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Regional Development Issues in Indonesia
 
The paper consists of four main sections. The first section presents an overview of inter-governmental administrative systems and fiscal relations, followed by a review of recent Government initiatives in the area of regional development. The next section contains quantitative information on regional income and welfare, recent trends in regional inequality, and its related regional development strategies and initiatives. Finally, the paper summarizes the major challenges facing Indonesia in regional development and suggests possible elements of a future regional development strategy and initiatives.


 

A. INSTITUTIONAL STRUCTURE AND FISCAL ARRANGEMENTS

Regional development, and further progress in reducing inter- and intra-regional disparities, depends crucially on the institutional organization and environment of the country. The section begin with a brief description of inter-governmental institutional structure, followed by an assessment of the mechanisms and arrangements for public sector planning, budgeting, revenue raising, and expenditures.
 

INSTITUTIONAL STRUCTURE

The governmental and administrative structure of Indonesia is strongly centralized. When government administration expanded rapidly during the 1970s and 1980s, the central government bureaucracy was extended (or "deconcentrated") from the center to the regions. The civil service is largely dependent on the center, since almost all civil service salaries are funded by central government grants. Administratively, central ministries have branch offices (kanwils) that operate at the provincial and district levels and carry out national government policy and programs.

Subnational levels of government also have administrative arms (dinas) at the provincial and district (kabupaten) levels. Politically, the subnational structures (a legislature and an executive at the provincial and district levels) are also dependent on the center, though they are technically autonomous. The Governor of the province is selected by the President (from a list provided by the legislature) and the Governor selects the head of the district, thereby ensuring allegiance of each level to the level above.

The combination of a system of deconcentrated central institutions (kanwils) with a parallel system of decentralized provincial and district institutions (dinas) leads to duplication and overlap of responsibilities. In general, however, the deconcentrated national bodies usually hold considerably more decision-making power, particularly over development activity, than the provincial or district bodies. Often, the definitions of functions and responsibilities of each level of government are unclear, creating a situation of uncertainty which reinforces the control exercised by the center.

Accountability in the system is upwards, not downwards. The central government has retained relatively tight control and jurisdiction. The lower levels owe their positions, salaries, and most of their powers to higher levels, and naturally are oriented to those above them rather than those below. Accountability to upper levels is reinforced through the presence at both provincial and district levels of offices of the Ministry of Home Affairs (Inspektorat Wilayah) responsible for financial and physical audit functions for the provincial and district governments. The centralized structure strongly reinforces the cultural tendency towards a strong hierarchical order in which lower levels hesitate to make independent decisions without the agreement or endorsement of officials higher in the organization. In this type of system in which the "client" is perceived to be the central government rather than the local population it is difficult to expect decentralized institutions to be accountable to and serve the needs of local beneficiaries.

Though decentralization has been legally enshrined, it has not been generally implemented. One reason is that the system lacks an incentive structure to encourage sub-national governments to become more effective and to take "ownership" of their functions. Sub-national institutions consistently make recommendations to higher levels which are often ignored or drastically altered. There are no generally accepted and applied performance standards by which lower level governments can demonstrate their capacity and ability to accept greater autonomy. There is no reward for a regional government if it is particularly efficient in collecting own-source revenues or implementing projects or delivering services. With the lack of an effective incentive structure, it is not surprising that improvements have been slow to emerge. At the same time, those who object to decentralization in principle point to this failure as proof of the wisdom of maintaining strong central control.
 

PLANNING AND BUDGETING

The basic planning document at the national level is the five-year development plan known as the Repelita. The Repelita sets out the broad objectives of national development, establishes priorities, and estimates the total investment needs of various sectors of the National Development Budget (APBN). From the perspective of regional development, it is important to note that the third part of the Repelita consists of a fairly detailed five-year plan of development priorities for each of the twenty-seven provinces. The Repelita itself is intended to be a more detailed reflection of a more broad national policy statement known as the GBHN (the Gans-garis Besar Haluan Negara) which is drawn up by the People's Consultative Assembly following each national election.

Similarly, at the sub-national level, each province draws up a five-year development plan called the Repelitada. As at the national level, this document is intended to be a more detailed explication of a broader policy document, called the Pola Dasar at the sub-national level. Although the Pola Dasar is approved by the provincial legislature and executive, it must also be approved by the Minister of Home Affairs (or Governor, in the case of the district level document). The provincial Repelitadas are of variable quality, and many often do not spell out the funding requirements of particular projects or initiatives.

The planning and budgeting system suffers from a lack of coordination between the national and sub-national levels. The five-year development plans are drafted concurrently at the national, provincial and district levels, and there is insufficient opportunity to ensure consistency among them. There is no formal acceptance of the provincial or district plans at a higher level, which denies them legitimacy in the eyes of agencies and officials at higher levels. Since the annual budget is supposed to reflect the priorities of the national and sub-national development plans, the lack of consistency among the plans leads to different budget priorities at different levels which are usually resolved in favor of the center.

The annual budget process is lengthy and time-consuming. It begins with consultations literally at the village level, and goes through reformation at extensive meetings at, successively, the Kecamatan (sub-district), Kabupaten (district), provincial, regional and national levels. One process takes nearly nine months to complete, and the returns on the significant investment of time and energy on the part of the lower levels are often low. Even with the extensive initial input from lower levels, the structure of the process ensures that the higher level will tend to crowd out the proposals of the lower level at each stage. Ultimately, the central level makes the final decisions without representatives of the lower levels being present.

The provincial and district five-year Repelitadas tend to overestimate the amount of resources which will be available from the central government, so when such resources are not forthcoming it is difficult to adjust to the reality of actual funding levels. The provincial and district documents also take insufficient account of the recurrent costs of development projects, so that many projects are unsustainable over time.

Ultimately, neither the five-year development plans nor the annual budget are satisfactory planning instruments. The development plans tend to be too general to serve as a template for planning. Once passed, they are very difficult to change, so that rigid goals remain in effect for the life of the plans. On the other hand, the annual budget has too short a time frame. An instrument is required which is based on realistic projections of needs and demands, which is flexible enough to be adjusted on an ongoing basis as circumstances and information change and which clearly establishes functions and responsibilities of the various levels of government. A potential model for this is the five year rolling program (PJM) used for urban areas under the IUIDP program, which is discussed at greater length below.
 

FISCAL ARRANGEMENTS

Public revenues and expenditures are highly centralized. Central government revenues financed some 93 percent of total government expenditure in 1990/91, including some three-quarters of sub-national government expenditure.

In Indonesia central government transfers take several forms. The main ones include SDO (Subsidi Daerah Otonomi) grants, which account for over half of the grants to subnational governments and are primarily used for salaries and other civil service expenses, General Inpres grants, the main source of discretionary expenditure for sub-national governments, Specific Inpres grants, for mandated uses such as health facilities, schools, roads, water supply, etc. that carry strict guidelines for their use, and development funds known as DIP (Daftar Isian Proyek) for development projects administered by the central government. All these funds, with the exception of general Inpres, carry guidelines for their use, although the SDO and Inpres grants are not formally part of the national development budget (the APBN) but are shown in the sub-national government budgets.

hese central government grants and transfers to the regions expanded dramatically following the massive oil windfalls of the 1970s. After a decline associated with the oil crisis in the 1980s, Inpres grants, both in absolute terms and proportionally compared to SDOs and DIPs, have again started to increase rapidly in the 1990s, and have been increasing faster for the Eastern Islands and Sulawesi than for other regions, although specific Inpres has increased faster than general Inpres. Regional spending (i.e., central grants and transfers, plus own-source local government spending) in aggregate has recovered from a low of about 3.5 percent of GDP in 1987 to about 4.5 percent of GDP in 19938, while central development spending DIPs) has fallen in relative terms, even though this still constitutes the largest share of total government spending.

The positive side of a high dependence on central government transfers is that they have to a certain extent resulted in some fiscal equalization i.e. more transfers are made to relatively poor provinces than to relatively well-off provinces. There is a clear inverse relationship between the level of grants and the level of welfare or incomes among provinces, and such a relationship holds particularly for Inpres transfers. There are net transfers from the oil-rich provinces and Jakarta to the other provinces, with the highest net positive transfers going to the poor or remote provinces. Unlike the case of Inpres spending, however, central development spending (DIPs) displays less obvious pro-poor allocation, with more weight given to the relative size of regional GDP and population.

Inpres grants and central development spending have had a large development impact on the regions. Inpres grants have been associated with large gains in access to basic services, and with an evening-out of regional disparities.1l They are also associated with an increase in the shares of the industrial and service sectors, especially in natural resource-poor provinces. Central development spending has funded large infrastructure investments in power, transport, telecommunications, irrigation and water management, and urban development.

However, specific transfers and development spending from the central government are by their nature unlikely to be sufficiently responsive to differences in regional needs and priorities. In the case of DIPs, the ease with which central departments can bypass priorities established at the local level is a cause for concern in implementing effective and responsive regional development policies.

In addition, efficient service delivery is made more difficult when funding comes from multiple sources. Health care services, for example, often depend on funding from as many as ten or more sources central agency DIP and DIK, SDO grants for salaries and remuneration, SDO grants for operational costs, various Inpres grants, and sub-national budget allocations-making coordination and timely delivery of services problematic. Often there is no single consolidated budget for a particular activity, making planning, implementation and monitoring more difficult.

Since service provision and other activities depend on so many sources, and since most sources define in detail the use of funds, there is little flexibility at the local level to use the funds efficiently. It may be impossible to shift savings gained in one area to other areas that need additional resources. The multiple sources of funds and rigid pre-definition of the use of those funds also clouds accountability and responsibility, further reducing the incentives for performance. Since there is little flexibility and there are many agencies and officials responsible for each activity, in fact no one can be held responsible for the outcome.

The lack of consistent performance indicators to measure the development impact of projects contributes to the accountability problem. The primary measure used in assessing the success or lack of success of development spending has been success in meeting expenditure targets rather than clear performance indicators which are monitored and assessed.
 
 

B. ISSUES AND TRENDS IN REGIONAL INEQUALITY

Most regions of Indonesia have shared in the country's impressive economic growth rates. Between 1983 and 1993, real per capita GDP grew at an average annual rate of over 6 percent in the country as a whole (over 7 percent excluding oil and gas). Total GDP per capita grew in all regions.

Between 1975 and 1993, there was some convergence in both income and consumption across regions. There is also evidence of some regional convergence in social indicators such as adult literacy, education enrollments, and health status. Nevertheless, the regions at the top and bottom of the distribution in 1975 remain at the top and bottom of the distribution in 1993.

Social disparities also remain large. For example, illiteracy rates in several eastern provinces are over thirty percent, reaching forty percent in Irian Jaya and nearly sixty percent in Timor Timur. These rates are between three and six times those which characterize many of the western provinces. Poverty rates also vary greatly across provinces and regions, with the Nusa Tenggaras (including Timor Tlmur), Malukus and Irian Jaya showing rates between two and three times higher than much of the rest of the country.

Evidence of regional disparity is also seen in the pattern of foreign direct investment. Higher-income regions have a greater share of foreign direct investment and more rapid rates of growth of FDI. Java (including Jakarta) attracts over three-quarters of total FDI. Foreign direct investment into eastern Indonesia is increasing, but the composition of that investment is very different from the investment in Java and Jakarta. Investments in Eastern Indonesia are concentrated in only four provinces (South and East Kalimantan, South Sulawesi and Irian Jaya), usually in large resource extraction projects. The nature of such projects attracts large investments during a relatively short period, followed by a longer period of only modest investment. In contrast, FDI in Java and Jakarta is more diversified and consistent.

 

C. REGIONAL DEVELOPMENT STRATEGIES AND INITIATIVES

The Indonesian Government has taken a number of specific regional development initiatives in recent years. This section briefly describes the main actions taken in the areas of fiscal decentralization, service delivery, poverty alleviation in the Eastern Islands, regional private sector development and institutional strengthening and coordination

Fiscal decentralization. The Government established a framework for the further decentralization of functions to the district level in Government Regulation (PP) No. 8 of 1995. This regulation builds on the earlier PP No. 45 of 1992 (the Implementation of Regional Autonomy with Emphasis on Second Level Regions) which established the basic functions which were to be transferred gradually to the district and provincial levelsl3. PP 45 also stipulated a four year period during which the transfer of these functions to the districts would be achieved, but this has not eventuated. PP No. 8 of 1995 takes a step in this direction by establishing a pilot program for transferring these functions to one district in each province of the country. Work is only now beginning on the pilot program, and experience with the pilot is to inform the decision to implement decentralization nation-wide, and provide information on administrative reforms needed.

The Government reinforced its commitment to using central government transfers for equalization purposes with the establishment of the Inpres Desa Tertinggal (IDT) program in 1993. This established a new general Inpres to channel funds directly to poor villages, with a strong emphasize for Eastern Indonesia. The program's beneficiaries-community self-help groups-directly determine priorities and programs at the village level. This has led to a significant increase in untied funds available to the local level and, therefore, in increased responsiveness and flexibility in meeting local demand.

Service delivery. The Government has begun to implement a strategy for service delivery in some sectors which seeks to unbundled functions and decentralize them to the regional level. For example, Telecom is being separated into a number of regional distribution companies which will have responsibility for delivering service in their respective regions. Though pricing is still uniform and the companies still operate as public authorities in most respects, this is a step towards improving the demand-responsiveness of services.

Poverty alleviation. Recognition of the special problems of poverty in the eastern islands was highlighted in the President's speech of 1990. This was followed by the establishment of a high-level Eastern Islands Commission (KTI) to oversee and coordinate policies for the eastern part of the country. The KTI is chaired by the President who has delegated leadership to the Minister of State for Research and Technology. The secretary of the committee is the BAPPENAS deputy for regional development affairs.

Regional private sector development. A "strategic areas" approach to regional development is currently being implemented as the Kawasan Andalan Program: A total of 111 strategic areas (kawasan andalan) on land and several more sea areas (kawasan laut) were designated in the National Spatial Management Plan (Rencana Tata Ruang Wilayah Nasional) published in final form in August, 1996 by the Spatial Policy Coordinating Group (BKTRN) chaired by Bappenas. The plan defines criteria for identifying kawasan andalan on the basis of the functional importance of these areas in economic, social and cultural terms. The plan is intended to serve as the basis for local and regional planning for the areas and Bappenas will also design specific development plans for each kawasan. The first 13 kawasan andalan plans are being developed in eastern Indonesia. A special working group chaired by the Minister of State for Research and Technology ~ as the chairman for the council for the development of the Eastern Indonesia ~ is overseeing the 13 plans being developed for eastern Indonesia, and these kawasan have also been the subject of special regulations recently enacted by Presidential Decree designed to create special investment incentives. There is the possibility of location-specific fiscal incentives to encourage private investment.

The Government has also promoted a number of river basin improvement initiatives, land and sea communications strategies, international growth triangle initiatives (e.g., Singapore centered Riau islands growth region, or SIJORI; Northern ASEAN including North Sumatra, Penang, Pukhet and its hinterland (IMT-GT); Eastern ASEAN which is likely to include 8 provinces of eastern Indonesia (BIMP-EAGA); and an as yet defined zone of cooperation between parts of Eastern Islands and northern Australia (AIDA), border and security zone initiatives (SOSEK-MALINDO and JBC Papua Nugini-West Papua), and others.

Urban Infrastructure Project Innovations. A final area in which Government has inaugurated a number of operational innovations with regard to budget control and rationalization and the strengthening of sub-national institutions is in the series of Integrated Urban Infrastructure Development Projects (IUIDP). Though until now restricted to urban areas, the IUIDP approach attempts to overcome the lack of coordination among various levels of government by developing an integrated investment and operations/maintenance program which outlines three to five years of priority expenditures by all involved agencies (central, provincial, local). This involves development of a Revenue Improvement Action Plan (RIAP) to assist local governments in analyzing realistic levels of revenue to be realized from various sources over a five year period, areas in which revenues can be increased and the setting of revenue improvement targets. It also involves development of Local Institutional Development Action Plans (LIDAPs) which identify the personnel and training needs of subnational governments. Together these constitute a "medium term program" (PJM). A major advantage of the PJM is that it is flexible and can be amended, subprojects can be added, deleted or rescheduled and other changes can be made as dictated by circumstances. A Project Financial Accounting and Monitoring System (PFAMS) provides a unified accounting and financial statement covering the whole range of PJM implementation (including subprojects by all levels, O/M expenditures, revenue realizations, agency overheads, land acquisition, and so on) and has been a part of the IUIDP approach since the East Java-Bali Urban Development project. In sum, the IUIDP approach, though restricted to this point to urban projects, provides a number of models for an integrated, coordinated approach to medium term planning and implementation.

 

D. REGIONAL DEVELOPMENT CHALLENGES FACING INDONESIA

From the preceding discussion we can distill the areas of challenge and opportunity which face Indonesia over the next decade in the area of regional development. There are four basic challenges which emerge from the discussion.
 

THE EQUITY CHALLENGE

With a per capita income of about $1000, Indonesia has only just crossed the threshold of low-income countries. It has a considerable distance to go to achieve its desired longer-term levels of incomes, welfare and equity the realization of "a just and prosperous society" (PJP2, Second Long-term Development Plan, BAPPENAS, 1995). Major disparities persist both between and within regions. Moreover, the "easier" parts of the development challenge that were amenable to centralized interventions (e.g. building a school in every village, a health center in every kecamatan) have been completed at the same time that the globalization of economic activity threatens to once again widen regional distinctions. The regional, or sub-national, dimensions of economic development are now likely to be increasingly significant and will call for the use of new strategies which go beyond the drive to achieve uniform prices or levels of development across all regions.

Effective service provision at the regional and sub-regional level will call for greater responsiveness to expressed local needs, a recognition that the costs of service delivery need to be reflected in pricing, and a greater willingness to make full use of the private sector in service delivery. Decisions concerning resource allocation will benefit from the development of an incentive structure which rewards sub-national governments for effectiveness and efficiency in revenue collection and expenditure decisions. Once the private sector begins to take a larger role in the provision of services, resource allocation can be more efficiently and transparently directed to those areas which are not attractive for private sector investment. These steps will improve the fit between supply and demand and help ensure the most efficient allocation of resources to meet the expressed needs of groups and areas below the regional level.
 

THE DIVERSITY CHALLENGE

Indonesia is the world's largest archipelagic state and one of the most diverse in the world in terms of economic structure, ecology, history, demography and culture. Jabotabek has more in common with the economic characteristics of a Bangkok or Malaysia; West Nusa Tenggara (NTB) shares more in common with a Sub-Saharan country. At the same time, social and cultural structures differ greatly across the expanse of the country. The social and cultural structures of Irian Jaya are completely different from those of Bali or Aceh. Such diverse groups and areas have very different perceptions and will express very different needs and demands which cannot be met by a single, uniform center-directed approach. There are fringe groups which have distinct priorities and needs which differ from those of their immediate neighbors, and there are groups which share similar economic and social indicators but nonetheless have very different perceptions concerning their development needs. Designing a strategy which is responsive to such divergent priorities and perceptions will be a major challenge.

These distinctions exist as much, or more, within regions as between regions. Concentration on achieving uniformity of regional indicators runs the additional risk of masking even more significant intra-regional disparities. Understanding the different needs which emanate from such diversity and encouraging the makings of a national policy framework that differentiates development strategies between and within regions will be increasingly important for regional growth. A centrally-determined development path (financed by large oil revenues, which are now dwindling) has undoubtedly paid dividends in the past, but provides no guarantee for future performance because of the inflexibility of centrally-controlled strategies and because what the central government is best at doing has been broadly done (e.g. macroeconomic stability, ensuring an enabling national climate for private enterprise, adequate public investment, and ensuring broadly based national growth).
 

THE PARTICIPATION AND ACCOUNTABILITY CHALLENGE

Meeting the challenges of spatial equity and spatial diversity calls for greater flexibility and responsiveness to local differences in demand. Government has already committed itself to decentralization and deregulation as two pillars of a strategy which will meet these requirements of regional development. Both approaches hold promise, but both also contain risks.

Decentralization is a complex process which can result in greater accountability for service delivery and development activities if the lower levels are prepared to accept such responsibility. However, for this to occur it is important to encourage full involvement of the beneficiaries of the decentralized activities. It is also important to ensure that the sub-national levels are characterized by good governance; that the people are able (and willing) to articulate their needs and that the various levels of government are willing to meet those needs. In a similar manner, the commitment of government to further simplification and transparency in the enabling environment is laudable and necessary. However, central government willingness to further deregulate is not sufficient to free the private sector to make an optimal contribution to national development. Freeing up of the national-level enabling environment could be compromised by the continued existence (and potential expansion) of a wide range of legal and illegal regulations that distort local prices. This could undermine regional development. Indeed, decentralization and deregulation are intimately connected, and such distortions might well increase if decentralization occurs without attention to lower level accountability.

The Government has an opportunity to meet this challenge by continuing several strategies on which it has already embarked. First, Government can concentrate on providing an enabling environment which allows the private sector to serve as the engine of growth and wealth creation, which in turn is the key to generating government revenues. Government can expand the opportunities for the private sector and other sectors of society, such as civil society, to make contributions in certain areas, such as service delivery. Finally, Government can encourage the development of mechanisms which will allow people to make their needs clearly known and which will introduce incentive structures which encourage sub-national levels to be accountable to the people in their jurisdictions.
 

THE STRATEGIC PLANNING CHALLENGE

The challenges of regional development also present an opportunity to adjust the approach to strategic planning so it takes advantage of the changes occurring both within Indonesia and in the international environment. In the future strategic planning will be called on to take account of the following factors: