Lower budget deficit denies higher growth

Winarno Zain,

A budget deficit matters for the economy of a country. If deficit is allowed to run out of control, either because the government lacks discipline in its fiscal management or lets itself be co-opted by populism, it will wreak havoc on the national economy, as happened in Indonesia in the 1960s, in Latin America in the 1980s, and recently in Greece.

But if deficit, as a policy, is managed prudently, it can support growth. A country that suffers an economic downturn needs a budget deficit to bolster demand. To prevent the economy from sliding further into recession during the global financial crisis last year, many countries incurred large deficits in their budgets.
In previous years the Indonesian government budget deficits have been low. This is because the government wanted to maintain prudent fiscal policy and budget discipline, since these have been effective in supporting economic stability and growth in the past. But the deficits in the last two years have been lower than projected in the budget.
This did not mean the government was more disciplined or more prudent in its fiscal policy. It was simply the inability of the government bureaucracy to disburse the approved budget in time. The disbursement of budgeted funding for vital projects experienced delays, because of the poor capacity of the bureaucracy, rigid government regulations, and over cautious officials in making decisions for fear of being charged with corruption. A lower deficit could have happened by default and not been a result of a deliberate policy.
Experiences with previous years’ budgets have showed that actual government revenues were always higher than the budget, while actual spending was lower.
Until now the government has not been able to satisfactorily address various problems that constrain the timely disbursement of its budget expenditure.
It is doubtful therefore if the government will be able to spend all of the Rp 1,200 trillion (US$133.7 billion) expenditure proposed in 2011 draft budget, Rp 75 trillion more than its current budget.
More specifically, the problem looks more formidable when it comes to capital spending that is mostly on infrastructure, since here the government has proposed to spend Rp 122 trillion, almost 30 percent more than this year.
Because of the constraints in the government capability to spend, the World Bank, in its report in March 2010, estimated that the 2011 budget deficits could be as low as 0.4 percent of GDP, significantly less than the government estimate of 1.7 percent. In money terms, if the World Bank estimates materialize, it means the unspent budget expenditure could reach Rp 90 trillion.
Last year, nearly Rp 40 trillion budgeted expenditure could not be spent by the government due to various problems. The macro economic implications are obvious. Higher growth and employment have been foregone as increased fiscal space could not be absorbed.
In efforts to catch up on delayed spending, government ministries usually speed up their spending toward the end of the fiscal year. It is estimated that 40 percent of the budget is spent in the last quarter. It is obvious that this rush in spending is carried out without adequate controls and analysis, resulting in wasteful spending and corruption.
A new approach in budgeting should be considered to stop these unproductive practices. It is important for the government to improve institutional and regulatory frameworks in public finance, to reduce bureaucratic rigidity, and to make the disbursement of funds a smoother process.
In terms of percentage of GDP, Indonesia has the lowest debt and deficits among the major emerging economies. The continuing decline of debt relative to GDP, actually provides the government more space to have more debt and deficits to boost further economic growth, and if debt and deficits stay within reasonable limits they could be incurred without jeopardizing the credibility of its macroeconomic policy.
Never has the market been so comfortable and confident in the Indonesian economy as it is now. When the original budgets for 2009 and 2010, with deficits of more than 2 percent of GDP, were submitted to the House of Representatives, the market was calm and did not react negatively.
The markets perceived Indonesia as posing less risk for investment because of improvements in its debt rating. Between January and June this year, Fitch Ratings, Standard & Poor’s and Moody’s have all upgraded Indonesian sovereign debts.
An increase of a few basis points of percentage GDP for the budget deficit would not affect the favorable perceptions of the market toward the Indonesian economy. A deficit of more than 2 percent of GDP would not upset the market, and would still be viewed as reasonable as it is still within the limits of prudent fiscal policy.
A higher deficit should be used for projects that increase the productive capacity of the national economy to achieve higher growth. Higher economic growth would increase tax revenue, and this would allow the government to pay more debt to keep the deficit at a targeted level.
That is why when the government has adequate capabilities in planning and implementing the budget, higher economic growth and deficit should be self-liquidating.
The loss of opportunity to achieve higher economic growth could also come from having less tax revenue than what there should have been. It has been widely acknowledged that most Indonesian taxpayers, both corporations and individuals, have been paying less tax than they are obliged to.
This has been made possible by the complicity of the tax officials in accepting bribes from taxpayers and also by the weak control and monitoring of tax returns.
The recent exposure of the “tax mafia” in the media was possibly the tip of an iceberg of what really happens in tax collection in this country. Trillions of rupiah of tax money were reportedly diverted out of the government coffers. There hasn’t been any improvement in the tax ratio, and the Indonesian tax ratio remains at the bottom when compared to the tax ratios of neighboring countries.
The tax revenue falling short of what it should have been, and a lower budget deficit from under-spending by the government have denied the Indonesian economy of higher growth.
Programs to eliminate these backlogs should be a government priority, because the Indonesian people have the right to a faster improvement to their well being.

The writer is an economist.