Indonesia, Malaysia, and Thailand
Indonesia, Malaysia, and Thailand

Don Hanna
Citigroup Global Markets
388 Greenwich Street, 11th
Floor
New York, NY 10013
USA
don.hanna@citigroup.com

Indonesia, Malaysia, and Thailand: Nuovo
Administrations, New Policies, Nuovo
Performance?

Astratto
The administrations in Indonesia, Malaysia, and Thailand have all
put in place economic policies designed to increase growth, Rif-
duce poverty, and improve governance. In Thailand, the govern-
ment is taking a more activist role, a change from the previous,
more hands-off approach. In both Indonesia and Malaysia, new
policies reduce the activist role of the state, creating greater pre-
dictability and transparency. Better governance remains a key to
growth, with many reforms within governments’ reach. While
many of the policies focus on the medium term, there is an ac-
ceptance of the need for prudent short-term management. IL
open question is whether progress on structural changes can per-
sist when the short-term macroeconomic picture becomes more
challenging.

1. introduzione

ASEAN has a new crop of leaders. In the last three years,
both Malaysia and Indonesia have seen new administra-
tions come to power. In Thailand, Prime Minister Thaksin
had ªve years in power, with a resounding electoral vic-
tory in 2005 returning him to ofªce, before protests and an
annulled snap election this year prompted a coup that top-
pled him.1 The shift in Malaysia, with the appointment of
Abdullah Badawi was the ªrst change in prime minister in
Sopra 20 years. President Susilo Bambang Yudhoyono is the
ªrst Indonesian president ever directly elected. Thaksin

1 The analysis in this paper was written before the coup. Singa-

pore also has a new prime minister, Lee Hsien Loong, and Glo-
ria Macapagal Arroyo has been formally elected to ofªce in the
Philippines, but this paper does not address Singaporean or
Philippine economic performance.

Asian Economic Papers 5:3

© 2007 The Earth Institute at Columbia University and the Massachusetts

Institute of Technology

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Indonesia, Malaysia, and Thailand

may yet remain in ofªce if, as expected, his Thai Rak Thai party wins a majority in
the planned October election.

All these administrations represent a break with the past. All have touted new poli-
cies. This paper looks at what the distinct features of these new policies are and how
they may affect their respective economies going forward. In Thailand, Thaksin’s
longer time in ofªce does allow for some empirical analysis. Because of the short
time involved in Malaysia and Indonesia, the judgments here rely more on the bi-
ases of the author than empirical analysis. Time will tell whether those biases reºect
reality.

The analysis proceeds in two stages. Primo, I lay out my understanding of the key ele-
ments of the policies espoused by the Yudhoyono, Badawi, and Thaksin administra-
zioni, relying for this on their published policy statements. Secondo, I assess the long-
term issues against the yardstick of work done across a range of emerging markets
on the relevance of the themes espoused by the administrations to economic
growth. I also make some preliminary assessments of the effectiveness of policies to
date.

2. New policies, new outcomes?

Any understanding of the effects of the policy agenda of any administration re-
quires an understanding of just what policies it is undertaking. We look at each of
the three administrations in turn, comparing them with the past agendas in each
country and with each other.

2.1 Indonesia: Peace, justice, and prosperity
Over the last eight years, a degree of turmoil has marked Indonesia’s economic per-
formance that is greater than any seen in the country since the 1960s. After a period
of growth in per capita income that was surpassed by only a few countries in the
mondo, the crisis that followed the 1997 Thai baht devaluation and the ensuing end
del 30 years of rule by Suharto was a rude exposure of the weaknesses of “growth
with stability,” the catchphrase of Suharto’s economic policy.

Ovviamente, the very phrase “growth with stability” is on one level contradictory.
Something growing is, by deªnition, changing, at a minimum in size. One could
think of the phrase, Anche se, as the description of a stable dynamic solution in the
manner of the now-classical growth theory of the 1960s. There was much in
Suharto’s policies that bore the hallmarks of the 1960s, especially a technocratic ap-

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Indonesia, Malaysia, and Thailand

Figura 1. Geographic concentration of Indonesia’s GDP, 1996–2004 (per cento)

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Fonte: CEIC Data Company Limited, Citigroup calculations.

proach to economic policy that sought to isolate economics from politics.2 The more
usual distinction in the “growth with stability” catchphrase was the split between
economics and politics. Suharto sought a growing economy and a stable polity (one
led and controlled by him). Tuttavia, while Suharto envisioned stable growth in the
economy, he seemed to favor absolute stability in the level of politics.

One can argue that it was the conºict between pursuing stable economic growth
and static politics that undermined Suharto’s regime and unwound, at least tempo-
rarily, some of the regime’s economic beneªts. The effort at avoiding political
change in leadership did bring change, a centralization of authority under Suharto
as alternative centers of power were emasculated (the military, political parties, IL
parliament [Dewan Perwakilan Rakyat]).3 The centralization of political authority
under Suharto may have tended to concentrate economic activity in Jakarta as busi-
ness sought to inºuence the president and his administration (certainly, the demise
of Suharto’s presidency has tended to rebalance GDP away from Jakarta) (see ªgure
1). By the 1990s problems of pollution and congestion in the Jakarta metropolitan
area were becoming severe (World Bank 1996). The bureaucracy, pure, was heavily
concentrated in Jakarta, reinforcing the economic concentration. With centralized

2 For a discussion of Suharto’s economic policies, see Glassburner, Nasution, and Woo (1994).

3 For a discussion of politics under Suharto, see Schwarz (1999).

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Figura 2. Country scores on Corruption Perception Index, 2005, and Heritage Foundation
Index of Economic Freedom Index, 2006

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Sources: Heritage Foundation (2005) and Transparency International (2005).

political decision making, regions got short shrift, feeding simmering tensions on
the fringes of the far-ºung archipelago, in Aceh, in Papua (then Irian Jaya), and in
northern Kalimantan.

Centralized decision making and the absence of checks on government authority
not only undermined political growth, but also promoted corruption. It is perhaps
not a coincidence that Transparency International’s rankings of the most corrupt
countries bear a direct relationship to the Heritage Foundation’s Index of Economic
Freedom (see ªgure 2). Unbridled corruption undermined justice in Indonesia, cre-
ating an environment in which justice was bought.

This backdrop is important for understanding the themes that President Yudhoyono
emphasizes in his approach to governing Indonesia. In a 2005 speech he summa-
rized his policy agenda: “. . . to change Indonesia for the better. To make Indonesia
more democratic, more prosperous, more just, more peaceful (Yudhoyono 2005, empha-
sis added). These watchwords—democracy, prosperity, and peace—go beyond the
typical range of economic policies toward areas that the profession has termed
“governance.” Only in prosperity do we have the typical set of economic policy is-

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Indonesia, Malaysia, and Thailand

Tavolo 1. Key elements of Yudhoyono’s 100-day plan

Objectives

Key Actions

Ensuring security and
peace

Promoting justice and
democracy

Speedily resolve conflicts in Aceh and Papua and prevent escalation of conflicts in Poso, Maluku,
and North Maluku.
To facilitate the above, focus on rehabilitating infrastructure and ensuring adequate autonomy
laws.
Ban exports from illegal logging and fishing.

Combat corruption and demonstrate commitment by empowering the Anti-Corruption Court and
concluding a few high-profile corruption cases expeditiously.
Focus on poverty reduction, complete a strategic document on poverty reduction, and prepare a
comprehensive poverty map to guide future interventions.
Strengthen public services in education and health (through scholarships for books, teacher
training, more staff and free services to the poor at health facilities, and adoption of a law on
medical practice).

Promoting prosperity Put in place a business-friendly tax system, with the focus on an accelerated depreciation schedule,

investment allowances, extending the carry-forward period for losses, and reducing tax on
dividends.
Ensure budgetary needs in 2004 are met, through tighter tax collection and divestment of minority-
share ownership of the government in some banks, and review 2005 budget to align priorities with
resources.
Improve labor regulations related to recruitment, wages, layoffs, and separation pay.
Support the small and medium-sized enterprise sector through debt forgiveness from state-owned
banks and other support mechanisms through state-owned enterprises.

Fonte: Coordinating Ministry of Economic Affairs, as quoted by Asian Development Bank, www.adb.org/Documents/CERs/INO/

2004/ino0300.asp

sues. Within each broad category is a set of initial actions that the government com-
mitted to as part of its 100-day program (see table 1).

2.2 Malaysia: A national performance culture
Understanding the policies of Malaysian Prime Minister Badawi is also easier if one
considers those of his predecessors, Tun Abdul Razak and Mahathir Mohamed, who
governed Malaysia for 35 years prior to Badawi. The dominant policy agenda of
much of that period was the “New Economic Policy” (NEP) adopted in 1970 in re-
sponse to serious race riots in 1969. The objectives of the policy were to eradicate all
poverty and to redistribute wealth to the bumiputera, largely Malay, with a goal of
having 30 percent of national wealth in bumiputera hands by 1990. In practice this
meant institutionalized discrimination in favor of other Malaysians against the Chi-
nese, the chief holders of wealth in Malaysia, in owning businesses, in education,
and in job placement.

Favored by the state, bumiputera citizens did increase their relative incomes and
their control of wealth in part by preferential access to state privatization deals as
well as favorable quotas at universities and in the civil service.4 But a culture of
cronyism also set in, with opportunities allocated not on merit, but on race. Crony-

4 For an analysis of the NEP, see Sundaram (2004).

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Indonesia, Malaysia, and Thailand

ism was reinforced by Prime Minister Mahathir’s preference of favoring particular
bumiputera businessmen as a means of creating a new business class rather than a
strategy of distributing stakes in state assets widely through the Malay community.

Like that of Indonesia, Malaysia’s economic performance through the NEP years
was among the best in the word. Per capita income soared from US$370 in 1970 to US$2,400 in 1990. The incidence of poverty slipped, life expectancy lengthened, E
infant mortality plummeted. By the 1990s Prime Minister Mahathir was focused on
“Vision 2020,” a plan to push Malaysia to developed-country status by that date.
Achieving this goal was complicated, Anche se, by the Asian crisis and the weakness
in Malaysia’s corporations and banks that it exposed. Favored, state-connected, E
previously high-ºying institutions like Renong defaulted as many of the bumiputera
managers, who had not seen a recession since the mid-1980s, found themselves un-
able to cope with the country’s economic downturn. Banks’ balance sheets were rid-
dled by bad loans, threatening their solvency.

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Five years later, as Prime Minister Mahathir gave way to Prime Minister Badawi,
the criticisms of the discrimination inherent in government policies had risen, non
just among those who had been discriminated against, but also among Malays
who had begun to resent the stigma of favoritism, rather than personal achieve-
ment, that clung to accomplishments.5 Against this backdrop, Prime Minister
Badawi, shortly after assuming ofªce in October 2003, proclaimed his new economic
policy agenda:

Let us now enter into a “performance contract.” The public sector hereby com-
mits to maintaining strong ªscal discipline and growth-supporting policies, E
at the same time strives to overhaul the levels of bureaucracy and red tape to
achieve higher levels of efªciency and transparency. In return, the corporate sec-
tor commits to leading the growth effort, by improving productivity and interna-
tional competitiveness, while capitalizing on focused investments in key sectors
to build our future economic growth engines. Additionally, we will collectively
commit to upgrading the quality of our human capital. (Badawi 2004)

Notable in this enumeration was the total lack of any racial or religious references.
Performance, rather than race, has become the watchword.

2.3 Thailand: 21st-century global populism
Thai Prime Minister Thaksin’s economic policies, as announced in his March 2001
policy speech, also reºect a response to the aftermath of Thailand’s 1997 economic

5 For an insightful personal view of the NEP period, see Rashid (1993).

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crisis (Shinawatra 2001), to a sluggish economy and rising poverty, and to perceived
decaying moral values, epitomized by rising corruption and drug use. As the crisis
has receded and economic performance has improved, the emphasis has shifted to
eliminating poverty and building a “sustainable” Thailand.

Tellingly, the Thaksin administration attributes the weak performance of Thailand’s
economy immediately after the 1997 crisis to “heavy dependence on foreign mar-
kets” (see Shinawatra 2005, 1). Hence the policy prescription at heart attempts to
build Thai resilience in the face of greater global competition, rather than simply
shielding the economy from that competition. A tal fine, the government’s “Dual
Track” policy pronouncements have tended to focus on building rural, “grassroots”
Thailand (the revolving Village Fund, the farmer debt moratorium, the “One Vil-
lage, One Product” campaigns). They have also tended to emphasize advantages to
Thai business integral to Thailand due to its geography or culture (tourism and agri-
culture again are prominent). Finalmente, there has been a willingness to use the state
more actively in promoting economic growth (the consolidated asset management
company, clusters of state-owned enterprises).

Allo stesso tempo, Thailand has pursued a policy of promoting trade, negotiating for
a free trade agreement with the United States, and pushing to expand the ASEAN
Free Trade Agreement. These efforts are constrained, Anche se, by a desire to promote
local business interests. This again, comes across very clearly in the 2001 policy
statement of the trade agreement: “Support free trade in the international arena, tak-
ing into full consideration the level of preparedness and national interests of the
country as well as the interest of domestic entrepreneurs” (Shinawatra 2001, section
4.3(1)). The tension between national and foreign interests in trade and production is
also evident in a more recent policy speech: “. . . industrial manufacturing continues
to be run by placing orders or according to the pattern developed by the foreign in-
tellectual property owners, Quale, in turn, makes the country deeply dependent on
the imports of raw materials, capital and technological expertise from abroad”
(Shinawatra 2005).

Some observers have attributed this bias to Thaksin’s own background as a Thai
entrepreneur whose telecom businesses beneªted from Thailand’s initially protected
regulatory environment and from government contracts. The popularity of the
policy may also be a backlash by domestic business against the sale of assets,
largely to foreigners, instituted by the Democratic administration that preceded
Thaksin.6

6 See Phongpaichit and Baker (2002) for an espousal of this view.

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There has also been a tension between the Thaksin administration’s desire to pro-
mote grassroots development and the somewhat newer emphasis on providing so-
cial protections from “cradle to grave.” The interesting issues are how to strike the
balance between absorbing the technology and prowess of the rest of the world and
being absorbed by it, and how the state can promote risk taking while sheltering
those who fall behind.

Finalmente, there is little said in Prime Minister Thaksin’s policy statements about the
conduct of macroeconomic policy. There was a commitment in Thaksin’s ªrst ad-
ministration to reducing the ªscal deªcit as Thailand’s economy rebounded, a com-
mitment that was met. Because of concerns about the faltering economy, the admin-
istration has now pledged to keep public debt below 50 percent of GDP and debt
service to under 15 percent of public spending, even as it announced a July 2005
ªscal package of Bt$50 billion, O 0.7 percent of GDP, and infrastructure spending of US$63 billion over the next ªve years.

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On monetary policy, Anche se, little has been said, even as inºation picked up in 2005.
Thaksin’s original 2001 policy statement commits the administration to “implement
monetary policies that facilitate the extension of credits to the real sector”
(Shinawatra 2001, section 2.2, paragraph 1). There is no mention of price stability.
Ovviamente, this could simply represent the independence of the Bank of Thailand,
though the ouster of the previous governor seems to imply limits on the effective
independence of the bank.

2.4 Parallels across the region
There are echoes in Thaksin’s economic policies of those of former Malaysian Prime
Minister Mahathir.7 The willingness to remain open to trade, while harboring suspi-
cions about the motives and consequences of foreign trade, is very reminiscent of
Mahathir. So, pure, is a willingness to use the state as an agent of change. But with
Thaksin having just begun the process of political and economic consolidation, there
is less of the performance contract/transparency theme inherent in the Badawi
administration policies.

Like his fellow leaders in neighboring countries, Thaksin is also emphasizing the
need to root out corruption. This goal was one of the key planks of his ªrst adminis-
tration and repeated in the second. Against this goal, it is ironic that the sale of his

7 Phongpaichit (2004) argues that there are also political echoes of Mahathir in Thaksin, partic-
ularly his willingness to use the state as an engine of reform and his penchant for concentrat-
ing authority in his party, the Thai Rak Thai.

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family’s ºagship company in early 2006, in a manner that avoided any tax pay-
menti, sparked the current political turmoil in the country.

There is an interesting evolution, Anche se, in the government’s position on democ-
racy and transparency and civil society: “That the Government received the people’s
trust so overwhelmingly in the last election has given rise to a new dimension in the
Thai political system: a strong government. Tuttavia, the Government fully recog-
nized that in a democratic society, there must be checks on the administration of
public affairs, through a strong civil society” (Shinawatra 2005, section 7). These
comments seem at odds with other observers’ concerns about the human rights of
southern Muslims and of drug trafªckers and about press freedom. They are consis-
tent, Anche se, with Thaksin’s decision to temporarily step down from the position of
prime minister, holding the position now only in a caretaker capacity until new elec-
tions can be arranged.

There are echoes in Thaksin’s Thailand of the pro-domestic-business stance evinced
by Indonesian Vice President Jusuf Kalla and his chosen Economic Coordination
Minister, Aburizal Bakrie. Both countries focus on calls for reduced poverty and
greater decentralization. Prime Minister Thaksin, Anche se, with a stronger ªscal and
political base, seems more willing to use state authority for his aims than President
Yudhoyono has been to date. Both countries have plans for a large expansion of in-
frastructure: in Thailand’s case, some US$63 billion over the next ªve years, in Indo- nesia’s case, US$25 billion.8 In Thailand’s case, Anche se, there is a greater emphasis
on state-driven projects, while Indonesia has tried to focus on a better enabling envi-
ronment and less direct state funding.

Other elements of Thaksin’s agenda appear in the 100-day plan of the Yudhoyono
administration: ensuring peace (Aceh and the Malukus versus southern Thailand),
lessening corruption, reducing poverty, support for small and medium-sized enter-
prises, and more effective decentralization and public infrastructure. The similarity
in ends, Anche se, seems to mask some differences in means, in particular, the willing-
ness to use the state as a catalyst rather than focusing on removing governmental
obstacles. This in turn may simply reºect the differences in the effectiveness of ad-
ministrations in the two countries, evident in the World Bank data on governance
(see appendix 1).

8 According to a presentation made by Raden Pardede, the head of the Indonesian govern-

ment’s task force for infrastructure ªnancing, the total amount needed for infrastructure ad-
justment is as much as US$149 billion in the next ªve years. This includes Aceh/Nias recon- struction. Tuttavia, only US$25 billion of that will come out of the national state budget.

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Indonesia, Malaysia, and Thailand

3. Policy evaluation: Current and likely effects

3.1 Indonesia
One way of assessing President Yudhoyono’s economic program in the ªrst year is
simply to enumerate how much of the 100-day program has actually been carried
fuori. The answer to that is straightforward: there has been a good start on some
structural measures, but the record on short-term policy management and on the
infrastructure initiative is very mixed.

Enhancing peace and security The tsunami that devastated western Aceh pro-
vided an opportunity for progress on peace negotiations with the Free Aceh Move-
ment. Both sides agreed to a cease-ªre as they focused on the need to prioritize di-
saster relief. Several rounds of talks in Helsinki ended with a peace agreement in
July that is now being put in place. Along with peace negotiations, infrastructure re-
building in Aceh has begun, with billions of dollars in aid ºows beginning to be felt
in the province, and a one-year debt moratorium from the Paris Club to provide
some US$4.5 billion in temporary cash ºow relief. Progress on autonomy laws or on conºicts elsewhere around Indonesia, Anche se, has suffered as the government’s at- tention and capacity is occupied by tsunami relief. Combating corruption In regard to ªghting corruption, pure, there has been some progress, largely with the Corruption Elimination Commission bringing cases against 10 prominent government ofªcials and opening investigations into 16 others as of May. Five cases have been decided, but four are still under appeal.9 President Yudhoyono has also publicly acknowledged police and army connivance in illegal logging in Papua and Kalimantan, a major source of corrupt income for both enti- ties. Under new scrutiny from the president, customs has reduced bribe taking to such an extent that exporters are now complaining that imports of components are being held up as ofªcials demand proper bills of lading and tariff payments. Struc- tural changes in public sector compensation, Anche se, remain unaddressed. A much- awaited reshufºing of senior civil servants designed to root out corruption and also increase the effectiveness and competence of the civil service is still pending. Promoting prosperity Promotion of prosperity is perhaps the area most closely tied to immediate economic performance. It is also one where the items identiªed in the 100-day plan remain largely works in progress. The most contentious issue has 9 See article by the Deputy of Prevention of the Corruption Elimination Commission, pub- lished by the Independent Commission Against Corruption of Hong Kong in the Interna- tional Anti-Corruption Newsletter, 2005, NO. 2, cited at http://www.icac.org.hk/newsl/ issue22eng/frame.htm 137 Asian Economic Papers l D o w n o a d e d f r o m h t t p : / / d i r e c t . m i t . / e d u a s e p a r t i c e – p d / l f / / / / / 5 3 1 2 8 1 6 8 2 2 8 6 a s e p 2 0 0 6 5 3 1 2 8 p d . . . . . f b y g u e s t t o n 0 8 S e p e m b e r 2 0 2 3 Indonesia, Malaysia, and Thailand been implications of the steady rise in oil prices and its ªscal and inºationary conse- quences. Poverty reduction efforts and ªscal coherence got a boost from the 1 Marzo 2005 announcement of a 29 percent average hike in the price of fuels in Indonesia. Roughly half the expected subsidy cut of Rp20 trillion was earmarked for the 16 per- cent of Indonesia’s population living under the poverty line. To avoid the misuse of these funds, as occurred after a similar effort in 2001, the government has also funded a commission to monitor and report any corruption or abuse in the use of the funds. The money will largely be used for rural infrastructure and health pro- grams and for subsidizing rice purchases, thus addressing some of the public ser- vice issues on the government’s agenda. Initial gains from this measure, Tuttavia, were quickly stripped away by rising in- ternational oil prices that threatened to drive the domestic fuel subsidy to 5 percent of GDP. Even netting out higher revenues from oil production, domestic demand at Indonesia’s low prices was enough to generate a ªscal deªcit of about 0.5 percent annually. In part this reºected the fall in domestic production to under 1 million bar- rels a day from 1.5 million pre-crisis, Quale, in turn, was a result of Indonesia’s un- certain investment climate and a paucity of exploration and development. The most visible example of this is the case of the Cepu oil ªeld in central Java, currently oper- ated by Exxon. In order to invest the money needed to add some 15–20 percent to Indonesia’s annual oil production, Exxon had asked for a lease extension. A long and contentious negotiation was necessary, with only the intervention of President Yudhoyono moving the issue forward in the summer of 2005. With Pertamina’s oil demands rising, and Bank Indonesia lagging behind on interest rate adjustments (see below), the nominal exchange rate on the rupiah moved through 10,000 to the U.S. dollar in late August 2005 and quickly moved through 11,000 (see ªgure 3). Faced with a crumbling currency and slumping equity and bond prices, President Yudhoyono ªnally moved, promising a fuel price hike in October. Bank Indonesia joined in the stabilization effort, pushing up policy rates by 125 basis points in two weeks. While this initially stabilized asset markets, greater market conªdence was engendered by the passage of a new 2005 budget in Septem- ber that implied an 80 percent increase in domestic fuel prices. On 1 ottobre, how- ever, the government actually surpassed market expectations by boosting fuel prices 110 per cento. Since then world oil prices have continued to rise, without further do- mestic adjustments. Tuttavia, the effects on Indonesia’s oil product imports from the 2005 price moves have been so dramatic that currently higher oil prices posi- tively affect both the balance of payments and the ªscal accounts. The whole episode surrounding the fuel subsidy and monetary policy highlights some key points about macroeconomic management in Indonesia. Under Suharto, 138 Asian Economic Papers l D o w n o a d e d f r o m h t t p : / / d i r e c t . m i t . / e d u a s e p a r t i c e – p d / l f / / / / / 5 3 1 2 8 1 6 8 2 2 8 6 a s e p 2 0 0 6 5 3 1 2 8 p d . . . . . f b y g u e s t t o n 0 8 S e p e m b e r 2 0 2 3 Indonesia, Malaysia, and Thailand Figure 3. Indonesia rupiah/U.S. dollar nominal exchange rate and the Jakarta Stock Exchange Source: Haver Analytics. short-term macro stability was generally protected, while progress on long-term, structural reforms, especially in the 1990s, was painfully slow. Megawati’s economic team has restored short-term macro stability, as evidenced by the declining ªscal deªcit, a strong trade balance, and stronger currency and falling inºation (see table 2). Tuttavia, it has not been very successful at boosting investment. In the ªrst year of Yudhoyono’s term, just the opposite was the case, at least as far as inºation, the rupiah, and investment were concerned. The minicrisis surrounding the rupiah has served to focus attention again on short- term management and has led to changes in Yudhoyono’s economic team, with the well-respected former ªnance minister, Boediono, brought back in to coordinate eco- nomic policy, helped by a more decisive new ªnance minister, Sri Mulyani. Part of the problem in Indonesia, Anche se, has not been so much poor ªscal policy as it has been easy monetary policy that does not respond to a changing environment (see ªgure 4). Bank Indonesia seemed mired in a debate over which interest rates to fol- low, deposit or lending rates. Some argued that because lending rates were very high, monetary conditions were tight, and the weaker rupiah was just due to oil prices. Others looked at near-zero short-term interest rates, accelerating GDP growth, and a shrinking trade surplus and concluded that monetary policy needed to tighten. Certamente 30 percent credit growth, more than double nominal GDP growth, didn’t seem to jibe with lending rates’ being “too high.” 139 Asian Economic Papers l D o w n o a d e d f r o m h t t p : / / d i r e c t . m i t . / e d u a s e p a r t i c e – p d / l f / / / / / 5 3 1 2 8 1 6 8 2 2 8 6 a s e p 2 0 0 6 5 3 1 2 8 p d . . . . . f b y g u e s t t o n 0 8 S e p e m b e r 2 0 2 3 Indonesia, Malaysia, and Thailand e c n a l a b e d a r T * ) P D G f o % ( e c n a l a b l a c s i F a ) P D G f o % ( r a l l o d e t a r t s e r e t n i l a e R e t a r * I B S l e u f d n a s d o o f P D G y l l a n o s a e s e g a r e v A – n o s a e s e g a r e v A . . S U r e p h a i p u R h t n o m – e e r h T h s e r f g n i d u l c x e I P C e c n a m r o f r e p o r c a m s ’ a i s e n o d n I f o y r a m m u s e v i t a r a p m o C . 2 e l b a T y t i l i t a l o V d r a d n a t s ( y t i l i t a l o V d r a d n a t s ( y t i l i t a l o V d r a d n a t s ( y t i l i t a l o V d r a d n a t s ( y t i l i t a l o V d r a d n a t s ( y t i l i t a l o V d e t s u j d a y t i l i t a l o V d e t s u j d a y l l a d r a d n a t s ( l a i t n e u q e s d r a d n a t s ( h t w o r g l a i t n e u q e s ) n o i t a i v e d . g v A ) n o i t a i v e d . g v A ) n o i t a i v e d . g v A ) n o i t a i v e d . g v A ) n o i t a i v e d . g v A ) n o i t a i v e d e t a r h t w o r g ) n o i t a i v e d e t a r 4 4 . 3 6 . 3 0 . 4 . 2 (cid:2) 3 2 7 3 6 8 , 7 4 2 . . 0 4 1 . . a n . UN . N 8 0 8 1 6 2 , 9 8 0 . 0 . 9 7 0 . 5 . 0 (cid:2) 7 9 3 2 6 6 , 9 2 . 9 6 . 1 1 . 2 6 . 4 4 . 3 2 . 1 (cid:2) 9 . 0 1 5 . 9 1 6 . 3 7 . 2 1 5 . 2 6 . 9 1 . 0 2 . 0 0 . 0 2 . 0 4 . 0 2 . 0 7 . 2 6 . 0 6 . 0 . s e t a m i t s e p u o r g i t i C d n a s c i t y l a n A r e v a H : e c r u o S . s m u s h t n o m – 2 1 g n i l l o R . UN . a i s e n o d n I k n a B t a k i f i t r e S * . e l b a l i a v a t o n . UN . N 5 . 1 f o n o i t a l l a t s n i o t r o i r P n o i t a r t s i n i m d a s u o i v e r p 1 . 1 n o i t a r t s i n i m d a s u o i v e r P ) 4 0 – p e S o t 1 0 – l u J ( 3 . 1 n o i t a r t s i n i m d a t n e r r u C ) 4 0 – t c O m o r f ( 140 Asian Economic Papers l D o w n o a d e d f r o m h t t p : / / d i r e c t . m i t . / e d u a s e p a r t i c e – p d / l f / / / / / 5 3 1 2 8 1 6 8 2 2 8 6 a s e p 2 0 0 6 5 3 1 2 8 p d . . . . . f b y g u e s t t o n 0 8 S e p e m b e r 2 0 2 3 Indonesia, Malaysia, and Thailand Figure 4. Indonesia’s short-term interest differential and rupiah/dollar exchange rate changes (per cento) Fonte: Haver Analytics and Citigroup calculations. Note: Upward direction in the “IDR/USD appreciation” line denotes a devalued IDR vis-à-vis the U.S. dollar. With Bank Indonesia independent, Tuttavia, there is more limited means for the ad- ministration to inºuence monetary policy. It took the minidebacle surrounding the rupiah to shift the argument sharply in favor to those pushing for tighter monetary policy. This mistake was not lost on Bank Indonesia, Tuttavia, which has kept nomi- nal and real interest rates high as the inºationary effects of the fuel price adjustment subside. Ancora, the episode underscores how important accountability, as well as au- tonomy, is to the success of an independent central bank. From 100 days to 1,825 days: Possible growth effects over time The general market reaction to President Yudhoyono’s administration had been positive prior to the August 2005 debacle and has largely recovered to the levels prior to the debacle. The combination of shifting policies and personalities has seen a dramatic strength- ening of the rupiah on the back of higher capital ºows and falling month-to-month inºation (Guarda la figura 3). International reserves have reached all-time highs, as Indo- nesia now is grappling with the problem not of capital ºight, but of capital excess driving up the real exchange rate. Rating agencies, having upgraded the country’s sovereign rating in 2005, saw no reason to change their ratings, and bond markets have tightened the spread to U.S. Treasuries on Indonesia’s dollar-denominated bonds, with Indonesia issuing the largest trade in 30-year dollar paper of any Asian sovereign, US$600 million, during the ªrst week of October 2005. This despite an-
other in a string of fall bombings, the second episode to strike Bali.

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Indonesia, Malaysia, and Thailand

Whether these market judgments prove correct will depend on two things: the po-
tential impact of the policies on stated objectives and the actual effects. Given the
general scope of the policy agenda, and our limited expertise as economist, we
choose to focus on the gains to economic growth that could potentially accrue to the
policy agenda if implemented.

One strategy is to simply look at the gains to GDP that would accrue from either
larger or more effective use of resources in Indonesia commensurate with the policy
objectives. A growth-accounting framework is one way of carrying out such an exer-
cise.10

The Indonesian government has a medium-term projection for reducing unemploy-
ment and poverty—by 2009—cutting open unemployment to 5.1 percent from
9.7 percent in 2004. What would that mean for GDP growth? We use an expected la-
bor force growth rate of 2.3 per cento, derived by taking the moving-average growth
in the working-age population over the six years to 2004 and a modest increase in
the labor participation rate from the 2003 value of 65.7 percent to the recent peak
value of 68.6 achieved in 2001. Assuming that the reduction in unemployment oc-
curs smoothly over the next ªve years means an effective gain in the labor force of
1 percent year each year. This in turn should boost GDP growth by the same
amount, assuming constant labor productivity.

But Indonesia plans other changes that should affect growth through both the capi-
tal stock and educational attainment. A dramatic surge in infrastructure is one of the
key elements of the new policy program within the promoting-prosperity agenda.
At the infrastructure summit held in Jakarta in January 2005, the country argued
that it would need to roughly double infrastructure investment from 2.3 percent of
GDP to 5 percent of GDP. Assuming an incremental capital output ratio of four, IL
average of the last two years, would imply a boost in GDP growth as a result of
higher infrastructure investment of 0.7 percent each year.

There are no quantitative increases in educational attainment yet speciªed. Given
the lags between improving educational attainment and quality and moving people
into the workforce, it is unlikely that changes instituted now would have an appre-
ciable effect over the next ªve years, even if successfully implemented. There is,

10 Bosworth and Collins (2003) looked at growth accounting across the world from 1960

through 2000 using information on labor quantity, labor quality and capital. Their underly-
ing production function in intensive form assumed constant factor share ratios of 0.65 for
human capital (educational attainment over the labor force) E 0.35 for physical capital
(capital stock over the labor force). Total factor productivity was taken as a residual.

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Indonesia, Malaysia, and Thailand

Tuttavia, growth regression work that relates improvements in educational attain-
ment and quality to GDP across a wide cross-section of countries. Bosworth and
Collins (2003), Per esempio, work with a human capital share of 0.65, meaning that
for every 1 percent gain in educational attainment, output per worker would rise by
0.65 per cento. Their empirical work, Tuttavia, casts some doubts on the magnitude of
the effects of educational attainment on growth (see table 3).

In a regression in which the contribution from physical capital is constrained to the
assumed 0.35 condividere, educational attainment is signiªcant, but when initial condi-
tions or educational quality is included, the magnitude and the signiªcance of the
relation breaks down (see columns 3–5 of table 3). None of this should be taken to
mean that human capital is not a crucial input to growth, only that quantifying its
effect is tough.

President Yudhoyono’s policy agenda goes beyond better labor markets that lower
unemployment and higher infrastructure spending that boosts investment and
growth. There is also a focus on improving the investment climate through improv-
ing security and revamping the regulatory and legal environment, especially as it re-
lates to establishing a business, enforcing contracts, or closing businesses. On mea-
sures of these areas, Indonesia rates poorly (see table 4).

The peace and democracy aspects of policy may also have important effects on In-
donesia’s growth. Issues of governance and growth have been examined in
Kaufmann, Kraay, and Mastruzzi (2005). Indonesia, at least in 2002, ranked very
poorly (see appendix 1). Kaufmann identiªes six facets of governance: voice and ac-
countability, political instability and violence, government effectiveness, normativo
burden, rule of law, and control of corruption. Each of these indicators is positively
correlated with per capita income growth. While correlation is not causality, the pos-
itive correlation between governance and growth holds out hope for President
Yudhoyono’s policies.

So far the goals and focus of President Yudhoyono’s new policies appear, according
to our examination, aligned with economic evidence supporting higher growth—
one measure of the prosperity that Indonesia seeks. If that judgment is right, Poi
the real change isn’t the objectives of the policy, but rather their implementation.
Then–Planning Minister Sri Mulyani echoed as much in a 2005 public speech in
which she cited implementation of policy, not its formulation, as the biggest chal-
lenge facing the administration. There are clearly huge beneªts to lifting investment,
improving governance, and maintaining monetary and ªscal prudence. Capturing
those beneªts will depend on the execution. Success for President Yudhoyono

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145

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Indonesia, Malaysia, and Thailand

would be a bigger milestone than the peaceful election process that brought him to
power. Stories of the corruption of Indonesian ofªcials and their antipathy to busi-
ness go back at least to the 16th century.11

3.2 Assessing Malaysia’s new performance contract
As with Indonesia, there has been little time since the announcement of Badawi’s
policies, making an empirical assessment of their impact difªcult, though some par-
tial indicators are available. Fiscal discipline looks improved, with the 2004 deªcit
running at 4.5 percent of GDP, budgeted to fall to 3.8 percent of GDP in 2006, Anche se
this remains much worse than the average under Mahathir (see table 5 and ªgure 5).
The ratio of public debt to GDP is also falling, with ratings agency upgrades in 2004
lauding the country’s economic management.12

These policies reverse the expansionary ªscal policy pursued to stabilize the econ-
omy after the 1997–98 debacle. Ancora, the Malaysian government has not returned to
the surpluses it was running in the 1990s.

The history of ªscal adjustment in Malaysia is encouraging. Past surplus gave the
government considerable room to operate countercyclical ªscal policy during the
Asian crisis downturn. Although the country’s budget balance is improving, there is
probably greater room to steer a more aggressive ªscal consolidation path in meet-
ing the commitment to “strong ªscal discipline.” Malaysia’s tax effort compares well
regionally (see ªgure 6).

But an increasing need for a lighter direct tax burden to cope with growing interna-
tional competition for foreign direct investment and to stimulate domestic private
investment implies that policymakers need to broaden the country’s revenue base to
pave the way for a cut in direct taxes. Recent ªscal consolidation has relied mainly
on the scaling back of development spending. Tuttavia, there is also greater scope
for tighter discipline in regard to operating expenditures, such as a partial hiring
freeze in the public sector to reduce the public sector wage bill.

With the government dedicated to fostering entrepreneurship, in addition to a low
tax burden, an important driver is the ease of opening a business. If establishing
a business is too expensive or cumbersome, potential entrepreneurs may decide

11 See Milton (2000) for a description of an early encounter between English spice traders and

Indonesian locals.

12 Moody’s upgraded its rating of Malaysia one notch to A(cid:3) in December 2004; Fitch also

moved its rating up one notch to A3 in November 2004.

146

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Indonesia, Malaysia, and Thailand

Figura 5. Public deªcit in Malaysia

Fonte: Haver Analytics and Citigroup calculations.

to abandon their ventures. The commitment of the Badawi government to cut red
tape and improve public service delivery, Perciò, is a step in the right direction to-
ward fostering a more positive ofªcial attitude toward entrepreneurship. Although
the process that a Malaysian entrepreneur must complete to establish a business
ranks favorably among the Asian countries in a cross-country comparison, such a
comparison also shows that there is still plenty of leeway to improve the business
clima (see table 4).

From a cyclical perspective, managing ªscal policy has been complicated by the oil
price shock. While Malaysia is an oil exporter with signiªcant positive beneªts from
higher oil prices for the balance of payments, the GDP effects are negative, given the
feed-through from weaker non-oil export markets and the consolidation of oil
proªts from the state oil company in the treasury (see table 6). Depending on which
model one uses, Malaysia shows a loss in GDP of between 0.3 E 0.6 percent from a
US$25 increase in oil prices. In grappling with this effect, the government has again moved to accelerate infrastructure projects as an additional ªscal stimulus. Monetary policy: New ºexibility, but to what end? Part of the new commitment to performance and transparency can be seen in the new interest rate framework in- troduced in April 2004, which shifted Bank Negara Malaysia’s (BNM) policy rate to an overnight rate, coupled with BNM’s use of repos to manage money market li- quidity and maintain the policy rate. At the time, Malaysia was following a ªxed- exchange-rate policy that limited the room for interest rate divergence with the 148 Asian Economic Papers l D o w n o a d e d f r o m h t t p : / / d i r e c t . m i t . / e d u a s e p a r t i c e – p d / l f / / / / / 5 3 1 2 8 1 6 8 2 2 8 6 a s e p 2 0 0 6 5 3 1 2 8 p d . . . . . f b y g u e s t t o n 0 8 S e p e m b e r 2 0 2 3 Indonesia, Malaysia, and Thailand Figure 6. Tax effort across Asia Source: CEIC Data Company Ltd. and Citigroup calculations. Note: Data as of 2005. United States.13 In introducing the change BNM argued that it would help to signal policy intentions. In practice, the overnight rate has been at 2.7 percent for 5 years, implying that that BNM’s effectiveness in communicating its intentions with the new regime has yet to be tested. The objective of monetary policy has become a more important element of the pic- ture with Malaysia’s decision in July to follow the Chinese and abandon its peg to the U.S. dollar. The daily volatility remains low at less than 1 per cento, compared to the daily standard deviation in the yen-dollar exchange rate of 8 percent in the last 3 years. Ancora, greater ºexibility raises the question of what will anchor Malaysian monetary policy. A vehicle exists for communicating policy intentions: the quarterly Monetary Policy Statement introduced in August 2003 and issued with the GDP ªgures. In this the setup would mimic that of the Reserve Bank of Australia or the Federal Reserve, neither of which explicitly targets inºation. At issue, Tuttavia, is how transparent BNM would be in disclosing the relative importance it places on inºation versus GDP growth and how its preference in that regard moves over time. With core inºation rising (see ªgure 7), despite continued controls on domestic fuel prices, greater clarity in monetary policy may be needed to avoid building a risk premium into the domestic yield curve. 13 Restrictions on capital outºows and short-term inºows created some scope for domestic in- terest rate policy even with the peg. 149 Asian Economic Papers l D o w n o a d e d f r o m h t t p : / / d i r e c t . m i t . / e d u a s e p a r t i c e – p d / l f / / / / / 5 3 1 2 8 1 6 8 2 2 8 6 a s e p 2 0 0 6 5 3 1 2 8 p d . . . . . f b y g u e s t t o n 0 8 S e p e m b e r 2 0 2 3 Indonesia, Malaysia, and Thailand ) 0 0 0 2 ( D O M I T L U M F M I , h t w o r g P D G F E O , e c n a l a b t e g d u B F E O , h t w o r g P D G ) P D G f o s t n i o p e g a t n e c r e p ( 6 0 0 2 , l e r r a b r e p 0 7 $
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150

Asian Economic Papers

Indonesia, Malaysia, and Thailand

Figura 7. Malaysian CPI inºation (seasonally adjusted month-on-month rate, per cento)

Fonte: CEIC Data Company Ltd. and Citigroup calculations.

Fostering entrepreneurship We have used the growth-accounting framework in
thinking about productivity and its impact on medium-term growth. Malaysia is no
exception to the familiar criticism that Asia’s growth has relied too much on perspi-
ration and not enough on inspiration. Growth decomposition reveals that Malay-
sia’s growth since 1960 has been driven largely by capital accumulation. Close to
half of the economic growth between 1960 E 2000 can be accounted for by capital
accumulation, while total factor productivity (TFP) accounted for less than one-ªfth
of growth (Bosworth and Collins 2003). This contrasts with the growth experience of
the United States and other industrialized economies, where TFP typically plays a
more signiªcant and enduring role in driving growth. The case for boosting TFP
growth is not an argument against capital accumulation. On the contrary, it is cru-
cial that policymakers stay focused on lightening the direct tax burden and cutting
red tape to foster private investment—both domestic and foreign.

Invece, faster TFP growth can be achieved by easing domestic constraints on pro-
ductivity, such as allowing greater competition, notably within the services sector,
which will force ªrms to innovate and reduce cost. There is also a corresponding
need for greater labor market ºexibility to facilitate the change. One of the Badawi
government’s priorities is to lift the performance of government-linked companies
(GLCs) Although some progress has been made, most of these efforts have focused
on improving the GLCs’ organizational makeup and sharpening the linkage of car-

151

Asian Economic Papers

l

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Indonesia, Malaysia, and Thailand

Tavolo 7. Educational attainment of total population aged 25 and over, 2000

Highest level attained
(percentage of the population aged 25 and over, 2000)

First level

Second level

Postsecondary

No schooling

Total Complete Total Complete Total

Complete

Population
over age 25
(thousands)

China
Hong Kong
India
Indonesia
Korea
Malaysia
Philippines
Singapore
Taiwan
Thailand

761,566
4,137
487,730
105,121
28,989
10,240
32,596
1,923
13,919
34,017

91,033
Japan
stati Uniti 178,443

Fonte: Barro and Lee (2003).

20.9
10.7
44.5
36.2
8.0
13.9
6.3
12.7
12.4
17.3

0.0
1.0

40.7
26.6
33.2
37.0
16.7
35.6
40.1
28.3
27.5
62.2

28.1
9.3

15.3
13.9
12.4
18.0
15.9
21.8
19.9
16.8
15.4
27.3

12.9
4.5

35.7
47.4
17.4
21.8
49.5
43.0
31.4
48.5
41.1
9.3

47.9
39.6

14.1
28.7
6.5
11.5
34.5
23.6
17.5
13.2
22.9
4.1

17.4
21.6

2.7
15.3
4.8
5.0
25.8
7.5
22.2
10.6
19.1
11.3

24.0
50.1

2.3
8.7
3.3
2.2
19.1
6.3
14.4
7.2
9.7
11.2

15.0
30.3

Average
years of
school

5.74
9.47
4.77
4.71
10.46
7.88
7.62
8.12
8.53
6.10

9.72
12.25

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rot and stick to individual managers’ performance. But unless greater competition is
introduced, it remains to be seen how much productivity growth will improve in the
sectors in which the GLCs operate.

Further investment in human capital may yield substantial growth dividends. If
average years of schooling are taken as a gauge of human capital (see table 7),
Malaysia’s ranking is below that of industrialized countries. Much has been said
about revamping education, but more needs to be done. Although the controversy
surrounding the teaching of mathematics and science in English has subsided and
the government has stepped up education spending in recent years, the familiar is-
sue of skill mismatches needs to be addressed more comprehensively in the areas of
the curriculum, teaching practices, admission systems, and assessment mechanisms.
Facilitating the importing of talented people and professionals, not just in the corpo-
rate, but also in the academic world, should go some way toward addressing the
shortage of high-skilled labor. Increasing the supply of high-skilled labor will likely
have a positive spillover onto the demand for low-skilled labor, but not the other
way around. Toward this end Malaysia has been easing visa requirements for well-
educated expatriates while cracking down on low-skilled, mostly illegal immi-
grants.