national development planning, industrial policy, and ... · stages, from repelita i to repelita...

National Development Planning, IndustrialPolicy, and Sustainable Growth Challengesin Indonesia and Malaysia: A ComparativeHistorical Analysis

Mustafa Yağci and Natasha Ardiani

AbstractIndonesia and Malaysia are two developing nations that are deemed successful inavoiding the “resource curse” by achieving strong growth trajectory in the pastthree decades. However, they are now faced with the challenge of overcoming“middle-income trap.” Although sharing many similar features, the two countriesdiffer in the adoption of industrial policies and national development strategies.By historically comparing national development planning and industrial policies,this research aims to illustrate how Indonesia and Malaysia circumvented theresource curse. This study also explains how contemporary challenges shapenational development planning in Indonesia and Malaysia to achieve greenergrowth. This paper argues that effectiveness of government policies in attainingsustainable growth and maximizing the utilization of natural resources depend notonly on development planning but also on policy consistency, coherence, coor-dination, and implementation.

KeywordsNational development planning • Industrial policy • Indonesia • Malaysia • Statepriorities and strategies

ContentsIntroduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2Characteristics and Comparison . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4Historical Review of National Development Planning in Indonesia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5

M. Yağci (*)İstanbul Bilgi University, İstanbul, Turkeye-mail: [email protected]

N. ArdianiEconomic and Political Development, Columbia University, New York, NY, USAe-mail: [email protected]

# Springer Nature Singapore Pte Ltd. 2017M. Yülek (ed.), Industrial Policy and Sustainable Growth, Sustainable Development,DOI 10.1007/978-981-10-3964-5_16-1

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mailto:[email protected]

mailto:[email protected]

Pre-Asian Financial Crisis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5Post-Asian Financial Crisis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7

Historical Review of Industrial Policies in Indonesia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9Pre-Asian Financial Crisis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9Post-Asian Financial Crisis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11

Historical Review of National Development Planning in Malaysia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15Historical Review of Industrial Policies in Malaysia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18Comparative Analysis of Indonesia and Malaysia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20Sustainable Growth Challenges . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27

Introduction

Development planning has had a critical role in influencing economic policy makingin many countries especially since the end of World War II with the key goal of“influencing the resource allocation in such a way to accelerate the attainment ofdevelopmental objectives” (Yülek 2015: 3). For instance, Öniş (1991: 122) assertsthat the experience of the developmental states in the East Asian miracle demon-strates that “sector-specific forms of indicative planning can be an essential comple-ment of market-oriented growth” and the development plans had an important role inthis respect. Johnson (1982) for the Japanese case and Amsden (1989) for the Koreancase illustrate the importance of state strategies for the economic developmentsuccess of these countries. Wade (1990: 195) also emphasizes the importance ofdevelopment planning in the East Asian miracle: “A pilot agency or economicgeneral staff is one of the core features. The pilot agency decides which industriesought to exist and which industries are no longer needed in order to promote theindustrial structure which enhances the nation’s international competitiveness.” Thefocus in these studies is the industrial policies of countries, and they illustrate that thestates’ involvement in industrialization process with their development plans is oneof the main reasons that brought economic development success to these countries.In compliment to these studies, Kim (2005: 312) argues that the main reason behindSouth Korea’s economic success is the integrated approach to industrial develop-ment in which “trade policy, human-resource development policy, and technologypolicy were well coordinated and complementary to industrial policy.”

However, there are also arguments which oppose the importance of developmentplans in the success of East Asian countries. For instance, Powell (2005: 307) arguesthat knowledge or calculation problem and the public choice incentive problem mustbe addressed before giving a superior role for development plans in the industrial-ization process. Another line of argument against development planning is that ofequating national development plans to centrally planned socialist economies.According to this view, the development plans are relevant only for socialistcountries with state-dominated centralized economic systems. One such exampleto this perspective is World Development Report 1996: From Plan to Market of theWorld Bank (1996). Such understanding implies that development planning

2 M. Yağci and N. Ardiani

demands centralized price controls and closed economic and financial systems withdomination of state enterprises. Following this logic, we come to a dichotomybetween market-based economies and planned economies. In our view, this is amisleading understanding of development planning. As the East Asian miracleillustrates, development planning can go hand in hand with market forces for thepurpose of promoting industrial policy, and development planning does not neces-sarily entail centralized price controls or strictly closed economies.

Meadowcroft (1997) approaches planning with a comprehensive framework andsees it as a means to achieve sustainable development. For him, sustainable devel-opment is a long-term social “meta-objective” that is open ended and “each gener-ation must take up the challenge anew, determining in what directions lie theirdevelopment objectives, what constitutes the boundaries of the environmentallypossible and the environmentally desirable, and what their understanding is of therequirements of social justice” (Meadowcroft 1997: 449). He proposes an “environ-mental and developmental pluralism” in the planning approach with some recom-mendations to policy makers. Firstly, the idea of sustainable development should beintegrated into the decision-making routines of existing planning structures andprocesses, secondly planning should involve receiving input from different segmentsof the society (politicians, NGOs, and private enterprises), and thirdly policy makersshould “encourage vigorous national debates about pathways to sustainable devel-opment and alternative futures” (Meadowcroft 1997: 450). Lastly, sustainable devel-opment requires at least three different kinds of factors in decision-making:“(a) multiple time scales: the present, and the near and farther futures; (b) variousdimensions of social life: economy, environment, and equity; and (c) diverse socialand ecological scales: globe, nation, region, and locality” (Meadowcroft 1997: 451).In this proposition, the central government has the most important function ofassuming an orienting role and this includes “elaborating national strategies andpriorities, establishing targets and frameworks within which other bodies canbecome active, and mediating the interface between national performance andinternational agreements and initiatives” (Meadowcroft 1997: 451).

Following on the footsteps of the previous literature on development planning(Yülek 2015), we argue that development planning in many emerging economies hasbeen an essential part of policy making in many respects, not just for economicconcerns. These plans have been utilized as “roadmaps” for realizing economic,social, and political objectives in many countries, and these plans give us a verygood understanding of priorities and strategies of policy makers in different contexts.Development planning has become an essential part of state policies not only inlarger economies such as India (Chakravarty 1993) and China (Naughton 1995) butalso in other smaller economies such as Malaysia and Indonesia. This paper’s maingoal is to historically analyze development planning in Indonesia and Malaysia andto demonstrate in a comparative perspective how state priorities and strategies varyin different contexts through time.

National Development Planning, Industrial Policy, and Sustainable Growth. . . 3

Characteristics and Comparison

Indonesia and Malaysia are neighboring countries with majority of the populationbeing Muslim, and their languages are very similar, but in many respects, they arevery different countries. Table 1 provides a political, social, and economic compar-ison of these countries.

We choose to compare Indonesia and Malaysia for three reasons. First, in manyrespects, Indonesia and Malaysia are seen as very similar countries, and the goal inthis paper is to show that even in very similar countries, states playing important roleto shape the economic development trajectories of countries can result in differentoutcomes. In this respect, national development plans are reliable sources to identifystate priorities and strategies in different time periods. Second, unlike its East Asiancounterparts, Indonesia and Malaysia are ethnically, religiously, and culturallydiverse countries. Their diversity makes it much more appropriate to study theirdevelopment experience as a role model for other developing countries as Snodgrass(1995: 1) asserts: “in many respects Malaysia and other rapidly developing South-east Asian countries (Thailand and Indonesia) have far more structural resemblanceto developing countries in the rest of the world than the East Asian countries everdid” and similarly “Malaysian (and other Southeast Asian) experience may thereforehave more to teach other developing countries than the more intensively studiedexperience of East Asia.” Third, both Indonesia and Malaysia are resource-richcountries, but their relative economic success have helped them avoid the “resourcecurse” (Stevens 2003; Rosser 2006). That is why analyzing the economic

Table 1 Political, social, and economic comparison of Indonesia and Malaysia

Indonesia Malaysia

Year of independence 1945 1957

Colonial heritage Dutch British

Population 257 million 30 million

Major ethnic groups Javanese 40.1%, Sundanese15.5%

Malay 50.1%, Chinese22.6%

Major religions Muslim 87.2%, Christian 7% Muslim 61.3%, Buddhist19.8%

GDP per capita $3,347 (lower middle income) $9,768 (upper middleincome)

Total GDP World Rank 16 34

Last 10 Year GDP growthaverage

5.6% 4.9%

Polity score 8 (Democracy) 6 (Democracy)

Regime type Presidential Constitutional Monarchy

Freedom house Free Partly Free

Sources: World Bank Databank (http://databank.worldbank.org/data/home.aspx), CIA WorldFactbook (https://www.cia.gov/library/publications/the-world-factbook/), Polity 4 Project (http://www.systemicpeace.org/polity/polity4.htm) and Freedom House Freedom in the World (http://www.freedomhouse.org/report/freedom-world/freedom-world-2013#.U4h5TfmSwTs)


http://databank.worldbank.org/data/home.aspx

https://www.cia.gov/library/publications/the-world-factbook/

http://www.systemicpeace.org/polity/polity4.htm

http://www.systemicpeace.org/polity/polity4.htm

http://www.freedomhouse.org/report/freedom-world/freedom-world-2013#.U4h5TfmSwTs

http://www.freedomhouse.org/report/freedom-world/freedom-world-2013#.U4h5TfmSwTs

development experience of Indonesia and Malaysia offer important lessons for othercountries in this regard as well.

To give a better understanding of how Indonesia and Malaysia arrive at theircurrent economic structure, the next section looks into the evolution of the twocountries’ development plans and industrial policies.

Historical Review of National Development Planning in Indonesia

Pre-Asian Financial Crisis

Indonesia’s economy in the post-independence period was mainly reliant on agri-culture and natural resources such as oil and gas. In terms of political regime, untilthe Asian financial crisis (AFC), Indonesian political system was characterized by“one-man rule”: between 1945 and 1965, the country was ruled by one of thefounding fathers, Soekarno, and from 1967 to 1998, it was ruled by a four-stargeneral, Soeharto. Soeharto regime, the New Order, kick-started the developmentplanning tradition in Indonesia with industrial-oriented 5-year development plans(Rencana Pembangunan Lima Tahun or Repelita) in 1969 after eliminating hyper-inflation and achieving positive economic growth. Repelita was planned in sixstages, from Repelita I to Repelita VI. In Repelita I, the main focus is on promotingagricultural output and productivity. Also, approximately 40% of planned develop-ment expenditure is dedicated to agriculture and irrigation (Booth 2005: 205). Thesecond and the third development plans covering the periods 1974–1979 (RepelitaII) and 1979–1984 (Repelita III) focused more on macroeconomic policy andindustrial development. Robison (2009: 140) asserts that start of developmentplanning in Indonesia is a sign of major policy change in terms of increasing therole of the state in the economy. He outlines the main features of Repelita I asprioritizing import-substitution manufacturing in sectors that were key in agricul-tural rehabilitation (fertilizers, chemicals, cement) and providing consumer necessi-ties such as textiles (Robison 2009: 141). Repelita II focuses more on manufacturingindustries of processing of raw materials to a higher stage of value added (rubber,timber, oil and minerals); Repelita III focused more on establishment of capitalgoods (engineering) industries and Repelita IV (1984–1989) on manufacture oftechnology (Robison 2009: 141, 179). According to these plans, majority of theinvestments are to be made by the state with the help of natural resource revenues,and private sector or foreign capital have a minority role to play as projected by theimport-substitution strategy.

Despite these plans, the oil crisis in the 1970s and the domestic economicproblems of Indonesia prevent the policies in the development plans of Repelita IIand Repelita III to be implemented. As a result of these developments, the NationalDevelopment Planning Agency (Badan Perencanaan Pembangunan Nasional/Bappenas) which was responsible in the preparation of the first three developmentplans was relegated to a secondary position, and Ministry of Finance becomes themain institution responsible for national development planning. According to


Hofman et al. (2007), Indonesia could only take serious reform initiatives followingeconomic crisis, “such as the aftermath of Soekarno’s failed ‘Ekonomi Terpimpin’(the era of Guided Economy), the state oil company Pertamina’s foreign debt crisisof 1975 and the sharp drop in oil prices in the 1980s”; Repelita V gives more role tothe domestic private sector in investments as a result of liberalization policies buttries to restrain the role of the foreign investment in the economy (Booth 1989: 10).This plan also makes the following as the main priorities in the economy: exportdiversification and less reliance on oil revenue should continue, more effort toreform tax policy, reducing reliance on foreign aid and borrowing as a source ofdevelopment finance, and allowing aid flows to be used for paying back interest andprincipal on existing foreign debt.

Repelita VI covering 1994–1999 is the last plan of Soeharto’s rule. This plan hadan ambitious agenda with more focus on macroeconomic indicators such as achiev-ing above 8% GDP growth, reducing the pie of the agricultural sector to 8% from28% over the next 20 years (Booth 2005: 206). With the impact of the Asian crisis onthe Indonesian economy in 1998, 13% decline in GDP, political upheavals leading tothe resignation of Soeharto, Repelita VI does not have a good reputation as expected.On a positive note, resignation of Soeharto facilitated the democratic transition ofIndonesia.

Development plans since 1969 had major priorities such as improving agricul-tural sector, eradicating poverty, increasing investment in infrastructure, and achiev-ing high rates of GDP growth by moving away from natural resource-dominatedeconomy with increasing share of industrial sector. Overall, strategies utilized toaccomplish these objectives were successful. For instance, Grabowski (2011: 244)argues that Soeharto era economic policies are “pro-poor” as Soeharto regimeemphasized labor-intensive growth, in particular labor-intensive agricultural growth.As a result, these policies helped reduce poverty significantly by focusing onagricultural investment. Similarly, Hofman et al. (2007) and Tambunan (2012)indicate that early reforms were mainly concerned with rural development, foodself-sufficiency, and increasing the productivity of the agricultural sector, and somemeasures were taken for macroeconomic stability.

Another success of the Soeharto era is the increase in the industrial segment ofGDP while achieving a decrease in agricultural share in GDP (Fig. 1). Indonesia isalso deemed successful in promoting agricultural sector, reducing poverty, andachieving moderate rates of economic growth. On top of that, Indonesia achieveda more equitable income distribution with the help of “pro-poor” growth strategies.

On the other hand, projecting overly ambitious macroeconomic targets, ignoringpolitical reform, liberalizing the financial system rapidly but not regulating orsupervising it in an appropriate manner, and being overly vulnerable to capitalflows resulting in a severe economic crisis are the significant flaws in the develop-ment plans. Therefore, because of these missing parts in development planning,Soeharto’s period in Indonesia will not be remembered for reducing poverty andimproving agricultural sector but for exposing the country to the worst economiccrisis in its history and with that paving the way for the start of democratization


process in the country. Table 2 illustrates the key economic indicators in Indonesiabetween 1969 and 1999.

Post-Asian Financial Crisis

One of the most significant transformations in Indonesia after the Asian crisis is theresignation of Soeharto and the beginning of the democratization and rapid decen-tralization process in the country. Development plans also reflected the influence ofpolitical change in the country with the downside being the Government of

0

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Industry, value added (% of GDP) Agriculture, value added (% of GDP)

Services, etc., value added (% of GDP)

Fig. 1 Structural change in the components of GDP in Indonesia (Source: World Bank Databank,http://data.worldbank.org/country/indonesia)

Table 2 Key economic indicators of Indonesia between 1969 and 1999

Period

GNIgrowthavg.(annual%)

GNI percapitaavg.(currentUS$)

Inflation(annual%)

Agricultureavg. (% ofGDP)

Manufacturingavg. (% ofGDP)

Industryavg.(%of GDP)

1969–1973 7.75 96 13.96 42.25 10.23 21.84

1974–1978 7.56 284 19.73 29.73 10.32 34.34

1979–1983 6.15 540 13.56 24.29 12.29 39.67

1984–1988 5.63 536 7.67 23.19 16.79 36.45

1989–1993 8.58 658 8.17 19.18 21.20 39.44

1994–1998 2.67 956 18.11 17.05 24.98 43.09

1999 �1.10 580 20.49 19.61 26.00 43.36

Source: World Bank Databank http://data.worldbank.org/country/indonesiaGross national income (GNI) is the sum of value added by all resident producers plus any producttaxes (less subsidies) not included in the valuation of output plus net receipts of primary income(compensation of employees and property income) from abroad (World Bank)


http://data.worldbank.org/country/indonesia

http://data.worldbank.org/country/indonesia

Indonesia (GOI) had an extremely hard time in implementing a consistent develop-ment strategy and allocating scarce resources (Kimura 2005). Booth (2005: 207)summarizes the priority areas in the 2000–2004 development plan also called asPropenas (Program Pembangunan Nasional, National Development Program):establishing a just market mechanism with healthy competition; emphasizing eco-nomic growth together with social values of equity, quality of life, and environmen-tal protection; guaranteeing equal opportunities to workers and business people andprotecting consumer rights. As for the previous plans, Booth (2005) criticizes thisplan for very optimistic targets, lacking specific policy initiatives to meet the targetsand no reevaluation of past development plans. However, she also acknowledgesthat after a very problematic democratic transition process, economic meltdown afterthe Asian crisis, planners had no choice but to be optimistic for the longer term.

Following these considerations, the GOI ratified Law No. 25/2004 on theNational Development Planning System to make development plans more credible.The new law iterates that “national development planning comprised integratedplanning across government departments and agencies, as well as across levels ofgovernment” and tries to “present a new image of planning in Indonesia that is bothparticipatory and effective” (Booth 2005: 210). The new law also iterates thatMinistry of Finance will be mainly responsible for annual budget decision making,whereas Bappenas will be responsible for the preparation of the medium-term(5 years) and long-term (20 years) plans before which both had overlapping respon-sibilities on development planning.

Further, the GOI introduced Law No. 27/2004 on Long-Term National Develop-ment Plan (Rencana Pembangunan Jangka Panjang Nasional or RPJPN) for theperiod of 2005–2025. Implementation of the RPJPN is operationalized through a5-year Medium-Term National Development Plan (Rencana Pembangunan JangkaMenengah Nasional or RPJMN). RPJMN serves as a basis for ministries andgovernment agencies in formulating their strategic and budget allocation plans(Tijaja and Faisal 2014: 12). Both RPJPN and RPJMN also serve as two keydocuments shaping current Indonesia’s industrial policy.

In formulating regional development plans (Rencana Pembangunan JangkaMenengah Daerah or RPJMD), subnational governments are required to take intoaccount both RPJPN and RPJMN in order to ensure alignment between central andregional governments. Both RPJMN and RPJMD are further operationalizedthrough the Annual Government Work Plan (Rencana Kerja Pemerintah or RKP)that will serve as basis in formulating Draft Government Budget (RencanaAnggaran Pendapatan dan Belanja Negara or RAPBN).

The RPJPN highlighted the below priorities for Indonesia that are summarized byTambunan (2012: 233):

• (2005–2009): Creating an Indonesia that is safe and peaceful, that is just anddemocratic, and that has an increasingly prosperous population.

• (2010–2014): Increasing the quality of human resources, including the promotionof capacity building in science and technology and the strengthening of economiccompetitiveness.


• (2015–2019): Emphasizing attainment of economic competitiveness on the basisof competitiveness of natural resources and the quality of human resources and byincreasing capability to master science and technology.

• (2020–2025): Realize an Indonesian society that is self-reliant, advanced, just,and prosperous.

Implementation of RPJPN, RPJMN, and RPJMD relies substantially on coordi-nation across ministries and agencies, between central and local governments, whichup to date remains a profound challenge.

RPJMN 2004–2009, under President Yudhoyono and Vice President Jusuf Kalla,aimed to create a safe and peaceful Indonesia, to achieve just and democraticIndonesia, and to improve social welfare. Successes of the 5-year developmentplans were reflected by the improvement in the corruption perception index andsmooth implementation of local and regional elections that showed the democratictransition was going well (Ministry of National Development Planning Indonesia2009: 126). At the same time, the revamping of the legal system continued to bedone. Poverty was reduced from 16.66% of total population to 15.3%; illiteracy ratewent down from 9.55% to 6.22%; unemployment went down from 11.24% to8.46%; prevalence of malnutrition declined; and education participation at all levelsalso increased.

Continuing successes from the previous years, the vision of 2010–2014 RPJMNwas a “just, prosperous, and democratic Indonesia,” and development agendaconsists of five main goals that are outlined in Asia-Pacific Economic Cooperation(APEC) Report (APEC Report on Indonesia 2011): economic development andincreased welfare of the people, enhancement of good governance, strengtheningof the pillars of democracy, law enforcement and eradication of corruption, andinclusive and equitable development. In turn, these five goals are translated intomain priorities in the plan: bureaucratic and administrative reforms, education,health, reducing poverty, food security, infrastructure, investment in the businesssector, energy, environment and natural disasters, development in the least devel-oped, frontier, outer and post-conflict areas, and technological innovation (APECReport on Indonesia 2011). This plan, with its focus on the reform agenda in thejudiciary, government bureaucracy, and democratic process, diverges from earlierplans. Finally, economic indicators for the period after the AFC are outlined inTable 3.

Historical Review of Industrial Policies in Indonesia

Pre-Asian Financial Crisis

Indonesia’s modern industrialization was kick-started with the New Order in 1966.When President Soeharto first took office, Indonesia’s economy was in shamble.Real GDP per capita was falling, inflation was rocketing, and fiscal deficit wasburgeoning from monetary expansion (Lewis 1994). Between 1966 and 1973,


Indonesia went through stabilization and adjustment period where it experiencedcapital flight and shortages of food, raw materials, and spare parts (Rock 1999).Amidst worsening economic outlook, the GOI put balanced budget requirements inplace and adopted an open capital account with full convertibility of the rupiah toattract investors. During the first decade of his presidency, Soeharto focused onstabilizing Indonesia’s macroeconomic fundamentals and building blocks for futuregrowth (Tijaja and Faisal 2014: 6).

Under the “New Order,” the economy’s infrastructure was rehabilitated afteryears of neglect, particularly the transport, power, and communications sectors.Measures were successfully implemented to reduce the country’s traditionally highinflation rate. Government regulation on private sector activity was reduced, andeconomic incentives to private enterprise were restored to encourage production atthe same time that participation of the government in manufacturing activities wasdeemphasized (Paauw 1979). The 1967 Foreign Investment Law provided generousfiscal incentives. Access to imported raw materials and capital goods was madeeasier for both foreign and domestic firms by a more liberal trade policy.

During the 1970s up to the early 1980s, the GOI asserted active intervention andprotectionist policies. Indonesia’s macroeconomic condition started to stabilize, justin time with the oil boom in 1973, allowing the economy to flourish. This era ischaracterized by the heavy influence of state-owned enterprises (SOEs), whichplayed major roles in deepening industrialization and high technology investment.SOEs being heavily utilized were due to weak private sector presence apart from afew family-run conglomerates (Rock 1999).

Industrial policies were pursued through restrictive investment procedures withcomplex investment approval and licensing processes, along with the proliferation ofregulations and restrictions (Tijaja and Faisal 2014: 7). The Investment CoordinatingBoard (Badan Koordinasi Penanaman Modal/BKPM) had discretionary authorityover incoming investment to be invested in sectors they saw fit. Investment was opento certain sectors, and import facilities were available only to sectors included in thepriority list.

Revenues from the oil boom was used by the GOI to channel large amount ofinvestments through existing or newly created SOEs in order to create backwardlinkages in the form of foreign value added in gross exports of a country. This type ofindustrialization strategy was inefficient and costly to both downstream users and

Table 3 Key economic indicators of Indonesia between 2000 and 2015

Period



Inflation(annual%)




2000–2004 5.28 796 7.99 15.17 28.37 45.04

2005–2009 5.9 1,668 8.91 13.92 27.23 47.2

2010–2015 5.69 3,322 5.66 13.5 21.35 42.47

Source: World Bank Databank http://databank.worldbank.org/data/home.aspx



consumers. The GOI’s preferential treatment on lucrative import and distributionlicenses and the rise of patrimonial network between high-ranking governmentofficials with Chinese-Indonesian business community were two striking character-istics of this era (Rock 1999). These policies helped lay foundations for businesselites’ dependence on political elites and vice versa that marked Indonesia’s indus-trial structure for decades to come.

Between the 1980s and right before the AFC hit, the oil sector contributed up to70% of the country’s total revenue. This did not last long as oil price fluctuatedbetween 1980 and 1986, making Indonesia worse off due to its over dependence onoil. Consequently, a series of structural adjustments took place in 1983 and 1984. Itstarted with the rationalization of public investment program, cancellation ofrescheduling of projects, and introduction of tax reform (Lewis 1994). The previ-ously implemented protectionist policies had to be lifted in order to produce com-petitive firms and domestic market.

To remedy the effects of oil crisis, the GOI introduced several package ofderegulations aiming to boost export competitiveness:

• Re-installment of duty drawback facilities and tariff exemption to replace theexport subsidy scheme which was General Agreement on Tariffs and Trade(GATT) incompliant (Tijaja and Faisal 2014).

• Replacement of complex licensing with/of unconditional ex ante tax exemptionor ex post rebate which further reduced business costs and uncertainties. Thisfunction was initially operated by the Ministry of Trade and Industry but thenmoved under the Ministry of Finance which was deemed more transparent.

• Restriction of processing time to reduce room for rent-seeking behavior.• Devaluation of rupiah by 45% in August 1986. Soon after, the GOI decided to peg

rupiah to US dollar with frequent nominal adjustment.• Between 1985 and 1992, the percentage of imports covered by quantitative

restrictions dropped from 43.0% to 3.0%, as the average nominal tariff declinedfrom 22.0% to 9.0%. These reform efforts substantially reduced nontariff restric-tions both in terms of coverage and degree (Tijaja and Faisal 2014: 8).

• Replacement of the investment priority list with the investment negative list(Daftar Negatif Investasi or DNI). This specific reform sustained investmentboom and boosted investment value from $1.7 billion in 1986 to $12.5 billionin 1991 (Lewis 1994).

Post-Asian Financial Crisis

Along with the collapse of the Thai baht, rupiah depreciated from 2,500 per USdollar to 17,500 per US dollar. The economy contracted by 14% by 1998, andinflation ran at over 100% on an annualized basis, followed by major capital flightand financial distress. The massive macroeconomic havoc triggered protests on thestreets of Jakarta which was culminated by a regime change with Soeharto, thepresident who served for 32 years, resigning.


From 2000 to 2004, Indonesia experienced major economic slowdown with 7.3%pre-crisis growth rate, between 1990 and 1996, to 4.5% between 2000 and 2005(Aswicahyono et al. 2010). The first order of business was to regain macroeconomicstability. The already semi-liberalized market and open economy was further liber-alized as a condition by the International Monetary Fund (IMF) in exchange forloans. During the recovery period, different sectors showed different performance. Ingeneral, the more elastic or more export oriented the sector is, the faster it recovers,whereas the sectors that was highly protected and domestic driven recovered moreslowly (Aswicahyono et al. 2010).

There were two major factors that hampered reform: one being the sharp rise ofreal wages. In pre-crisis period, real wages grew as fast as economic growth in anenvironment where trade unions were heavily regulated. In the post-crisis period,pro-labor movement emerged demanding higher real wages. This, in turn, hurt theeconomy because there was an increase in real wages which made economicactivities costlier but no increase in productivity. The second factor was rapidstructural change of government from a centralized one to a heavily decentralizedone; transferring direct controls to over 500 municipalities and regencies(kabupaten). The collapse of authoritarianism made the whole government andeconomic system less effective and less efficient, and it also increased uncertainties.

Increased uncertainties hurt a lot of sectors, mainly the resource-based industrythat needs high level of mobility in the value chains especially predictable andsustainable access to raw materials (Aswicahyono et al. 2010). The situation calledfor trade facilitation to be able to better attract investment. Decentralization alongwith lack of enabling services for competitiveness as well as sufficient physicalinfrastructure essentially hampered economic productivity.

Indonesia paid back its loans to IMF in 2003 and exited the program. Bothpolitical and macroeconomic stabilities were restored by 2004, marked by the firstdemocratically elected president, Susilo Bambang Yudhoyono, taking office. Theroad to recovery showed promising results with rupiah stabilized to 9,000 per USdollar, and inflation rate was at 6%. The government wanted to signal investors ofpolitical and economic stability; hence, the GOI came up with a bold RPJPN2005–2025, which placed the industrial sector as the engine of growth for strength-ening the economic structure (Tijaja and Faisal 2014: 11). The GOI wanted toimprove efficiency, modernize value chain, and improve value-added activitiesthrough promoting local industries, empowering national industrial base, andstrengthening forward and backward value chain linkages. One of the main fociwas to integrate small- and medium-sized enterprises (SMEs) into the global valuechain.

Industrial policies during the Global Financial Crisis (GFC) in 2008 and 2009focused on a more export-oriented and domestic value-added policies to realizebenefits from natural resources, to expand employment, and to foster SMEs partic-ipation. Indonesia was not severely hit by the GFC. Exchange rate depreciatedmoderately and the financial sector remained intact.

The year 2008 marked an important phase as the GOI produced two documents,in addition to RPJPN and RPJMN, to form current industrial policies. The first


document is the 2008 National Industrial Policy (Presidential Regulation No. 28 of2008 and Regulation of the Minister of Industry 41/M-IND/PER/3/2010), and thesecond one is the Master Plan for Acceleration and Expansion of Indonesia’sEconomic Development (Masterplan Percepatan dan Perluasan PembangunanEkonomi Indonesia or MP3EI). In addition to these two, a new Industrial Bill wasintroduced in 2013 and a Trade Law in 2014. Many of their implementing regula-tions are still forthcoming.

The 2008 Presidential Regulation on National Industrial Policy has set a long-term industrial development vision for Indonesia to be a strong industrialized nationby 2025. This vision was elaborated further in the Regulation of the Ministry ofIndustry issued in 2010, which states that the vision of Indonesia to be a strongindustrialized nation by 2025 would be achieved through becoming a new industrialdeveloped country by 2020 (Vision 2020). The two different timeframes (i.e., 2025,for becoming a strong industrialized nation, and 2020, for becoming a new industrialdeveloped country) created some confusion as the difference between the two targetswas not clearly articulated. The document only stated that to be a new industrialdeveloped country, Indonesia should meet the following broad criteria:

1. It has a huge role and contribution to the national economy.2. SMEs have balanced abilities with large industries.3. It has a strong industrial structure (industrial tree is complete and in-depth).4. It has an advanced technology that has been at the forefront of development and

market creation.5. It has a tough industry services to support the international competitiveness of the

industry.6. It has a competitive advantage to face full liberalization within APEC countries.

In 2011, Indonesia launched its Master Plan for Acceleration and Expansion ofIndonesia’s Economic Development (MP3EI). The MP3EI aims to encourage rapid,balanced, equitable, and sustainable economic growth. The goal of the MP3EI is forIndonesia to become a high-income country by 2025 and the world’s tenth and sixthlargest economy by 2025 and 2050, respectively (Indonesia Investments 2011). Byutilizing the MP3EI, Indonesia aims to earn its place as one of the world’s developedcountries by 2025 with expected per capita income of USD $14,250–$15,500 andtotal gross domestic product of USD $4.0–$4.5 trillion. To achieve these objectives,real economic growth of 6.4–7.5% is expected for the period of 2011–2014. Thiseconomic growth is expected to coincide with the decrease in the rate of inflationfrom 6.5% in 2011–2014 to 3.0% in 2025. The combined growth and inflation ratesreflect the characteristics of a developed country.

The MP3EI is a working document and, as such, will be updated and refinedperiodically. While it is a source of possible confusion, the GOI has claimed that theMP3EI is an integral part of the national development planning scheme and is notmeant to substitute the existing Long-Term National Development Plan 2005–2025(Law No. 17/2007, RPJPN) and the Medium-Term National Development Plan(Presidential Decree No. 7/2009, RPJMN). Like the RPJPN, the RPJMN, and the


National Industrial Policy, the MP3EI also combines sector and regional approach,in its case, into the economic corridors strategy. The MP3EI also includes regulatoryreforms as an integral step in accelerating economic development.

The MP3EI seeks to pursue its objective based on a three-pillar strategy (Indo-nesia Investments 2011):

1. Spreading economic development across the country through the development ofsix economic corridors

2. Improving domestic and international connectivity3. Enhancing technology and human resources

The MP3EI seeks to identify potential strengths and constraints to determine thebasic strategy of accelerating industrial development. The plan aims to pursueaccelerated industrialization through five main strategies (Indonesia Investments2011):

1. Promoting participation of the business sector in infrastructure development2. Debottlenecking of bureaucratic barriers3. Reorienting export policies of raw materials and energy resources4. Enhancing productivity and competitiveness5. Improving domestic market integration

The above strategies will be implemented through the application of six policyareas (Indonesia Investments 2011):

1. Domestic industry security, by enhancing industrial competitiveness in facingglobal competition and industrial restructuring

2. Infrastructure development3. Improvement in the quality of service bureaucracy4. Improvement and harmonization of regulations5. Fiscal policy6. Development of human resource-based industry (labor-intensive industry)

One important part of the MP3EI is the development of economic corridors inIndonesia based on the potentials and advantages inherent to each region throughoutthe country. By taking into consideration these potentials and strategic roles of eachmajor island, six economic corridors have been identified (Indonesia Investments2011):

Sumatera Center for production and processing of natural resources and the nation’senergy reserves

Java Driver for national industry and service provision

Kalimantan Center for production and processing of national mining and energy reserves

Sulawesi Center for production and processing of national agricultural, plantation,fishery, oil and gas, and mining

(continued)


Bali – NusaTenggara

Gateway for tourism and national food support

Papua –Moluccas

Center for development of food, fisheries, energy, and national mining

Historical Review of National Development Planning in Malaysia

Before Malaysia (or Malaya during that time) gained independence in 1957,sequence of 5-year development plans began with the First Malaya Plan from1956 to 1960 (Akhir et al. 2013). According to the Economic Planning Unit(EPU) in Malaysia, “Development planning in Malaysia started in 1950 with thepublication of the Draft Development Plan of Malaya” (Economic Planning Unit2015). Since then, development plans have been an essential component of policymaking in Malaysia, not only for economic reasons but also for political and socialreasons. Since 1961, EPU “is the principal government agency responsible for thepreparation of development plans for the nation,” and since then, “EPU functionshave remained primarily unchanged although it has taken on additional functions inconsonance with the changing emphasis of development policy” (Economic Plan-ning Unit 2015). Thus, development planning in Malaysia has been more consistentin terms of the government agencies responsible for the preparation of the planscompared to the Indonesian case.

Another important feature of the Malaysian context in development planning isthat United Malays National Organisation (UMNO) has been the only ruling partysince the first general elections after independence in 1959, and the party is associ-ated with representing the Malay majority in the country, symbolizing Malaynationalism as a successor to colonial rule by its crucial role in negotiating theterms for Malaya’s independence in 1957 (Stockwell 1977; Singh 1998). Thispolitical party’s political, social, and economic orientation has a significant influenceon the development plans in Malaysia.

One of the major critical junctures for Malaysian development plans is theintroduction of New Economic Policy (NEP) in the development agenda. Followingthe legacy of the colonial regime, ethnic minority Chinese had much more economicpower in the system compared to the Malay majority, and this led to the violent riotsin 1969 (Aziz 1999: 19). These riots led the ruling UMNO to engage with social andeconomic engineering in the country to legitimize its political position. This socialand economic engineering, also called the NEP, involved “measures that wereintended to redress economic imbalance with the aim of enabling the Malays toown at least 30 percent of the nation’s corporate share capital within a 20-yeartimeframe” (Aziz 1999: 19). These measures were making the state involved in allaspects of economic life in order to achieve its social, political, and economicobjectives outlined in the development plans. This kind of involvement of the statein the economy can also be seen as an attempt “for raising the economic positions ofthe Bumiputra (sons of the soil) and to create Malay middle classes” in the country


(Torii 2003: 221). Therefore, development plans since the introduction of NEP marka turning point for both the objectives of the development plans and the role of thestate in the economy.

Under the influence of NEP, direct state intervention in the economy is one of themain priorities in the second and third Malaysian development plans. However, inthe 1980s, instead of direct state intervention, limited role of government in theeconomy is prioritized by giving more emphasis on heavy industrialization andprivatization policy, and in the 1990s, this agenda was also shifted to focus moreon developing entrepreneurial middle classes in the economy in order to be morecompetitive (Torii 2003). Akhir et al. (2013: 504) outline the main strategies used toachieve the goals in NEP: to combat poverty, the government launched a ruraldevelopment program; for social equality, the government implemented ethnicemployment quotas, focused on education and increase in human capital formation;and to encourage Bumiputra ownership of capital, the government used measures tostep up their savings and acquiring equity in the corporate sector.

The National Development Policy (NDP) succeeded NEP in the early 1990s andaimed to achieve “balanced development” through a focus on wealth creation ratherthan redistribution (Akhir et al. 2013). In this new framework, private sector wasconsidered the engine of growth with the public sector playing a complementaryrather than a direct role, tax reform was undertaken to increase Malaysia’s interna-tional competitiveness, and this market orientation was accompanied by a strongfocus on macroeconomic stabilization, infrastructure investment, privatization pro-grams, and the “maintenance of a realistic real exchange rate” (Akhir et al. 2013:504).

Malaysia also suffered from the AFC but not as much as Indonesia. In Malaysia,there was no political transformation in the regime, only within UMNO AnwarIbrahim voiced criticism against the ruling party, but this did not change thedominance of UMNO in the country. In terms of economic effects of the AFC, thegovernment has shifted its attention to industrial development and financialrestructuring. Starting from 2001, NDP was replaced by National Vision Policy(NVP), and in this new framework, key priorities are moving the economy up thevalue chain, raising the capacity for knowledge and innovation and nurturing a “first-class mentality,” addressing persistent socioeconomic inequalities constructivelyand productively, improving the standard and sustainability of quality of life, andstrengthening the institutional and implementation capacity (Akhir et al. 2013: 506).In addition to these institutional changes, to make corporations and the marketsustainable, a 10-year financial sector master plan was launched in 2001 with theobjective of creating a “balance of local and foreign banking institutions” and a“structured and sequenced approach for liberalization” (Akhir et al. 2013: 506). Thestructural transformation in Malaysian economy can be seen in Fig. 2.

In 2010, the New Economic Model (NEM) was launched, and it aims to achieveadvanced nation status until 2020 by transforming Malaysia into a high-income andquality growth economy. The main objectives in the plan are re-energizing theprivate sector to lead growth, developing a quality workforce and reducing depen-dency on foreign labor, creating a competitive domestic economy, strengthening the


public sector and transparent and market-friendly affirmative action, building theknowledge base infrastructure, enhancing the source of growth, and ensuring sus-tainability of growth (Akhir et al. 2013: 507).

With all the priorities considered in the development plans, we can say that planstake into account the multiethnic nature of Malaysia while continuing with affirma-tive policies in favor of Malays in its mixed open economic system in which bothstate and private sector have important functions to fulfill. In the official document ofNEM, it is stated that the new approach focuses on growth through productivityrather than through capital accumulation; growth will be private sector led; decision-making will be based on localized autonomy not on centralized planning; techno-logically capable industries and firms not just specific industries and firms andexports will be directed to Asian and Middle Eastern markets rather than rely onthe USA, Europe, and Japan (New Economic Model for Malaysia Part I 2009: 15).

Overall, Malaysian development plans have been successful in eradicating pov-erty (according to World Bank data, national poverty rate decreases from 38% in1976 to less than 2% in 2012), establishing macroeconomic stability, and achievinghigh economic growth rates while proposing affirmative action policies for Malays.Torii (2003) shows the objectives of the 1970 plan in terms of increasing Malayemployment in key sectors of the economy and indicates that by 1990, Malaysia hadachieved certain level of success in the goal of increasing Malay employment in keysectors. More specifically, in the professional/technical, clerical, and service occu-pations, Bumiputra (Malay) employees had achieved the targets of NEP. However, inoccupations of administrative/managerial, sales, and production workers, targetswere not realized. According to Torii (2003: 236), this is due to the fact that therewas not much employment opportunity in the public sector in these occupations.

On the other hand, lack of focus on intra-ethnic group inequalities resulted inhigher income inequality as Gini index for Malaysia stands at 0.46 according to

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Fig. 2 Structural change in the components of GDP in Malaysia (Source: World Bank Databank,http://data.worldbank.org/country/malaysia)


http://data.worldbank.org/country/malaysia

latest estimates, whereas the Gini index for Indonesia stands at 0.38 (World BankDatabank). Also, insufficient attention to political and institutional reforms resultedin a low level of democracy in the country. While Indonesia moved into the directionof democratization, institutional reforms after the AFC, for Malaysia it resulted onlyfor change in the orientation of the economy. Table 4 summarizes the main economicindicators for Malaysia since 1966.

Historical Review of Industrial Policies in Malaysia

Malaysia’s industrial development can be categorized to six phases. In phase I orpre-independence era before 1957, their main objective was to increase the produc-tion of primary commodities. Real industrialization began on phase II between 1957and 1967. Promotion of industrialization in Malaysia started with conscious effortsby the government with the introduction of the Pioneer Industries Ordinance in1958, right after their independence (Bautista 1983). The policy exempted compa-nies with pioneer status from 40% income tax, among other fiscal incentives. Inaddition, the Government of Malaysia (GOM) also provided subsidies for infra-structure services such as water, electricity, and transportation in industrial states. Itsobjectives were to diversify the economy, reduce imports, and generate employment(Alavi 1996).

In the early 1960s, Malaysia started incentivizing the proliferation of manufactur-ing industries through the establishment of the Malaysian Industrial DevelopmentFinance that extended medium- and long-term loans to manufacturing enterprises.Further in 1965, GOM established the Federal Industrial Development Authority(now renamed to Malaysian Industrial Development Authority) to oversee the wholeindustrialization process. Under this trade liberalization regime, Malaysia exercised

Table 4 Main economic indicators of Malaysia between 1966 and 2015

Period



Inflation(annual%)




1966–1970 6.14 372 1.36 29.15 11.09 26.64

1971–1975 7.12 636 7.44 27.98 15.59 31.1

1976–1980 8.34 1,298 4.52 25.42 19.86 37.82

1981–1985 4.41 1,914 4.69 20.49 19.58 38.76

1986–1990 7.58 2,116 1.8 18.63 21.8 39.48

1991–1995 9.38 3,230 3.97 13.87 26.06 40.96

1996–2000 4.24 3,878 3.14 11.11 29.36 45.35

2001–2005 5.5 4,268 1.74 8.77 29.29 46.56

2006–2010 4.74 7,130 2.67 9.63 25.31 43.67

2011–2015 5.38 10,360 2.44 9.54 23.00 37.10

Source: World Bank Databank http://databank.worldbank.org/data/home.aspx



modest tariff protection and liberal investment incentives that drove the real valueadded in manufacturing sector to grow 17% annually (World Trade Organization2014). Pioneer companies grew tremendously at a rate of 58%. Consequently, theshare of agricultural sector to GDP fell. Newer industries producing intermediate andinvestment goods such as nonmetallic mineral products, basic metal products, andtransport equipment grew faster. This development substantially increased totalmanufacturing output and their contribution to GDP.

In phase III, between 1968 and 1980, The Investment Incentives Act was passedto supersede the 1958 ordinance. It extended coverage of companies beyond thosewith pioneer status, especially export-oriented industries, firms producing priorityproducts, and firms located in development area were granted specific benefits. Itadded the provision of infrastructure support and the establishment of free tradezones and export-processing zones. One of these trade zones later being heavilyutilized due to the electronics export boomed in the late 1970s. A National ExportAdvisory Council was created to assist export development (Bautista 1983: 11).

Having populated by two-thirds of Malay ethnic group, in 1971, GOM adopted acrucial social-engineering policy and affirmative action program called the NewEconomic Policy (NEP) that gave preferential treatments to ethnic Malays in allspheres of public life. NEP sought to gain better economic and quality of life ofBumiputra through providing them with access to land, physical capital, and trainingand public facilities. The policy extended to reserve senior positions in the civilservice for Bumiputra. It was decided that by 1990, Bumiputra should control 30%of all corporate equity (Sundaram 2007). In the late 1970s, GOM tried to attract newinvestments in lower-wage areas due to declining labor surplus in major industrialarea. This policy had an unfortunate result as the export industries were heavilyreliant on imported inputs, and there was lack of investment and technologyadvancement.

In phase IV, from 1981 onward, the second phase of import substitution indus-trialization (ISI) was introduced. Malaysia embarked on an inward-looking domesticpolicy. It aimed to create linkages in the manufacturing industry and to reduceimports of intermediate and capital goods. The ISI strategy expedited the diversifi-cation of the economy, reduced excessive dependence on imports, and createdemployment opportunities (Okposin et al. 1999). However, due to its implementa-tion that was based on tariff and nontariff protection of the domestic market, importsrose faster than exports. It also failed to absorb the economy’s excess labor that ledMalaysia to have high unemployment rates.

From 1986 onward, during phase V, the second phase of export-oriented indus-trial (EOI) strategy was employed. Its objective was to increase manufacturinglinkages and competitiveness. GOM took the opportunity of the relocation of theinternational semiconductor industry from industrialized nations to developingnations and enlarged Malaysia’s industrial base to encourage export. During thisphase, FDI was boosted through the establishment of an export-processing zone(EPZ) and the restriction of labor unionization to attract multinational corporations(MNCs) looking for low-cost production sites. The EOI was successful in absorbing


labor supply, utilizing simple technology in processing industry, and making use ofnatural resources (Chee 1987).

From late 1990s onward, during phase VI, Malaysia moved to a higher-skilledknowledge-intensive economy. In 1996 the National Information TechnologyAgenda was formulated to provide the framework for the coordinated and integrateddevelopment of skills and infrastructure, as well as IT-based applications. TheMultimedia Super Corridor (MSC) was launched as a catalyst to expand the ITand multimedia industries (Okposin et al. 1999).

Comparative Analysis of Indonesia and Malaysia

Indonesia and Malaysia have transformed their economies significantly since theirindependence. Both of them have increased the share of total exports in GDP.Figure 3 shows how Indonesia and Malaysia have become export-oriented econo-mies with a significant transformation of their economic systems. However, Malay-sia in comparison to Indonesia has a much more export-oriented economy. Malaysiastarted to support export-oriented policies long before Indonesia. As emphasized byWie (2003), among ASEAN countries, Singapore is the first one to follow an export-oriented industrialization policy in the late 1960s, followed by Malaysia, the Phil-ippines, and Thailand since 1970s, whereas Indonesia started to implement export-oriented policies only since mid-1980s. On the other hand, composition of exports isalso crucial for developmental objectives. Highlighting the significant influence ofcomposition of exports in the emergence of developmental states, Weiss (2005: 9)asserts that the share of exports in GDP during 1980s in Indonesia, Malaysia, andThailand was much higher compared to export to GDP ratios in Korea and Taiwanduring the 1960s. However, Korea and Taiwan substantially increased the share ofhigh-value manufactured exports in GDP, bypassing many other developing coun-tries, whereas for Malaysia and Indonesia commodities had a higher share in exportscompared to developmental states (Weiss 2005).

Figure 4 illustrates that export composition’s share in GDP has changed both inMalaysia and Indonesia in favor of the manufacturing sector, and here againMalaysia is ahead of Indonesia in terms of having an export composition muchmore centered on manufacturing. Another key difference between these countries isthat share of high and medium high tech manufactures is much higher for Malaysiacompared to Indonesia (Fig. 5). Malaysia’s economy has performed well in thissense. This can be explained with the historical orientation of Indonesia and Malay-sia to foreign direct investment (FDI) in the economy. Since their independence,Malaysia has been an open economy with policies in favor of FDI to the country. Ontop of that, Malaysia was one of the first ASEAN countries which adopted a liberalforeign trade regime. On the contrary, Indonesia has protected its domestic industrieswith ISI policies for a long time by imposing limits on foreign investment. Indonesiachanged this policy orientation only in the 1990s. Figure 6 depicts this diversionvery clearly by comparing FDI net inflows to both of the countries as percentage ofGDP.


Woo and Hong (2010) depict the composition of exports for Indonesia andMalaysia. In Indonesia, share of oil and non-oil raw materials in export compositiondeclined dramatically in the 1990s, whereas in Malaysia, this profound decrease hastaken place in the 1980s. It is not a coincidence that the main priority for Malaysiandevelopment plans in the beginning of the 1980s is heavy industrialization andprivatization, whereas for Indonesian development plans in the 1990s, the mainpriority is export diversification and less reliance on oil revenue (Table 5). Therefore,

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Fig. 3 Exports of goods and services (% of GDP) in Indonesia and Malaysia (Source: http://databank.worldbank.org/data/home.aspx)

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Fig. 4 Manufactures exports (% of Merchandise exports) in Indonesia and Malaysia (Source:http://databank.worldbank.org/data/home.aspx)





we can say that development plans have been good indicators of policy change inboth countries and their historical experience illustrates how development plansconstitute an essential component of policy making for different purposes. Table 5summarizes the main priorities and strategies in development planning for Indonesiaand Malaysia since the 1970s.

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Fig. 5 High technology exports (% of manufactured exports) in Indonesia and Malaysia (Source:http://databank.worldbank.org/data/home.aspx)

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Fig. 6 Foreign direct investment (FDI) and net inflows (% of GDP) in Indonesia and Malaysia(Source: http://databank.worldbank.org/data/home.aspx)




Sustainable Growth Challenges

Indonesia has experienced strong economic growth since the Asian financial crisis.Within the G20 economies, China and India are the only two economies that grewfaster than Indonesia. However, GDP per capita and level of income per personremain low relative to its ASEAN neighbors. With its service industry growtharound 7.4% annually since 2002, agriculture and industry share declined in contri-butions to growth (Henstridge et al. 2013). If Indonesia wish to continue to grow atthe current rate, it needs to address the challenges indicated below:

1. Closing the infrastructure gap. Indonesia ranks 56 out of 148 on infrastructure inthe 2015 Global Competitiveness Index of the World Economic Forum. GOI hasinduced public-private partnership (PPP) for more infrastructural development.However, it faces two challenges. First is the lack of bankable projects, hence thelow interest of domestic capital resources to finance infrastructure projects (Tijaja

Table 5 State priorities and strategies in development planning of Indonesia and Malaysia

Period

Priorities Strategies

Indonesia Malaysia Indonesia Malaysia

1970–1979 Pro-poor growthagriculturaldevelopment

Affirmative actionfor the Malayincomeredistribution

State investmentin agricultureand ISI policies

Direct stateinvolvement inthe openeconomy(employmentquotas)

1980–1989 Macroeconomicstability andindustrialdevelopment

Heavyindustrializationand privatization

State investmentin selectedindustries andISI policies

Liberalizationwith more privatesectorinvolvement inthe economy

1990–1999 Exportdiversification andless reliance on oilrevenue

Balanceddevelopment withwealth creation,no redistribution

Liberalizationpoliciesdomestic privatesector moreactive

Macroeconomicstabilizationinfrastructureinvestment

2000–2009 Economic growth,macroeconomicstability, anddemocratization

Industrialdevelopment andfinancialrestructuring

Prudent fiscalmanagementand a strategy offiscalconsolidation

Raising thecapacity forknowledge andinnovationfinancial reform

2010–2014 Institutionalreformcompetitiveeconomy highquality humanresources

TransformingMalaysia into ahigh-income andquality growtheconomy

Bureaucraticreforms andinfrastructureinvestment

Re-energizingthe private sectordeveloping highqualityworkforce


and Faisal 2014: 23). Second is the lack of institutional capacity to create and/orto support PPP projects.

2. Improving policy certainty, efficiency, and consistency. For the past decade, GOItends to introduce new restrictions to investment that are not timely incorporatedinto the prevailing negative investment list, creating uncertainties and confusion.Having a more transparent investment regime will be necessary to improvecertainty and business confidence. The review process for negative investmentlist now is still too sectoral and not coherent. On top of that, one of the spilloversof decentralization is inconsistencies between national and subnational policiesdue to the ranging capacities and authorities of local government to formulate,implement, and enforce regulations.

3. Enhancing human capitals. There is currently a disproportionate amount of high-skilled and low-skilled labors in Indonesia. The high-skilled workers are tooconcentrated in a few big cities and not widely distributed across the archipelago.And then there is a wage disparity between cities and provinces. One remedy is toimprove education system, so it produces more high-skilled domestic workers, toprovide training for low-skilled workers and to provide innovative work incen-tives for low-income and middle-class people. Additionally, the GOI needs toaddress labor market instability due to outsourcing and relentless firing and hiringprocesses.

4. Providing incentives for innovation. The Master Plan for Acceleration andExpansion of Indonesia’s Economic Development (MP3EI) has provided anavenue for different regions in Indonesia to grow their industrial base. However,there are still no coherent policies in national and subnational levels that induceinnovation for small and medium businesses to spur industrial growth. Thecreative industry has successfully grown in the past 8 years and comprised upto 7% of total GDP, but its competitiveness in the world market needs to beboosted.

5. Increasing overall competitiveness. Findings on Indonesia have shown that tradeand financial openness have negative impact on output (Simorangkir 2006). Theresult of trade openness may be insipid since lack of preparation to anticipatetrade openness leads to weaken competitiveness of Indonesian products relativeto foreign products and foreign labors and finally lower output. The financialopenness finding also is quite worrying since the more financial openness leadsIndonesian economy to be more vulnerable to capital reversal, which thenendangers economic performance. Indonesia needs to work hard to managethese shocks and fluctuations.

6. Employing and mainstreaming green growth strategies across the board. Insupport of sustainable economic growth, job creation, and poverty reduction,Indonesia has also employed a roadmap to green growth strategies. GOI has beenworking on integrating green growth strategies to development planning, gover-nance, and incentive structures since 2009 and green growth programs hadalready been happening in different sectors and provinces. However, much effortsare needed to scale up the initiatives and to have the initiatives implemented at alllevels. The mainstreaming of green growth strategies is faced with pressures such


as increased needs for infrastructure, uneven developments between main andouter islands, and rising demand for electrification. On the energy sector, forexample, Indonesia’s primary energy supply still comes from fossil fuels that isoil (46.08%), coal (30.90%), and gas (18.26%) (Tharakan 2015). The share ofrenewable energy mix is still very considerably low, that is, below 5%, consti-tuted of hydropower, geothermal, and biofuel with 3.21%, 1.15%, and 0.40%,respectively. Fuel subsidies, low electricity tariffs, logistical challenges, andcheap coal have been deterring potential renewable investors. GOI recognizesthese challenges and scrapped fuel subsidies in 2014 and also revitalized theelectricity market in favor of renewable energy. Indonesia, as one of the world’sbiggest polluter due to deforestation, has also pledged in 2009 to cut greenhousegas emissions by 26% unilaterally and 41% with the help of internationalcommunity.

Malaysia is a rapidly developing economy in Asia. As an upper middle-incomecountry, it has transformed itself since the 1970s from a producer of raw materialsinto an emerging multi-sector economy. With rapid economic growth, rapid struc-tural change, consistent openness, sound economic management, commendableinstitutional quality, and rigorous political economy change, Malaysia is looking tograduate from middle-income to high-income country. The following are some ofMalaysia’s challenges to do so:

1. Accelerating political economy reform. Malaysia has long employed theBumiputra policy which favors ethnic Malays over Chinese Malay and IndianMalay. This form of political patronage has debilitating effects on a whole rangeof issues. Gomez and Jomo (1999) provide empirical evidence of the tight nexusbetween politics and business. This is reflected by the emergence of corporateconglomerates controlled by the politically well connected who enjoy preferentialtreatment from the government and are involved in an impenetrable network ofbusiness of acquisitions and mergers.

2. Fast-tracking human capital development. This includes upgrading the overallpoor quality of tertiary education system. Human capital is an indispensable assetto increase growth (Petrakis 2012). Human capital’s role in increasing the eco-nomic growth has been proven in Asia which has succeeded in making arevolution in education (Vinding 2006). One remedy to Malaysia’s case is toreform school system by removing gaps to receiving education facilities. Prob-lems often rise from differing financing systems in different areas. Rigorousmonitoring on education financing and quality of education should be donecontinuously.

3. Keeping the pace of technological level and innovation with the income level.Malaysia’s economic progress continues to be plagued by a lack of innovationand skills, low level of investments in technology, declining standards in educa-tion, relatively high labor cost, and sluggish productivity growth (Kanapathyet al. 2014). Failing to do this would risk not being able to qualify as a developed


nation. If technological capacities and capabilities are not strong, Malaysia canbacktrack into a middle-income country.

4. Overcoming institutional failures. There is often a mismatch between statedpublic policy objectives and implementation, and environmental degradationcan all be classified as institutional failures.

5. Aiming for economic diversification. Malaysia has been aiming to have a morebalanced economy and less dependence on resource-intensive industries. Thepetroleum industry’s share of GDP is projected to fall from 21% in 2008 to 14%in 2020. SMEs will play a more significant role across the board. Small- andmedium-sized enterprises (SMEs) will have to play a more significant role acrossthe economy. Its participation can be encouraged through the provision offinancial support and better access to research and technologies as well asinfrastructure improvements.

6. Successfully implementing the Tenth Malaysia Plan. The Tenth Malaysia Plan,2011–2015, recognized the importance of sustainability as part of a comprehen-sive socioeconomic development plan. For reasons such as unilateral coordina-tion, smaller geographical area, and better governance, Malaysia is relativelymore successful in creating a low-carbon resource-efficient and socially inclusiveeconomy. In 2009, Malaysia pledged to cut its greenhouse gas emissions by 40%by 2020. Under the Tenth Plan Malaysia Plan, Malaysia has already reduced itsemission by 33% due to the massive shift from fossil fuels to renewables.

Conclusion

In this study, we have analyzed development planning and industrial policy inIndonesia and Malaysia, and our focus has been on the critical role of the state, itspriorities and strategies in development plans, and how the orientation of state indevelopment plans has transformed industrial policy in different contexts. In ouranalysis, we have shown that both development planning and industrial policy havebeen essential elements of policy making in Indonesia and Malaysia. Historically,development plans have provided a good roadmap to see the objectives of policymakers and how they would implement their policies, whereas industrial policieshave helped develop both countries’ industrial landscapes and markets. The analysishas also shown that economic goals in both countries have been influenced pro-foundly by social and political factors. Malay affirmative action, economic empow-erment policies in Malaysia and pro-poor growth, and focus on agriculturaldevelopment in Indonesia are very good examples for the relevance of social andpolitical factors in economic policy making. As for the current development plans,Indonesia strives to continue its democratization process with institutional reformsand makes its economy more competitive with infrastructural investments, whereasMalaysia focuses more on industrial policies by highlighting the importance ofinnovation and technological development.

In our analysis we have also underlined the challenges in the formulation andimplementation of industrial policy in Indonesia and Malaysia as these challenges


play an important role in achieving sustainable growth for both countries. Here itshould be noted that while the state is not the only actor in overcoming industrialpolicy and sustainable growth challenges, state priorities and strategies identified indevelopment plans shape the policy space of other actors in the economy which isvery critical for emerging economies such as Indonesia and Malaysia to achieve thegoal of sustainable growth with appropriate industrial policy. Development planningand industrial policy experience of Indonesia and Malaysia examined in this studyhas a lot to offer for other emerging economies in highlighting the critical role of thestate in economic development. How Indonesia and Malaysia will perform with statepriorities and strategies identified in development plans and what internal andexternal events will be influential in their challenge of achieving sustainable growthwith appropriate industrial policies will be important issues to study for futureresearch agenda. We believe that learning from other country experiences anddesigning policies appropriate for national contexts are the key for new develop-mental states to emerge from the developing world.

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