in the country, and separatists are active in a number
of provinces. For 30 years the strong arm of President
Suharto held this sprawling nation together. Suharto
was a virtual dictator who was backed by the military
establishment. Under his rule, the Indonesian econ-
omy grew steadily, but there was a cost. Suharto bru-
tally repressed internal dissent. He was also famous for
"crony capitalism,” using his command of the political
system to favor the business enterprises of his support-
ers and family.
In the end, Suharto was overtaken by massive debts
that Indonesia had accumulated during the 1990s. In
1997, the Indonesian economy went into a tailspin. The
International Monetary Fund stepped in with a $43 bil-
lion rescue package. When it was revealed that much of
this money found its way into the personal coffers of
Suharto and his cronies, people took to the streets in
protest and he was forced to resign.
After Suharto, Indonesia moved rapidly toward a vigor-
ous democracy, culminating in October 2004 with the
inauguration of Susilo Bambang Yudhoyono, the country's
chces in Political Economy
Chapter 2
between 4 and 6
first directly elected president (he was elected to a sec
ond term in 2009). The economic front has also seen
progress. Public debt as a percentage of GDP fell from
close to 100 percent in 2000 to around 27 percent by
2010. Inflation declined from 12 percent annually in
2001 to 5 percent in 2010. The economy grew by
percent per annum during 2001-10,
and hit a high of 6.9 percent growth in 2010.
But Indonesia lags behind its Southeast Asian neigh-
bors. Its economic growth trails that of China, Malaysia,
and Thailand. Unemployment is still high at about
7 percent of the working population. Growth in labor
productivity has been sluggish at best. Worse still, sig-
nificant foreign capital has left the country. Sony made
headlines by shutting down an audio equipment factory
in 2003, and a number of apparel enterprises have left
Indonesia for China and Vietnam. Between 2001 and
2004 the stock of foreign direct investment in Indonesia
fell from $24.8 billion to $11.4 billion. It has since
increased to more than $80 billion, largely as a result
of investment in Indonesia's natural resources, includ-
ing mining, oil and gas production, and forestry, but
outside of extractive industries, foreign investment has
remained low.
Some observers feel that Indonesian is hobbled by
its poor infrastructure. Public infrastructure invest-
ment has been low for years. The road system is a
mess, half of the country's population has no access to
electricity, the number of brownouts is on the rise as
the electricity grid ages, and over 90 percent of the
population lacks access to modern sewerage facilities.
The tsunami that ravaged the coast of Sumatra in late
2004 only made matters worse. Mirroring the decline
in public investment has been a slump in private
investment. Investment in the country's all-important
oil industry fell from $3.8 billion in 1996 to just
$187 million in 2002, although it has picked up since.
Oil production, which peaked at 1.7 million barrels a
day in the mid-1990s, declined to less than 1 million
barrels a day by 2010, even though oil prices were close
to record highs. Once a ner exporter of oil, Indonesia is
now an importer.
According to a World Bank study, business activity in
Indonesia is hurt by excessive red tape. It takes 151 days
on average to complete the paperwork necessary to start
a business, compared to 30 days in Malaysia and just
8 days in Singapore. Another problem is the endemi-
cally high level of corruption. Transparency Interna-
tional, which studies corruption around the world, ranks
Indonesia among the most corrupt, listing it 110 out of
the 178 countries it tracked in 2010. Government bu-
reaucrats, whose salaries are very low, inevitably demand
bribes from any company that crosses their path-and
Indonesia's penchant for bureaucratic red tape means a
long line of officials might require bribes. Abdul Rahman
Saleh, the former attorney general in Indonesia, has
stated that the entire legal system, including the police
and the prosecutors, is mired in corruption. The police
have been known to throw the executives of foreign
enterprises into jail on the flimsiest of pretexts,
although some well-placed bribes can secure their
release. Even though Indonesia has launched an anti-
corruption drive, critics claim it lacks teeth. The politi-
cal elite are reportedly so corrupt that it is not in their
interests to do anything meaningful to fix the system.34
Case Discussion Questions
1. What political factors explain Indonesia's poor
economic performance? What economic factors?
Are these two related?
2. Why do you think foreign firms exited Indonesia
in the early 2000s? What are the implications for
the country? What is required to reverse this
trend?
3. Why is corruption so endemic in Indonesia?
What are its consequences?
4. What are the risks facing foreign firms that do
business in Indonesia? What is required to reduce
these risks?
Notes
2. Although as we shall see, there is not a strict one-to-
one correspondence between political systems and eco-
nomic systems. A. O. Hirschman, "The On-and-Off
Again Connection between Political and Economic
Progress," American Economic Review 84, no. 2 (1994),
1. M. Seputyte and A. Eglitis, “Estonia's Credit Rating
Raised to A+ by Fitch on Economy, Public Finances”.
Bloomberg, July 5, 2011; see The Economist magazine
(www.economist.com) for an extensive archive of materi-
als on the Baltic States' economies; The materials used for
this case were identified using the search term 'Baltic
economies'; The Economist, “Charlemagne: Baltic bet:
Why fiscally prudent Estonia wants to join the troubled
euro." December 29, 2010.
pp. 343-48.
3. For a discussion of the roots of collectivism and individu-
alism, see H. W. Spiegel, The Growth of Economic Thought
(Durham, NC: Duke University Press, 1991). A discus-
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