Delicate fiscal sustainability – an economic recession is on the way

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Anthony Budiawan Managing Director of Political Economy and Policy Studies (PEPS)

 IO – “Fiscal sustainability” is the technical term used to appraise the State’s fiscal and financial health. In other words, it tells us how far the Government is able to maintain its current level of State income and expenditure, and how much it is able to maintain its long-term sustainability without threatening financial solvability, or even falling into default. 

Our country’s fiscal sustainability is at a worrisome level, and it is consistently deteriorating and becoming more fragile. This has been going on even before the COVID-19 pandemic. The pandemic only accelerates the “bad condition” into an “emergency”, for the following reasons: 

First, the tax ratio, which is the ratio of tax income (tax plus levies, customs, and excises) to GDP has been showing a downward trend. This ratio was 11.4% in 2014, down to 9.8% in 2019 (note: before the pandemic). It went down again to about 8.3% in 2020, despite the tax amnesty program that was promised to greatly increase tax income in 2016/2017. The plan was a total failure: either it’s only propaganda meant to let tax evaders go scot-free with a minimum token payment of the tax they owe, or the tax evaders are smarter than the President and managed to find loopholes it whichever occurred to him to consider. In either case, the tax ratio continues to decline. 

 Including Non-Tax State Income (Penerimaan Negara Bukan Pajak – “PNBP”), the ratio of State income to the GDP dropped even more sharply, i.e., from 15.3% in 2014 to 12.3% in 2019, and even further, to only about 10.0% in 2020. This extremely low State income ratio to GDP is one of the lowest in the world. It is a literal emergency. Unsustainable. Even worse, this ratio will continue to worsen in the future. This is because the growth of tax income and PNBP has been much lower than GDP growth since 2008, and the trend is for the ratio to steadily decline. It is only a matter of time before State fiscal and finances collapse. 

Second, in terms of expenditures, debt interest liability is becoming more and more uncontrollable, making it a bigger and bigger burden on our fiscal condition. The ratio of debt interest liability to tax income increased from 12.6% in 2014 to 17.8% in 2019, and jumped to about 27% in 2020. In other words, the pandemic accelerates the process of fiscal decay, despite funding of the 2020 State Budget deficit mostly being borne by Bank Indonesia. Our state bank covers IDR 650 trillion of the year’s budget deficit of IDR 956 trillion. And this amount is mostly at zero interest. 

The growth of debt interest liability is also at a worrisome level during the Joko Widodo Government term – an average of 15.7% per annum, compounded, and it continues to rise. Compare this with the fact that during the ten years of Susilo Bambang Yudhoyono (“SBY”)’s term, debt interest liability only increased 8.51% per annum, compound. 

Third, Indonesia’s fiscal situation has suffered from a constant budget deficit since 2000 – a deficit that continues to increase year after year. The average ratio of State budget deficit to GDP from 2015 to 2019 is 2.32% per annum. This ratio jumped to about 6.2% per annum in 2020. Again, the average State budget deficit ratio to GDP within SBY’s ten-year rule was only 1.26% per annum. 

The biggest concern amid all of these troubles is that our national fiscal and financial management seems rather irresponsible and imprudent. Our Government tends to borrow much more than what it needs to cover State Budget deficits, making the average ratio of national debt to GDP in 2015 to 2019 at 3% per annum, while the average deficit at the time was only 2.3% per annum. 

All of these fiscal indicators show just how fragile our national finances are. The pandemic only speeds up the breaking down of an already fragile structure, headlong into a collapse. With the added problems brought in by the pandemic and no apparently effective effort to turn the situation around, future trend of State Budget deficit and interest liability will continue to worsen. 

There are only two things that the Government can do to improve our nation’s fragile fiscal and financial condition: first, reduce the State’s expenditure budget and its deficit; second, raise the State’s income by increasing taxes. Whichever of these two policies will be taken, our economy will enter a recession anyway. Reducing State expenditure and increasing taxes will both result in a sharp dip in consumer demand. 

The Government might be more likely to perform some “acrobatics” by continuing to raise the State Budget deficit. I predict that the total within the next few years will not be less than IDR 1,000 trillion, and Bank Indonesia will be left holding the bag, forced to carry this fiscal burden. It will probably attempt to “create” money by purchasing National Bonds in the primary market. 

Again, it will only worsen the condition of our national economy. This measure will cause our national debt to balloon all the way to 60% of GDP in the next few years – that is, assuming that our economy somehow survives this continued mismanagement combined with the impact of the pandemic. 

There is no instant miracle healing whatsoever. Our economy is about to crash, we are going to enter a long recession. It is inevitable and only a matter of time.