VZCZCXRO8695
RR RUEHCHI RUEHDT RUEHHM
DE RUEHJA #8800/01 1950601
ZNR UUUUU ZZH
R 140601Z JUL 06
FM AMEMBASSY JAKARTA
TO RUEHC/SECSTATE WASHDC 7208
RUCPDOC/DEPT OF COMMERCE WASHDC
RUEATRS/DEPT OF TREASURY WASHDC
INFO RUEHZS/ASSOCIATION OF SOUTHEAST ASIAN NATIONS
RUEHKO/AMEMBASSY TOKYO 9911
RUEHBJ/AMEMBASSY BEIJING 3528
RUEHBY/AMEMBASSY CANBERRA 9722
RUEHUL/AMEMBASSY SEOUL 3703

UNCLAS SECTION 01 OF 03 JAKARTA 008800 
 
SIPDIS 
 
SIPDIS 
SENSITIVE 
 
DEPT FOR EAP/MTS AND EB/IFD/OIA 
USDOC FOR WGOLIKE/4430 AND JBENDER 
DEPT PASS TO USTR DKATZ AND WEISEL 
TREASURY FOR OASIA 
 
E.O. 12598: N/A 
TAGS: ETRD EINV ECON EFIN ELAB ID
SUBJECT: BATAM - A DEVELOPMENT MODEL FOR INDONESIA? 
 
¶1. (SBU) Summary: The July 25 Indonesia-Singapore "Framework 
Agreement on Economic Cooperation" aims to create an 
ambitious Special Economic Zone (SEZ) in Batam and adjacent 
islands, already the site of one of Indonesia's most 
noteworthy manufacturing success stories.  Batam's local 
economy continues to perform strongly based on solid 
manufacturing growth, property development, and a boom in 
oil and gas support services.  Underpinning the island's 
economic success is an attractive investment climate based 
on a combination of good local governance, proximity to 
Singapore, good infrastructure, and labor discipline. 
Amidst rising growth, however, growing pains are emerging 
with the large-scale influxes of people and foreign 
businesses.  Businesses and local government officials in 
Batam believe Indonesia's plan to replicate the Batam model 
in SEZs across Indonesia will depend heavily on the legal 
certainty the new zones offer investors.  The GOI hopes to 
begin drafting a SEZ law in July, but the timetable for 
passage is uncertain.  Another big hurdle for new SEZs will 
be clearly delineating the roles and responsibilities of 
various levels of government and zone managers. End Summary. 
 
Good Investment Climate Leads to a Vibrant Economy 
--------------------------------------------- ----- 
 
¶2. (U) We made a July 6-7 visit to Batam Island to evaluate 
the recent Indonesia-Singapore framework agreement on SEZs 
and assess the suitability of the Batam model for other 
potential SEZs in Indonesia.  Our meetings with Mustofa 
Widjaja, Chairman of the Batam Industrial Development 
Authority (BIDA), Ismeth Abdullah, Governor of Riau Islands 
Province, Batam Mayor H. Ahmed Dahlan, and the head of 
customs for the island underscored Batam's economic 
prosperity and advantages for attracting investment.  Batam 
operates under a "bonded zone plus" status that provides 
duty free treatment and income tax exemptions for imported 
capital goods and raw materials coming into bonded zones and 
then going out for re-export.  The island also assesses no 
value added tax (VAT) for all processing industries for 
export purposes.  Batam's bonded zones consist of 23 large 
industrial parks and more than 100 single-company 
facilities. 
 
¶3. (SBU) Batam's location 12 miles south of Singapore allows 
companies to set up manufacturing operations in low-wage 
Batam while leaving back office functions in Singapore, in 
many cases reducing costs.  The island offers a more 
flexible and cost-efficient business climate for foreign 
investors compared to Singapore's expensive labor, tougher 
environmental regulations, and sparse land.  After 30 years 
of development, Batam now boasts strong cargo support 
facilities, reliable electricity supply, and enough water 
for one million people and industrial use.  Business 
representatives in Batam told us these resources, together 
with strong infrastructure and a relatively disciplined 
labor force, offer better investment opportunities than 
other parts of Indonesia.  A recent USAID-sponsored survey 
measuring social and political factors, local economic 
factors, infrastructure, and labor quality and cost found 
Batam's investment climate to be among the top ten for 
Indonesian cities. 
 
¶4. (SBU) According to BIDA statistics, Batam attracted 
nearly USD 700 million annually from 2001-05 in foreign and 
domestic investment.  Approximately 850 foreign companies 
are operating in Batam, including 4 wholly owned U.S 
companies and 17 U.S. joint ventures.  The largest U.S. 
company is PT McDermott Indonesia, which manufactures oil 
and gas drilling platforms at a very large facility 
employing over 5,000 Indonesian workers.  A number of other 
U.S. firms have impressive, medium-technology manufacturing 
or assembly operations in Batam, including Vetco, 
PerkinElmer, and CibaVision.  The island has averaged 7.4 
percent GDP growth since 2001, well above Indonesia's 
overall growth during that period.  Population growth also 
shows upward trends, with a 52 percent increase in just six 
years. Batam's current property development boom reflects 
this growth, and also may indicates the island's ongoing 
shift from an industrial zone where workers come to work 
temporarily to a more permanent city. 
 
JAKARTA 00008800  002 OF 003 
 
 
 
Challenges Posed by Economic Prosperity 
--------------------------------------- 
 
¶5. (SBU) Population growth has forced BIDA and the Batam 
city government to grapple with rising social and 
development needs of a larger and more complex community. 
Transportation has emerged as a major issue as fuel price 
hikes in 2005 doubled transportation costs for workers. 
Development disparities between Batam and the less-developed 
outer islands have increased, with local government facing 
challenges in delivering services to hard-to-reach 
communities.  One manager at a U.S.-owned manufacturing 
plant told us Batam's lack of quality continuing education 
programs is one of the biggest challenges facing the local 
government.  Increased training and educational 
opportunities would help meet the needs of upwardly mobile 
skilled workers and strengthen the unskilled labor force as 
well. 
 
¶6. (SBU) The Batam city government has authority over 
health, education, welfare, and tourist-related enterprises. 
However, the central government chartered BIDA more ten 
years before it established the city of Batam in 1983 and 30 
years before Parliament created Riau Island Province in 
¶2004.  As a result, BIDA long delivered a wide variety of 
services that local governments provide in other Indonesian 
cities.  With decentralization, however, certain BIDA 
functions are devolving to the Batam city government. 
BIDA's primary responsibility remains the planning and 
managing of infrastructure development, providing trading 
licenses and permits, and processing international and 
domestic investment applications. 
 
¶7. (SBU) Prior to the 2005 local elections that brought to 
office a new Mayor of Batam and Riau Island Governor, as 
well as the 2006 appointment of Widjaja as BIDA chief, there 
were frequent turf fights between BIDA and the local 
overnment.  All sides now profess a strong determiation to 
work together to improve the island's atractiveness as an 
investment destination.  Busiess representatives we spoke 
with agree such cooeration will be crucial in addressing 
new challenes posed by economic prosperity and competition 
frj  t er SEZs in Vietnam, China, and Subic Bay. 
 
Indonesia - Singapna FQa mework Agreement 
--------------------------------(-------- 
 
¶8. (SBU) Riau Islands Governor Abudulaah told us that after 
years of waning GOI attento*n to Batam, the June 25 
agreement signifies theffull support of the Indonesian and 
Singaporean governments to boost growth, reduce development 
disa rities in outer islands, and increase foreign 
ivvestment in the islands of Batam, Bintan, and Kariu n. 
According to a Singapore Embassy officer in aakarta, growing 
concerns among Singaporean investors in Batam over manpower, 
customs, and tax issus" are the driving force behind the 
agreement on hhe Singapore side.  Singapore businesses worry 
ta t growing business climate problems in Batam simiaar to 
those found in other areas of Indonesia, such as lengthy 
business visa procedures, burdensom  labor regulations, and 
customs corruption, are iignificantly reducing Batam's 
competitiveness. 
 
¶9.  (SBU) The Singaporean role in the Agreement cnnsists of 
investment promotion, training of administrators in charge 
of running industrial zones, and vocational training.  In 
August 2006, the GOI plans to release authority to issue all 
business-related licenses to Batam.  This authority includes 
FDI approvals, approvals for foreign workers, and trade and 
tax permits.  An Indonesia-Singapore ministerial-level joint 
steering committee will meet a second time in mid-July to 
discuss concrete steps to implement the Agreement. 
 
Will the Batam Model Work in Other Regions? 
------------------------------------------- 
 
¶10. (SBU) The Singapore-Indonesia framework agreement 
dovetails closely with an emerging GOI plan to set up a 
number of SEZs across Indonesia in order to lure more 
 
JAKARTA 00008800  003 OF 003 
 
 
foreign investment.  The logic behind the GOI's SEZ plan is 
that improving Indonesia's overall investment climate will 
be a long term process, but that establishing a small number 
of discrete zones with high-quality services for investors 
could proceed quickly.  As Indonesia's only successful 
economic zone, the GOI naturally looks toward Batam as a 
possible model for the rest of the country.  Officials in 
Jakarta and Batam have mentioned a number of possible 
locations for SEZs, including Bitung in North Sulawesi, 
Makassar, Bali, Bekasi/Cikarang in the Jakarta area, and 
Bojonegara in Banten province.  Zones in Bitung and 
Bojonegara would be adjacent to major new port development 
projects underway in those areas. 
 
¶11. (SBU) The likely success of the GOI's plan to use Batam 
as a development model for other SEZs will depend on several 
factors.  According to our interlocutors, by far the most 
important factor will be guaranteeing investors legal 
certainly via a clear and competitive Special Economic Zone 
Law.  Batam is established pursuant to a 1973 Presidential 
Decree, since that date, the GOI has made at least five 
revisions to the island's bonded zone status via 
Presidential Decree.  Since 2001, the island's status has 
shifted from a bonded zone to a Free Trade Zone to the 
current "bonded zone plus" format, increasing administrative 
and compliance costs for businesses.  BIDA officials added 
that a special SEZ law would also perform the important 
function of de-conflicting Indonesia's existing customs, 
immigration, taxation, decentralization, and labor laws as 
they apply to potential SEZs. 
 
¶12. (SBU) Passing a SEZ law potentially could also resolve a 
second major obstacle to SEZ development in Indonesia: the 
relationship between SEZ authorities and revenue-hungry 
local governments.  BIDA came into existence more than a 
decade before Jakarta established the city of Batam, but in 
other areas of Indonesia the SEZ authorities would be the 
newcomers and likely in a weaker position.  Our business 
contacts noted that establishing clear lines of authority 
over key issues like permitting authority and infrastructure 
provision would be important for reducing conflict over 
potential zones.  Although initially resistant to the idea 
of asking Parliament to pass a stand-alone SEZ law, 
Coordinating Minister Boediono has reportedly accepted the 
idea and formed a special team to produce a draft law. 
However, although the GOI would not be starting from scratch 
(Parliament passed a Law on Batam in 2003 that former 
President Megawati never signed), the timetable for passage 
remains uncertain. 
 
¶13. (U) TDY Economic Officer Shamila Chaudhary drafted this 
report. 
 
PASCOE