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  • Indonesia Could Teach U.S. Some Fiscal Responsibility

    On July 11, German Chancellor Angela Merkel praised Indonesia as a model of government debt management. In absolute terms, though, Indonesia’s government spending and government debt has steadily increased. Indonesia’s robust fiscal standing comes first from economic growth with some help from controlling fuel subsidies.

    Indonesia’s government debt declined from 95 percent of gross domestic product (GDP) in 2000 to 25 percent in 2011. This occurred because the country’s GDP grew 530 percent between 2000 and 2011, far outpacing government debt accumulation. Its outstanding government debt actually rose by 40 percent in the same period.

    According to The Heritage Foundation’s 2012 Index of Economic Freedom, Indonesia scores 83.5 (56th) in fiscal freedom and 91.6 (ninth) in government spending. Indonesia ranks 115th overall in the Index and does poorly in regulatory efficiency and market openness. But it scores extremely well on limited government and, thus, on fiscal responsibility.

    The Indonesian and German economies are vastly different. If Germany and other countries facing fiscal stress want to learn from the Indonesian model, the simple, universal lesson is that economic growth must outpace increases in government expenditures. For a developed economy, this means fixing its fiscal situation to stimulate the economy.

    High government spending along with rising debt-to-GDP ratios is direct evidence that fiscal stimulus weakens economies. Limiting the size of government, as Indonesia has, and leaving more resources in private hands boosts growth. The private sector is far better at generating growth than is the public sector (which has other important roles in the economy).

    It follows that the main lesson for high-debt developed economies is spending control. In 2005, Indonesia reduced fuel subsidies that had kept its oil below the world price. As a result, fuel prices increased more than 100 percent. President Yudhoyono argued—even though doing so posed political risks—that cutting fuel subsidies would “create better fundamentals for stronger growth in the coming years.” He was right, and he was reelected in 2009.

    Less money for fuel subsidies created space for Indonesia to invest in far more productive projects. There are many examples of unproductive subsidies in developed economies that could be cut, shifting resources to growth creation. That’s the real lesson from Indonesia.

    Posted in International [slideshow_deploy]

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