Car Manufacture
Gaikindo sees this year' national car sales will not be achieved cause low demand, tight competition, and influx of new players and variants from abroad - Photo by Gaikindo

JAKARTA (TheInsiderStories) – The government of Indonesia is expected to set up a special team this month. The so-called team for increasing domestic production usage, or P3DN, will monitor fulfillment of local content requirements by industries and procurement for government projects.

Industry Minister Airlangga Hartarto said the team would consist of cross-sectoral ministries, including the Coordinating Maritime Affairs Ministry and Industry Ministry. The team is needed to ensure that local content requirements (TKDN) are fully implemented, consistently, not a mere technical administrative requirement.

According to Hartarto, the team will prioritize its supervision to small-medium enterprises. It will also encourage the use of local content in the green industry, steel industry and some other strategic industries like power generation. The latter currently uses the lowest local content. Through these steps, he hopes that the TKDN policy will trigger a revival of domestic industry.

Will it be an effective policy to adopt?

Local content requirements are considered anti-competitive under the World Trade Organization rules. However, Indonesia is not alone in practicing the policy. Developed countries like Australia, Canada and some European countries are using similar strategy to build their industry. Some of the reasons are to propel domestic industries, to boost export, create jobs, increase entrepreneurship and support broader economic development.

Such policy had a long history in Indonesia. It took its first shape as Benteng program. Launched in April 1950, the policy aimed to build the base of a strong native Indonesians economic class against the Dutch and ethnic Chinese businesses. It began by allowing the importation of certain goods to indigenous people’s businesses. The policy was scrapped in 1957.

In 1974, the New Order era introduced a mandatory deletion program. It forces (automotive) manufacturers to replace imported components with locally produced one in 1976. Initially, small parts like paint, tyres, batteries were targeted in 1977, and later diversified into higher value-added components including engines, transmissions, and brakes by 1984. The program was frozen in 1978 due to low market demand caused by the second oil shock.

In 1996, the government launched a very ambitious the National Car Program. It offered a three-year exemption of import duty and luxury taxes, which were estimated at 40 per cent of vehicle costs, to companies that be 100 per cent national capital, use an original brand and have a local content ratio of 60 per cent by the end of a three-year period. The program was disrupted by the Asian financial crisis in 1997-1998. The policy continues to evolve into the current TKDN.

Automotive as the first developed industry has now achieved the highest local content ratio of 60 per cent. It is targeted to reach 90 per cent by 2019. A report even said that one of the latest generations of Toyota Kijang Innova, already has its local component of 85 per cent. The car increased the use of plastic raw materials and local steel. To support this, the Ministry of Industry encourages the domestic petrochemical industry to meet the increasing demand of raw materials for the automotive manufacturers.

By looking at the success of the automotive industry, the government applies a similar strategy for other industries, ranging from electronic, telecommunication, electricity, mining, oil and gas, construction, retail, and pharmaceutical. Similar local content requirements are also set for national projects undertaken by ministries, government institutions, and even state-owned enterprises.

The most familiar implementation of TKDN is for electronic products such as laptop, smartphone and tablet computer. Launched in July 26, 2016, the Industry Minister Regulation No. 65 of 2016 required manufacturers to have no less than 30 per cent of a local component by 2017. The rule also establishes methods of calculating the local content standards. There are several formulae a device sold in the country can be considered locally produced.

One of the plans applies to a product that cost Rp6 million ($436) or more. It lays out that if a manufacturer includes seven locally made applications or 14 locally created games, each that have at least a million users, in addition to 10 per cent locally sourced hardware and 20 per cent local design and firmware development, it can be considered to have a 70 per cent score for local content evaluation.

The government also offers an alternative way to meet the requirements through an investment scheme. A manufacturer should realize the total agreed amount of investment within less than three years, with 40 per cent being spent during the first year. A 30 per cent local content level could be met with investment of Rp550 billion to Rp700 billion ($30 million-50 million). This offer applies only to new investment.

Indonesian Institute of Sciences economist Siwage Dharma Negara tried to capture the impact of local content requirements policy on the manufacturing industry, particularly on the machinery and transport industry, through a research. It revealed that intermediate inputs (including raw materials) and capital goods contribute around 70 per cent of Indonesia’s import during 1997-2014. It looked further into the correlation between the use of imported inputs with companies’ productivity, output, export, and employment.

The research showed positive correlation despite the implementation of such policy within the last two decades. It also found indications that the policy is ineffective in reducing company’s dependency on imported inputs. Moreover, Negara said that adopting a more restrictive TKDN policy will increase the cost of inputs for local companies.

The government needs to consider many factors in implementing localization policy, he said. Some of the considerations are the nature of the industry, how it operates in a global context, substitution possibilities in production, supply condition, and the market structure. Localization policy must be carefully targeted, continuously supervised, and should not be implemented for too long and too restrictive.

Written by Pudji Lestari