Petrol subsidy cuts: Taming a tricky beast - Inside Indonesia · a distant memory, but post-victory, Joko Widodo, or Jokowi, has moved swiftly to enact key policies. One such policy,

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Petrol subsidy cuts: Taming aPetrol subsidy cuts: Taming aPetrol subsidy cuts: Taming aPetrol subsidy cuts: Taming atricky beasttricky beasttricky beasttricky beast

Iona MainIona MainIona MainIona Main

Indonesia’s contentious 2014 presidential election may now be

a distant memory, but post-victory, Joko Widodo, or Jokowi, has

moved swiftly to enact key policies. One such policy, the one on

which he and rival candidate, Prabowo Subianto, could agree, is

that Indonesia’s fuel subsidy scheme could not continue in its

previous state.

Until recently, Indonesia’s decades-old fuel subsidy policy was

so expensive that it almost defied belief. It consumed a

staggering 20 per cent of total government expenditure in

2013. With that year’s total subsidy bill topping a cool A$21.1

A local tradesman transports his equipment through the narrow alleyways of Babakan Ciparay sub-district, Bandung -

Mokstimofeevic

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policy/tag) billion, Indonesia’s treasury was forced to ‘borrow’ from the

2014 budget just to make ends meet. Indonesia has been a net

oil importer since 2003, making the subsidy policy a difficult

beast to control: whenever volatile world oil prices rose, the

Indonesian government was forced to foot an increasingly

pricey subsidy bill. Domestic fuel consumption in Indonesia has

also been growing exponentially as the middle-class replace

motorbikes with cars, and the sheer volumes involved meant

even a small uptick in world oil prices could have spelt

catastrophe for Indonesia’s best-laid budgetary plans.

There is no perfect moment to wrench away a benefit many

Indonesians once regarded as a birthright. However, the

declining oil prices of early 2015 brought about favourable

conditions for managing the side effects of the subsidy cut, such

as inflation. And one might say Jokowi has chosen a good time

to make his move.

Ibu Aam of Babakan Ciparay sub-district, Bandung -Ibu Aam of Babakan Ciparay sub-district, Bandung -Ibu Aam of Babakan Ciparay sub-district, Bandung -Ibu Aam of Babakan Ciparay sub-district, Bandung -

MokstimofeevicMokstimofeevicMokstimofeevicMokstimofeevic

There is a broadening public awareness in Indonesia that petrol

subsidies have been an expensive and ineffective welfare

measure. A subsidy’s benefits are primarily enjoyed by those

who use it most, which in this case are wealthy private vehicle

owners. Poor Indonesian families can rarely afford to own any

kind of motorised transport, meaning they derive very limited

benefit from subsidised petrol. In general, subsidies are a poor

long-term policy tool, as they lead to distortions in the market,


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and in Indonesia’s case, they became a redundant form of

middle-class welfare. Any advantages Indonesia’s economy may

have ever reaped from cheap domestic petrol came to be

outweighed by the enormous hole they made in the country’s

national budget over the course of many years.

Winding back the subsidy scheme is much easier said than done.

In 2014, PDIP economic advisor Sri Adiningsih proposed raising

petrol prices by Rp.1500 (A$0.15) per litre per year to gradually

wean Indonesians off the subsidy, but Jokowi has apparently

favoured a more ruthless approach. Within weeks of his

inauguration in November 2014, he instigated a small subsidy

cut, and then abolished the scheme entirely as of 1 January

2015. Exceptions have been provided for diesel, which is still

subsidised, for fuel used by public transport vehicles and the

nation’s many fishermen.

Generally speaking, the main economic impact of petrol subsidy

cuts is inflation, which spikes sharply as petrol prices increase.

In the long run, inflation will readjust to normal levels, but the

interim period can be acutely painful for poor families. Often,

prices are revised upwards and never come back down. In

Bandung, West Java, the fare for a minibus ride across town

rose by up to 40 per cent after subsidy cuts in June 2013,

despite the actual per-passenger cost of this service on a

normal day having increased by less than 15 per cent. The social

impact of subsidy cuts is also felt most heavily by the poor, who

enjoyed little benefit from it to begin with and who may

struggle to meet the cost of basic necessities. Almost no

Indonesian household below the poverty line possesses savings,

leaving these families with nowhere to turn. In the Babakan

Ciparay sub-district of Bandung, anecdotal evidence suggests

that many households dealt with higher prices by reducing

already low levels of household consumption. One woman, Ibu

Sita Aisa, now walks to the market in order to save the Rp.1000

fare and says many others do the same. For families already on

the margins, these are heavy costs to bear.


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Children play with a hawker's stall in Babakan CiparayChildren play with a hawker's stall in Babakan CiparayChildren play with a hawker's stall in Babakan CiparayChildren play with a hawker's stall in Babakan Ciparay

sub-district, Bandung - Mokstimofeevicsub-district, Bandung - Mokstimofeevicsub-district, Bandung - Mokstimofeevicsub-district, Bandung - Mokstimofeevic

Past measures taken by the Indonesian government to soften

the blow of petrol subsidy cuts on the country’s poorest citizens

have met with dubious success. Former president Susilo

Bambang Yudhoyono made several attempts to rein in subsidy

spending by raising prices in 2005, 2008 and 2013. Each time,

the subsidy cuts were accompanied by a compensation

package, most recently known as the Unconditional Cash

Transfer Program (BLSM), intended to lessen the impact on

poor households. Early problems with the compensation

program included poor management, the widespread

misappropriation of funds and the inclusion of a large number

of non-poor households on recipient lists. This latter problem is

known as ‘inclusion error’ and in 2005, it fuelled public fury due

to perceived inequity, as communities felt resentful of wealthier

households who received compensation money.

By 2013, the pendulum had swung too far in the other direction,

with independent Jakarta think-tank SMERU declaring

‘exclusion error’– the exclusion of legitimately poor households

from recipient lists – to be too high. This issue is significant, as it

illustrates one of the major challenges in providing social

welfare payments in Indonesia – the administrative nightmare

of ensuring accurate targeting and recipient lists. Sample

studies from 2013 showed that a large number of poor families

received no compensation whatsoever, but that this was largely

due to inaccurate, out-of-date or non-existent household

income data rather than the misappropriation of funds. While

updating this information is a mammoth undertaking, its

benefits would increase the effectiveness of the other social

welfare programs Jokowi has instigated: the Indonesia Health


4 of 12 04/05/2015 11:36

Card, Indonesia Smart Card and Family Welfare Fund. These

programs show Jokowi’s commitment to the country’s poor is

more than just lip service, although the jury is still out on how

successfully these programs are being implemented and what

the next steps might be.

While feedback on the 2015 distribution of compensation

payments is not yet clear, outcomes for households which were

granted compensation in 2013 are likely to be a good indicator

of what we can expect. Research by SMERU indicates that the

poverty rate for households that received the BLSM payment

actually decreased slightly after the subsidy cut, illustrating

that the payment was effective in reducing the short-term

impact on poor households. On the other hand, non-recipient

households that live below the poverty line (namely those who

were victims of ‘exclusion error’) suffered deeply. Realistically,

there are a very small number of households that the BLSM

payment allows to rise above the poverty line. However, it is still

clear that the payment enables recipients to stave off the

immediate negative income effects of the subsidy cut, and

ensure their family’s wellbeing in the short run at least.

Whether or not poor Indonesians receive the BLSM payment,

economists still predict that they will benefit most from subsidy

cuts in the long run for two key reasons. First, the Indonesian

government will have money to spend on more beneficial

projects – in the order of Rp.200 trillion (A$20 billion) this year

alone, according to Finance Minister, Bambang Brodjonerogo.

In 2014, government spending on petrol subsidies was close to

ten times that on healthcare, despite the fact that Indonesia

still has one of the highest maternal mortality rates in Asia and

struggles to care for a quickly growing population. With fuel

subsidies almost entirely a thing of the past, Jokowi faces a

genuine opportunity to invest in worthwhile policies and

programs. Redirecting spending to projects such as healthcare,

community infrastructure and education will deliver tangible

and near-immediate benefits to the entire population, including

those at the lower end of the wealth spectrum.

Secondly, the poor may reap long-term benefits because the

subsidy cuts will better position Indonesia for future economic

growth. Although Indonesia has been doing relatively well in


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this area, government and institutional inefficiencies have

made Indonesia less competitive than its neighbours, so

Indonesian growth is lower than it could be. The elimination of

the petrol subsidy scheme will plug a sizeable hole in Indonesia’s

national budget. Furthermore, if the savings are managed

properly, the country’s economy has the potential to flourish.

Subsidy cuts in the past have not been dramatic enough to

noticeably change the course of Indonesia’s economic growth,

but it is possible that this time will be different. A World Bank

study has found that almost 80 per cent of the improvement in

the incomes of poor households in 118 countries worldwide

can be attributed to economic growth rather than the

redistribution of incaomes (through cash payments, social

welfare programs and the like). This doesn’t render targeted

compensation programs redundant – it merely highlights that

while they are important in reducing short-term welfare

impacts on the poor, the economic long term is where the

greatest progress in poverty reduction can be achieved.

Iona MainIona MainIona MainIona Main recently completed a Commerce/Arts degree at the

University of Sydney, majoring in Economics, Indonesian

Studies and International Business. She completed two

semesters of study in Yogyakarta and Bandung as part of the

ACICIS program in 2013 and wrote a thesis on the topic of

petrol subsidy cuts and their impact on poverty in Indonesia.

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Petrol subsidy cuts: Taming a tricky beast - Inside Indonesia · a distant memory, but post-victory, Joko Widodo, or Jokowi, has moved swiftly to enact key policies. One such policy,