Comprehensive Notes on Indonesian Economic Policy

Society-Centered Approach to Trade Policy

Mas Zahir proposes analyzing trade policy through a society-centered approach. This means viewing economic policies as reflections of domestic pressures and the dynamics of interest groups within Indonesia. The focus is on understanding how internal dynamics shape Indonesia's foreign economic policy.

Case Study: Palm Oil Export Restrictions

Rahman's study focuses on the export restrictions and production pressures on palm oil by the European Union and Indonesia's response through the World Trade Organization (WTO). He plans to use the "two-level game" theory to analyze how elites in the palm oil industry influence discussions and agreements, supporting the government's decision to file a WTO case.

State-MNC Relations and the Two-Level Game

Nicho's research will center on the relationship between Indonesia and multinational corporations (MNCs), specifically focusing on the Indonesian government's policies towards foreign technology companies. He also intends to use the two-level game theory to analyze state-MNC relations.

Understanding the Two-Level Game

The two-level game theory, introduced by Robert Putnam, suggests that foreign economic policy is not solely the result of international negotiations (Level 1) but is significantly influenced by domestic factors (Level 2). National leaders act as dual negotiators, balancing international and domestic interests.

Application to CPO (Crude Palm Oil) Case

In the context of CPO negotiations, such as free trade agreements like the Comprehensive Economic Partnership Agreement (Sefa) with the U.S., the government considers tariffs and quotas, but also faces pressure from domestic stakeholders like the Indonesian Association of Palm Oil Producers (Gapki), labor unions, and NGOs. Negotiations at the WTO regarding issues with the EU require balancing domestic demands for downstreaming (hilirisasi) with global trade rules.

Elite Dominance in Policy

In Indonesia, certain elites dominate the policy-making process, leading to policies that may not always reflect the broader public interest. This is evident in cases involving CPO and multinational corporations, where economic policies are not linear outcomes but influenced by global pressures.

Trump's Policies as an Example

For example, Trump's policies on reciprocal tariffs led to Indonesia's tariffs increasing from $10\%$ to $32\%$. This resulted from complex interactions between U.S. and Indonesian domestic factors. Trump's administration also pressured Indonesia to halt downstreaming policies because they were seen as detrimental to American interests, contributing to a trade deficit of $8 billion$.

QRIS and Financial Sovereignty

There was pressure from the U.S. to halt the use of Quick Response Code Indonesian Standard (QRIS) for transactions, as it was seen as a loss for American financial companies like MasterCard and Visa. However, Bank Indonesia views QRIS as a tool for financial sovereignty and continues to support it.

Geopolitics and National Influence

Economic policies are not just about economics but also geopolitics and influence. The U.S. and Europe often raise environmental concerns regarding Indonesian CPO in WTO, with Europe banning CPO imports due to deforestation issues. However, CPO sold to Singapore or Malaysia can be re-exported to Europe without the same restrictions, highlighting political dimensions.

Environmental Standards

Indonesia faces challenges in meeting environmental standards, especially regarding deforestation caused by palm oil plantations. While most palm oil investments in Indonesia are from Malaysian companies, Indonesia's bargaining power in trade negotiations is weakened due to environmental issues.

Recent Export Policies

Recent regulations, such as Permendag Nomor 26 2024 and Permendag Nomor 2 2005, impact the palm oil industry by regulating the export of derivative products. Additionally, a CPO export levy of $7.5\%$ was introduced in September 2024, with funds managed by BPdpks for land improvement and technology upgrades.

Significance of Palm Oil to Indonesian Economy

The palm oil industry significantly contributes to Indonesia's foreign exchange earnings. It accounts for $3.5\%$ of Indonesia’s total GDP, equivalent to almost 760 trillion IDR, and supports $12\%$ of the total GDP in the agricultural sector or around 6.340 trillion IDR. However, its contribution has been stagnant in the last five years due to fluctuating global CPO prices, anti-deforestation policies (EUDR), and declining productivity on older plantations.

Palm Oil Exports and Global Share

Indonesia is the largest producer and exporter of palm oil, holding a $52\%$ global market share. Its palm oil exports are valued at 440 trillion IDR or approximately $274 billion$ USD, contributing nearly $14\%$ to the nation’s non-oil and gas exports. The industry employs about 4.5 million people directly and supports up to 16 million indirectly, primarily in Sumatra, Kalimantan, and Sulawesi.

Fiscal Contribution and Stability

The palm oil export levy contributes nearly 20 trillion IDR annually toward biodiesel subsidies, research, replanting, and controlling domestic cooking oil prices.

Market Structure and Elite Influence

The palm oil market is highly concentrated, with strong conglomerates, elite political connections, and local oligarchies. These entities significantly control land, production, and policy. Approximately $55\%$ of the land is controlled by large corporations, while $45\%$ is managed by plasma and independent farmers. Examples include Sinarmas, Wilmar, and Salim Group.

Local Oligarchies

Research indicates that about $40\%$ of palm oil company owners have been involved in politics, such as members of the DPR, DPRD, or regional heads, and hold significant influence over land use permits and law enforcement.

Impact of Elite Dominance

The dominance of elites leads to land inequality, asymmetrical pricing, and policy influence. Corporations control over $50\%$ of the land, making it difficult for plasma and independent farmers to improve their status. Elites have high access to regulators, leading to conflicts of interest and environmental issues like deforestation and weak law enforcement.

Policy Recommendations

The reports and research are available on the Indep website.

Collaboration Between Elites and Policy

Many policies in Indonesia involve collaboration with those who have vested interests and countries with interests. For example, the Omnibus Law was influenced by various vested interests, even from other countries. Some countries need a specific policy that cannot be executed without a new law. Therefore, elites influence lawmakers to push these policies, with substantial financial incentives involved.

EU Deforestation Regulation (EUDR)

The EUDR requires proof that products are deforestation-free to enter the European market, making it difficult for Indonesian CPO to enter because much of Indonesia's palm oil comes from deforested land. In contrast, Europe values environmental preservation and does not convert forests into plantations. The EUDR is a significant barrier for Indonesian CPO trying to enter the European market.

Indo-Pacific Economic Framework (IPEF)

The IPEF with the U.S. requires digital sector reforms and investment climate improvements. The Online Single Submission (OSS) system helps investors register in Indonesia, but it also creates opportunities for new digital and financial elites, shifting the power from international to domestic resource sectors. This policy was reviewed due to its impact on the U.S.

Instrumentalization of Foreign Policy

Elites often use foreign policy instruments to strengthen their political dominance, such as amending laws to create new monopolies. Outsourcing in the labor sector, enabled by the Omnibus Law, results in a large informal sector with low wages and unclear career paths. This issue led to legal challenges in the Constitutional Court (MK). The instrumentalization of foreign policy through domestic regulations is significant.

Influence of Liberalization

Liberalization policies strongly benefit major elites in the palm oil sector, marginalizing UMKM. Global regulations, such as the EUDR, pose serious threats to large corporations. Clear examples, such as FDI (Foreign Direct Investment) and Dananta, create alliances between domestic and foreign oligarchies. Dananta's model in Indonesia differs from that in Singapore, where SWF funding comes from BUMN profits, whereas in Indonesia, it comes from fiscal efficiency and APBN.

Legal Loopholes

Certain clauses in the revised BUMN law provide legal immunity to directors of BUMNs, protecting them from prosecution in case of bankruptcy. This raises concerns about corruption.

Danantara's Advisory Board

The people involved with Danantara are foreign, and there is concern that the company has thus far been ineffective at contributing to the Indonesian economy/has made no meaningful contributions.

EU's Environmental Concerns

The EU's stringent environmental standards, coupled with their technological advancements, give them a significant advantage. For example, carbon capture technology offers substantial economic opportunities. Indonesia's CPO industry faces challenges due to the EU's regulations.

Actions in Response to the EU's Regulations

Indonesia is contesting the EUDR due to concerns about the benchmarking system that categorizes countries into high and low risk regarding deforestation. Indonesia insists on proving that its CPO production does not pose high deforestation risks. Additionally, the EUDR's requirement for geolocation tracking poses challenges for Indonesian exporters.

Diversification of Markets

To counter the EU's restrictions, Indonesia: 1) is forming a joint task force with Malaysia to mitigate the EUDR's impact, and
2) diversifying its markets towards Asia and Africa to reduce dependence on the EU.

Currently, China and India import approximately $60\%$ of Indonesia's CPO, but at lower prices compared to European markets. In contrast, Europe only imports the CPO in Indonesian product for the beauty and pharmaceutical markets.

Influence of Palm Oil Elites on Policy

The Indonesian Palm Oil Entrepreneurs Association (Gapki) and major conglomerates actively lobby the Indonesian government and EU trade representatives. Approximately $30\%$ of the funding for Indonesia’s largest palm oil associations comes from these conglomerates. This ensures their influence over economic diplomacy, trade retaliation against Europe, and regulatory dialogue.
Further, the Indonesian government threatens to respond to any new taxes or regulations that might arise from the WTO by restricting imports from the European automative and technology sectors

Policy Effectiveness

Two versions of the effectiveness of the domestic regulation are provided. On one hand, the Indonesian government has Perpres 46, which aims to mandate that at least $40\%$ of all components be sourced locally. If such a rule is met, then the Indonesian government must secure at least $50\%$ of the domestic country's business, which is why there are so many Chinese products available (that meet this requirement).
On the other hand, Apple does not meet these requirements. This is due to American products not being able to match the spec, and further Apple's operations not yet being efficient enough to pursue such manufacturing. Today, Trump has opened the door to import and export even if the company is unable to meet TDN standards. If such policies continue, competing businesses such as Samsung and oppo will be put at a disadvantage.

Short Term vs. Long Term

The current policies are not long-term, but dependent on the president (and his own priorities from term to term). With the current framework, a presdient could readily eliminate TDN requirements, which is not the case for law. For the economy to succeed in the long term it needs those long term protections.

With a change to a law-oriented focus, there would be no benefits towards trade (unless one is to have such infrastructure in the country itself, as done by Samsung and Vivo).

Exports, Imports, and Economic Philosophy

Indonesia's foreign economic policy is closely tied to imports and exports, based on an open economy. This approach facilitates the import of essential goods and the export of goods in demand internationally. Economic diplomacy is part of this framework, aiming to enhance market access, protect national interests, and support domestic economic transformation through global integration.

Pillars of Economic Policy

The pillars include strengthening trade and investment agreements, promoting natural resource downstreaming, and protecting strategic assets and BUMNs. Diplomacy should reinforce BUMNs as instruments of economic strategy.

Elite Coalition Influence

International economic policy in a country is usually formed through two-level-game theory, which focuses on the product formed from balance that is attained by various entities through domestic and government, or global demand and interest This is accomplished using economic-politic international frame, and can then result in the policies that result from Indonesia. Therefore, what must be considered from entities, is the impact of the local coalition and/or global pressure.

The stakeholders, therefore, must consider:

1. Goverment, as the main policy setters for the country.
2. Legislative Politicis, by enacting treaties with the various lobbyists throughout the industry
3. Major Corporate, specifically toward influencing policies for the sector.

National vs. Specific Interest

National interest, however, is often set aside within the various implementers. For instance: Bappenas is brought to the DPR to sign laws to allow implementation. Yet. after the laws are made--the implementations fail to align with their target audience, or implementors will do something that goes beyond what was intended.
One such example is the Danantara, an effort not intended originally and that has come at the expense of APBN.

Diplomatic and Investment Realities

While diplomancy may continue, what happens often is that after many attempts, nothing tangible will always result from the original diplomatic mission (particularly due to red tape issues). Other factors to consider are that:

1. there is a lack of expertise, there tends to be corruption, etc.
2. there are issues when attempting to implement the plans.
   All three reasons lead to a severe amount of resources being required but with no tangible results that can be seen in the long term. The result, is that everything can be described as being just on the surface as a hollow gesture, with no lasting effect and no trust on the market's part.