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Patching up fuel subsidy sinkhole in Indonesia’s budget

This article originally appeared in the opinion column of The Jakarta Post, October 26, 2014, and also being featured in The Straits Times, October 29, 2014

Syamsul has been fishing off the coast of Cilincing, North Jakarta for the past 20 years. But he soon might find it hard to get a good catch. “If the weather is really good, I can earn around Rp 1.5 million (US$120) in one trip. But, I don’t know what will happen if the government starts raising fuel prices,” he lamented.

He is not alone. Many other fishermen are fearing for their future as the new administration discusses the possibility of raising subsidized fuel prices by Rp 3,000, or 50 percent higher than the current price level. An average fisherman like Syamsul usually spends Rp 1.1 million each trip for 200 liters of diesel fuel. A 50 percent price increase will effectively cost him much more than what he earns.

But the fuel subsidy has become our annual budget sinkhole. For the 2014 fiscal year, the government allocated almost 18 percent of its total budget for fuel subsidy, an amount equivalent to $23 billion.

In contrast, the country allocated a meager 4 percent of its budget for health care and a little more than 10 percent for infrastructure. Such a gargantuan subsidy supposedly benefits the poor, but recent research shows that 70 percent of the subsidy goes to the rich.

It has also become a burden to the economy. Newly inaugurated President Joko “Jokowi” Widodo is set to scrap the fuel subsidy completely within four years. For the first time in history, the fuel subsidy might be a thing of the past.

However, without a proper cushion, I am afraid that this will only create greater problems for Indonesia.

Every country in the world has some sort of fuel subsidy to help the poor. The United States, for example, spent $37.5 billion on fossil fuel subsidies last year, according to a recent report from environmental group Oil Change International.

The subsidies are given in various forms, from tax breaks, loans at favorable rates and price control, to purchase requirements.

Instead of scrapping the fuel subsidy completely, the new administration should instead consider a new scheme that would better target those who need it the most. A recent example from our neighbor, Malaysia, might be worth considering.

The Malaysian government is mulling a new fuel subsidy scheme.

Under the new scheme, motorists with small incomes and small cars will enjoy a full fuel subsidy, middling motorists will get middling subsidies and the rich will not get any subsidy at all.

The government will use the MyKad (Malaysian identity card) or issue a new fuel card that contains subsidy eligibility information, a card that must be swiped at a fuel station before purchasing fuel.

Indonesia can adopt a similar scheme, plus some modifications to deter people from abusing the system, for example, by buying fuel at subsidized prices and reselling it to the people who are ineligible for subsidy — or the so-called arbitrage opportunities of price differences. To deter such arbitrage opportunities, instead of providing subsidy directly at the point of sale, the government can think of a subsidy scheme in the form of reimbursements or claims.

Simply put, everyone will pay the normal fuel price at the point of sale and the eligible will receive a monthly reimbursement prorated to their level of subsidy.

Another modification would be needed to enable small business owners and fishermen to access fuel at subsidized prices.

Opponents of this idea would argue that without cutting the fuel subsidy drastically, if not abolishing it completely, Jokowi would not have the fiscal space to fund all of his signature programs, such as free education and health care.

This argument is misguided. Why should all the funding for those programs come from the government’s coffers alone?

It is now a good time to further strengthen Indonesia’s investment climate and attract private institutional investors to invest in our public infrastructure.

High hopes for the new administration remain, even for Syamsul, who will be most affected by the subsidy cut.

As he is ready to fire up his diesel engine again, he is optimistic that the new administration will bring a fresh new approach to policymaking.

“Although the subsidy will be cut, I believe that Pak Jokowi has a good solution for the lower- income members of society like us.”

The writer is master in public policy candidate at Harvard Kennedy School, Cambridge, Massachusetts.

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