VZCZCXRO3990
RR RUEHCHI RUEHDT RUEHHM
DE RUEHJA #2777/01 2750714
ZNR UUUUU ZZH
R 020714Z OCT 07
FM AMEMBASSY JAKARTA
TO RUEHC/SECSTATE WASHDC 6530
RUEATRS/DEPT OF TREASURY WASHINGTON DC
INFO RUEHZS/ASSOCIATION OF SOUTHEAST ASIAN NATIONS
RUEHKO/AMEMBASSY TOKYO 0896
RUEHBJ/AMEMBASSY BEIJING 4369
RUEHBY/AMEMBASSY CANBERRA 1294
RUEHUL/AMEMBASSY SEOUL 4226
RUEAIIA/CIA WASHDC

UNCLAS SECTION 01 OF 06 JAKARTA 002777 
 
SIPDIS 
 
SIPDIS 
SENSITIVE 
 
DEPT FOR EAP/MTS AND EB/IFD/OMA 
TREASURY FOR IA-SETH SEARLS 
COMMERCE FOR 4430/BERLINGUETTE 
DEPARTMENT PASS FEDERAL RESERVE SAN FRANCISCO FOR FINEMAN 
DEPARTMENT PASS EXIM BANK 
 
E.O. 12598: N/A 
TAGS: EFIN KMCA ECON KCOR PGOV ID
SUBJECT: INDONESIA - 2008 DRAFT BUDGET, SIGNIFICANT INCREASE IN 
INFRASTRUCTURE SPENDING 
 
¶1. (U) Summary.  On August 16, President Susilo Bambang Yudhoyono 
(SBY) presented to the Parliament his FY 2008 draft budget, which 
focused heavily on boosting infrastructure spending.  The draft 
budget targets 6.8% economic growth for 2008, up from 6.3% expected 
in 2007, with 6% inflation.  In order to stimulate the economy, the 
Government of Indonesia (GOI) proposed a 12% increase in overall 
spending for 2008 to Rp 836.4 trillion ($91.5 billion); revenue is 
to increase 11.2% to Rp 761.4 trillion ($83.3 billion) from 2007. 
Under the plan, the budget deficit should increase 21%, to 1.7% of 
GDP from 1.6% expected this year, reflecting the GOI's attempt to 
drive economic growth by boosting overall spending volume.  The 2008 
budget is still under Parliamentary review.  End Summary. 
 
¶2. (U) Note. This report uses the September 27 Rp 9140/USD  market 
exchange rate rather than the GOI's budget assumption exchange rate 
of Rp 9,100/USD .  The GOI uses a calendar year fiscal year.  End 
Note. 
 
Macro Assumptions: 
Deficit Expands to Stimulate Economy 
------------------------------------ 
 
¶3. (U) The 2008 draft budget is based on a stronger economic growth 
rate and results in a significantly larger deficit.  It assumes 6.8% 
growth in 2008, up from 6.3% expected for 2007 and generates a 
deficit of 1.7% deficit-to-GDP, compared to 1.6% deficit-to-GDP in 
the 2007 revised budget.  The 2008 budget proposal also assumes that 
inflation will ease to 6% from an expected 6.5% this year, and that 
Bank Indonesia (BI) will reduce its reference rate to 7.5%.  In 
addition, it assumes an average dollar exchange rate of Rp 9,100, up 
from Rp 9,050 in the 2007 budget. 
 
¶4. (U) In his address to Parliament on August 16, SBY noted "The 
rise in the budget deficit is in line with GOI's fiscal policy 
orientation of providing fiscal stimulus to the economy." SBY also 
indicated that the key thrusts of his 2008 budget are improving 
Indonesia's infrastructure and alleviating poverty.  In a speech on 
September 25, Finance Minister Sri Mulyani also underscored the 
government's desire to ramp up spending in the near term.  She noted 
that the GOI is in the process of expanding spending during the 
second half of 2007, potentially increasing the 2007 deficit to 1.5% 
of GDP. 
 
------------------------------------------- 
Table 1: FY 2008 State Budget Assumptions 
------------------------------------------- 
Macro indicators    2007     2007      2008 
                   Budget  Proposed    Draft 
                           Revision    Budget 
--------------------------------------------- 
GDP (Rp trillion)     3,779    3,804   4,306 
Economic growth (%)     6.3      6.3     6.8 
Inflation (%)           6.5      6.5     6.0 
Exchange rate (Rp/$)  9,300    9,100   9,100 
3-month SBI rate (%)    8.5      8.0     7.5 
Oil price ($/barrel)     63       60      60 
Oil lifting (mbd)     1.000    0.950   1.034 
 
(Note: The oil price of $60 per barrel is the estimated real price 
in 2007, so the GOI uses it for 2008 projection.) 
 
Capital Expenditure, Infrastructure Increases 
--------------------------------------------- 
 
¶4. (U) On September 20, Parliament's Budget Committee approved the 
proposed state expenditures at Rp 836.4 trillion ($91.5 billion), 
14.3% up from the 2007 budget.  It consists of central expenditures 
of Rp 564.6 trillion ($61.8 billion) and regional expenditures of Rp 
271.8 trillion ($29.7 billion).  Key spending highlights of the 
final budget include: 
 
-- Capital expenditure to increase by 49% to Rp 101.5 trillion 
($11.1 billion) compared to the current budget.  Social welfare 
programs will also rise by 42%, to Rp 67.4 trillion ($7.4 trillion). 
"The government is determined to become increasingly focused in its 
fiscal policies to develop and repair infrastructure that is 
strategic to the economy, and to increase programs to enhance 
education, health and the prosperity of the poor," SBY stated.  The 
 
JAKARTA 00002777  002 OF 006 
 
 
poor condition of Indonesia's infrastructure is a growing obstacle 
to much-needed foreign and domestic investment and economic growth. 
 
-- Fuel and power subsidies, although smaller than in the previous 
year, remain high at Rp 46.7 trillion ($ 5.1 billion) and Rp 27.8 
trillion ($ 2.8 billion), respectively. 
 
-- The public works ministry's budget allocation will rise 41.1% to 
Rp 35.6 trillion ($3.9 billion), for building roads, and 
rehabilitating and maintaining existing ones.  The transport 
ministry's allocation will jump 64.1% to Rp 16.2 trillion ($1.8 
billion) to expand the railway network, maritime transport and 
airports. 
 
-- Transfers to the regions decreased as percentage of GDP over the 
previous year in the 2007 budget, from 6.6% to 6.3% of GDP.  By 
nominal terms, however, it increased slightly by 8% from Rp 252.5 
trillion ($27.6 billion) to Rp 271.8 trillion ($29.7 billion). The 
increase includes a 4% increase in the Revenue Sharing Fund (DBH) to 
Rp 64.5 trillion ($7.1 billion), and a 7% increase in the General 
Allocation Fund (DAU) to Rp 176.6 trillion ($19.3 billion). 
 
Social Welfare Spending Rises 
----------------------------- 
 
¶5. (U) Personnel and social spending will increase significantly, in 
line with the GOI's policy of bureaucratic reform, and poverty 
reduction.  The GOI will channel the bulk of the 2007 social 
expenditures through line ministries for social assistance. 
Spending categories include direct subsidies for education and 
health programs, and a Rp 1.1 trillion ($120.4 million) conditional 
cash transfer.  The conditional cash transfer program represents an 
extension of similar programs introduced after fuel subsidy cuts in 
October 2005 to mitigate the impact of higher fuel prices on the 
poorest families.  The cash transfer programs distributed Rp 15.6 
trillion ($1.7 billion) in 2006 and Rp 2.8 trillion ($306.3 million) 
in 2007 to millions of households below a designated income level. 
Social expenditures also include a Rp 3 trillion ($382.2 million) 
emergency reserve and disaster mitigation fund. 
 
Table 2 provides the spending levels of GOI'S FY 2007 proposed 
budget. 
 
--------------------------------------------- ----- 
Table 2: FY 2008 Expenditures 
(in trillions of Rupiah) 
--------------------------------------------- ----- 
Items                  2007      2008   % Increase 
                     Proposed    Draft 
                     Revision    Budget 
--------------------------------------------- ----- 
Expenditures          746.4     836.4      12.1 
-- Central govt.      493.9     564.6      14.3 
  - Personnel          99.9     129.5      29.6 
  - Material           62.5      52.4     -16.2 
  - Capital            68.3     101.5      48.6 
  - Interest           86.3      91.5       6.1 
  - Subsidies         105.1      92.6     -11.9 
  - Social             47.5      67.4      41.8 
  - Others             24.1      29.6      22.5 
-- Transfers to 
   regions            252.5     271.8       7.6 
 
Education and Health Spending Increases 
--------------------------------------- 
 
¶6. (U) In line with GOI's policy to increase spending on social 
development, the Ministry of Education (MOE) receives the highest 
budget allocation at Rp 48.3 trillion ($5.3 billion).  This is more 
than double its 2005 budget, or 17% of central government spending, 
22.5% up from 2007 education budget realization.  Nationwide 
education assistance programs include school buildings, books, and 
scholarships.  The Ministry of Religious Affairs (MORA) budget 
allocation increases by 30% mainly due to a expenditure 
classification change: the amount includes part of the School 
Operational Subsidy (BOS), for Islamic schools or "madrasah," which 
in previous years was classified under Ministry of Education 
spending. 
 
JAKARTA 00002777  003 OF 006 
 
 
 
-- Also in line with the President's social development agenda, the 
amount of funds allocated to the Ministry of Health increased by 18% 
compared to the previous year, rising to Rp 18.8 trillion ($2.1 
billion).  The Health Ministry's budget will have almost tripled 
from 2005. 
 
Table 3 illustrates the budget level of the ten agencies who will 
receive the largest budget allocations in 2008. The allocation for 
major agencies increased, with the exception of the Aceh 
Rehabilitation and Reconstruction Agency (BRR). 
 
--------------------------------------------- ----- 
Table 3: FY 08 Budget Allocation By Ministries/ 
Agencies(in trillions of Rupiah) 
--------------------------------------------- ----- 
Ministries/            2007      2008   % Increase 
Agencies              Budget    Proposed 
                     Revision   Budget 
--------------------------------------------- ----- 
Education              39.4      48.3      22.5 
Public Works           25.3      35.6      41.1 
Defense                29.6      33.7      13.9 
National Police        17.8      20.9      17.3 
Health                 15.9      18.8      18.0 
Transportation          9.9      16.2      64.1 
Religious Affairs      12.4      16.1      30.0 
Finance                 8.6      10.3      19.7 
Agriculture             7.9       8.9      12.7 
BRR (1)                 9.9       7.0     -29.7 
 
(1) Aceh Rehabilitation and Reconstruction Agency 
 
Civil Service Salary Increases 
------------------------------ 
 
¶7. (U) The GOI significantly increased personnel expenditures, by 
30% in nominal terms over 2007, reflecting the GOI's civil service 
reform effort.  The civil service reform package includes a 20% 
increase in base salaries and retirement benefits for the civil 
service, the military, the police; an increase in teacher 
allowances; and an increase in official per diem for the police and 
the army (from Rp 30,000/day to Rp 35,000/day, or $3.3/day to 
$3.8/day) as well as the civil service (from Rp 10,000/day to Rp 
15,000/day, or $1.1/day to $1.6/day). 
 
¶8. (U) The draft 2008 budget allocated increases to prioritized four 
government institutions that will implement civil service 
remuneration reforms; the National Police, the National Land Agency 
(BPN), the Attorney General Office (AGO), and the Investment 
Coordinating Board (BKPM).  This follows four other institutions 
that initiated the project in 2007 (the Ministry of Finance, the 
State Audit Agency, the Supreme Court, and the State Ministry for 
the Administration). 
 
Increased Anti-Corruption Spending 
---------------------------------- 
 
¶9. (U) All but one the major anti-corruption agencies received 
spending increases.  The Supreme Audit Board (BPK) the Supreme 
Court, and the Ministry of Law and Human Rights (MOLHR) continue a 
multi-year trend of budget increases.  Only the Corruption 
Eradication Commission (KPK), which has recently moved into its 
newly-renovated building and had large budget support in the past, 
has slowed down.  The KPK also continues to receive robust donor 
assistance. 
 
--------------------------------------------- ------ 
Table 4: FY 08 Budget Allocation for Civil Services 
Reform and Fighting Corruption 
(in trillions of Rupiah) 
--------------------------------------------- ------ 
Ministries/            2007      2008   % Increase 
Agencies              Budget    Proposed 
                     Revision   Budget 
--------------------------------------------- ------ 
National Police        17.8      20.9      17.3 
BPN                     2.3       2.4       6.3 
 
JAKARTA 00002777  004 OF 006 
 
 
Attorney General        1.5       1.8      19.9 
Investment Board        0.31      0.35     10.8 
BPK                     1.1       1.3      21.3 
Supreme Court           2.8       3.2      16.3 
MOLHR                   3.8       4.3      13.6 
KPK                     0.32      0.26    -18.7 
 
Key Revenue and Financing Highlights 
------------------------------------ 
 
¶10. (U) The GOI projected an 11% nominal increase in revenue in 2008 
over 2007 to Rp 761.4 trillion ($83.3 billion).  The increase is 
predicated on higher tax receipts, which are expected to increase by 
19% in nominal terms to Rp 583.7 trillion ($63.9 billion) or 14% of 
2008 GDP.  Tax revenue accounts for approximately 77% of government 
income in the 2008 budget.  Table 5 provides summarized revenues for 
FY 2008. 
 
--------------------------------------------- --- 
Table 5: FY 2008 Revenue (in trillions of Rupiah) 
--------------------------------------------- --- 
Items                2007 Revised  2008 Draft 
                        Budget      Budget 
--------------------------------------------- --- 
Domestic Revenue        681.8       759.3 
- Oil and gas           142.9       153.3 
- Non-oil and gas       538.9       606.0 
Foreign Grants            2.7         2.1 
Tot. Revenue/Grants     684.5       761.4 
 
¶11. (U) The projected 2008 budget deficit is Rp 75 trillion ($8.2 
billion), equivalent to 1.7% of GDP.  In nominal amount, the 2008 
projected deficit-to-GDP ratio rises by 21% on calls for increased 
government spending to spur growth.  The GOI will mainly finance the 
deficit through bond issuances.  The GOI continues to rely more 
heavily on domestic financing at around 85-15% proportion as in 
¶2007.  The GOI projected net privatization proceeds of Rp 1.5 
trillion ($164.1 million) for 2008.  Table 6 provides the breakdown 
of the budget's source of financing. 
 
--------------------------------------------- 
Table 6: FY 08 Financing 
(in trillions of Rupiah) 
--------------------------------------------- 
Items                2007 Revised  2008 Draft 
                        Budget      Budget 
--------------------------------------------- 
Primary balance          24.3        16.5 
--------------------------------------------- 
Deficit                 (61.9)      (75.0) 
Financing                61.9        75.0 
-- Domestic (net)        74.6        91.7 
  - Bank financing       10.6         0.3 
  - Privatization         2.0         1.5 
  - Assets restructuring  1.7         0.3 
  - Govt bonds (net)     62.3        91.6 
- Infrastructure 
    Supporting           (2.0)       (2.0) 
-- Foreign loans (net)  (12.6)      (16.7) 
 
Finance Minister Describes Direction, 
Highlights Risk to Fiscal Stability 
----------------------------------- 
 
¶12. (U) In a September 25 briefing for the international community 
in Jakarta, Finance Minister Mulyani detailed her Ministry's ongoing 
plans for fiscal reform.  The plans include streamlining 
administrative procedures, modernizing customs processes, improving 
debt management, deepening debt market, developing sound risk 
sharing schemes for public private partnerships, and reforming the 
bureaucracy.   Efforts to improve the quality of the bureaucracy 
range from better job evaluation and remuneration to improving 
policy credibility. 
 
¶13. (SBU) Minister Mulyani also detailed the risks to fiscal 
stability in Indonesia.  Her largest concerns were global 
macroeconomic instability, a rise in government debt burden, the 
need to fund massive infrastructure projects, and a decline in the 
 
JAKARTA 00002777  005 OF 006 
 
 
performance of state-owned enterprises.  She also raised concerns 
about decentralization, both in terms of local governments' ability 
to spend funds to stimulate local economic activity and in terms of 
local governments' ability to build fiscal capacity.  She conceded 
that local governments still face difficulties in effectively 
managing and implementing budgets.  She listed the prevalence of 
natural disasters in Indonesia as a significant ongoing contingent 
liability for the national budget. 
 
Comment 
------- 
 
¶14. (SBU) The draft budget reflects the GOI's attempts to stimulate 
economic growth by upgrading infrastructure, after leaving economic 
growth mainly to private consumption in recent years.  It has 
significantly increased spending volume to help drive economic 
growth, however analysts view that the key to stimulating higher GDP 
output is the timely disbursement of funds rather than the absolute 
amount of resources.  Recently, some government project managers 
have been reluctant to spend for fear of being charged with abuse of 
public funds without clear procurement guidelines.  The budget 
clearly tries to address years of low education and social welfare 
spending with large increases. Although the 2008 budget is 
conceptually good, some observers have criticized it as overly 
ambitious.  According to the critics, the GOI has focused more on 
monetary goals (macroeconomic stability, lower inflation, stable 
exchange rate) and neglected priorities such as investment in the 
real sector, job creation, and poverty reduction. 
 
--------------------------------------------- ------ 
Table 7: FY 2007 Revised Budget and FY 2008 Draft 
Budget 
--------------------------------------------- ------ 
                           FY 2007        FY 2008 
Items (1)                Rp      % of    Rp    % of 
                        Trill    GDP   Trill   GDP 
--------------------------------------------- ------ 
¶A. Total revenue         684.5  18.0   761.4   17.7 
¶I. Domestic revenues     681.8  17.9   759.3   17.6 
 Tax revenues            489.9  12.9   583.7   13.6 
  Domestic taxes         472.8  12.4   568.3   13.2 
 
  Int. trade tax          17.1   0.5    15.4    0.4 
 
Non-tax revenues         191.9   5.0   175.6    4.1 
  Natural resources      112.2   2.9   119.8    2.8 
  SOE profits             21.6   0.6    20.4    0.5 
  Other                   58.2   1.6    35.5    0.8 
 
II. Grants                 2.7   0.1     2.1    0.0 
 
¶B. Expenditures          746.4  19.6   836.4   19.4 
 Central govt. exp.      493.9  13.0   564.6   13.1 
  Routine                162.4   4.2   181.9    4.2 
  -Personnel              99.9   2.6   129.5    3.0 
  -Material exp.          62.5   1.6    52.4    1.2 
  Capital exp.            68.3   1.8   101.5    2.4 
  Interest payments       86.3   2.3    91.5    2.1 
  Subsidies              105.1   2.8    92.6    2.2 
  Social assistance       47.5   1.2    67.4    1.6 
  Other expenditure       24.1   0.6    29.6    0.7 
 
 Transfer to regions     252.5   6.6   271.8    6.3 
 
--------------------------------------------- ------ 
Primary balance           24.3   0.6    16.5    0.4 
--------------------------------------------- ------ 
Overall balance          (61.9) (1.6)  (75.0)  (1.7) 
--------------------------------------------- ------ 
Financing                 61.9   1.6    75.0    1.7 
 Domestic financing       74.6   2.0    91.7    2.1 
  Domestic banks          10.6   0.3     0.3    0.0 
  Privatization            2.0   0.1     1.5    0.0 
  Assets restructuring     1.7   0.0     0.3    0.0 
  Govt debt               62.3   1.6    91.6    2.1 
  Capital participation   (2.0) (0.1)   (2.0)  (0.0) 
 Foreign financing (net) (12.6) (0.3)  (16.7)  (0.4) 
  Gross drawing           42.4   1.1    43.0    1.0 
 
JAKARTA 00002777  006 OF 006 
 
 
   Program loan           19.1   0.5    19.1    0.4 
   Project loan           23.3   0.6    23.9    0.6 
  Amortization of 
  foreign debt (net)     (55.0) (1.4)  (59.7)  (1.4) 
 
(1) Column totals may not add perfectly due to rounding. 
 
HEFFERN