Economy: Indonesia should improve governance, productivity and tax collection to promote inclusive growth

Wednesday, September 26, 2012

OECD  - Paris, 27 September 2012

Indonesia should improve governance, productivity and tax collection to promote inclusive growth

Indonesia has improved its macro-economic and structural policies over the last 15 years. Its economy, with strong and stable growth rates of 5-6.6%, is catching up with other countries in the region and allowing it to focus on a development agenda.

To reach the objective of becoming one of the world's 10 largest economies by 2025, the government's next step must be to move ahead with reforms that will take full advantage of this progress and unlock the country's full potential, says OECD 2012 Economic Survey: Indonesia.

"Indonesia has made substantial economic, institutional and social progress. It has weathered the economic crisis quite well and poverty has come down markedly," said OECD Secretary-General Angel Gurría. "The government's challenge now is to boost productivity, reduce energy subsidies and raise tax collection to finance key infrastructure, social and environmental programmes. Investing in an effective social safety net and improving education and skills will make higher living standards accessible to all and ensure that future growth will be inclusive and sustainable."

Investing in innovation and boosting productivity, particularly in small and medium enterprises (SMEs) should be a priority. They employ 97% of the workforce but produce only 57% of value-added. This could be achieved through comprehensive reforms, including facilitating the formalisation of economic activity, easier access to finance and expanding the pool of qualified workers. The Survey suggests that policy reforms could focus on improving banks' access to information on the creditworthiness of potential clients and developing alternative financing sources, such as venture capital or micro-finance.

Regarding labour markets, the Survey suggests a balanced approach: easing regulations to make the formal labour market more attractive and aligning minimum wage increases to productivity growth in provinces where it is already high; while at the same time introducing unemployment benefits, coupled with individual unemployment-insurance accounts, and investing in people's skills.

To finance wider coverage of its social security system and develop its infrastructure, Indonesia should increase its unduly low  12% tax-to-GDP ratio, by removing tax exemptions on employer-provided fringe benefits, many VAT exemptions and tax holidays for specific sectors or investment projects. It should also increase taxes in the resource sector. Improving tax compliance of high-income individuals could increase public revenue and raise the fairness of the tax system. Overall, increasing tax revenues can best be achieved through broadening tax bases and improving tax administration.

OECD's first Review of Regulatory Reform for Indonesia looks at the changes to the regulatory framework which will be necessary to implement the development and growth agenda of the Indonesian Government, including the recommendations of the Economic Survey.

The report recommends that the Coordinating Ministry for Economic Affairs implements a government-wide policy to strengthen institutions, optimise co-ordination among ministries and improve regulations, based on international best practice. In particular, measures to further develop the Indonesian market and increase private investment in infrastructure need to be fostered by coherent policies.

All new regulations, the Review stresses, should serve the public interest and not restrict trade, particularly in the priority areas of major infrastructure investment in the ports, rail and shipping sectors.

The 2012 Economic Survey and the Regulatory Reform Review of Indonesia have been developed through policy dialogue between OECD committees and officials of the Government of Indonesia.

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