Wednesday, September 19, 2007

Doing business indicators -- why matters?

dHani, a frequent visitor and commenter of the Café sent me this piece. The email subject reads "my own stupid analysis". So I read it, and I thought, why not sharing this with you all. I, however, won't give her the right to use my "my own stupid analysis" subject -- that one is reserved for my analysis. - Manager

Doing Business Indicators - Why Matters?

by dHani

Sometime around the third week of September, IFC will have a global launch of Doing Business 2008, at exactly 00.00 Greenwich Time. At around the same time, you all can access the result from this website. About the same day, LPEM will report their findings on “Monitoring Investment Climate Indonesia 2007” in the so called ‘Investor Forum Indonesia”.

The questions then, what’s with all the effort? People are getting frenzy over investment climate. Just a recap, Indonesia was ranked at 135 over 175 countries surveyed (or judged?) by IFC. We are far worse than Vietnam (104), slightly better than Mozambique (140).

There have been so many efforts and initiative put to resolve this matter, some now ask the importance of improving Doing Business indicator. According to a famous Indonesian economist (he-who-shall-not-be-named), Malaysia who ranked much better last year only gained 20% contribution from Investment to their GDP, while Indonesia scored 24%. His hypothesis is thus investment climate might not have anything to do with investment, especially with FDI, foreign direct investment. It is just "business as usual". And even if Investment Climate did matter, Employing Workers (Labor) contributes much bigger problem than Starting Business or Dealing with License, for instance. Businesses complain because that’s what they do, they’re professional complainers. Again, it is business as usual. FDI showed a decline trend everywhere in the world except China, India and Vietnam, they say. It is a global trend, nothing to do with Investment Climate.

Well, here’s what I think. “Doing Business” is not meant for foreign investment. It’s not even for large-size businesses. Doing Business actually deals with SME, small and medium enterprises (and I also mean the micro ones -- the assumption used by the surveys is limited liability with not more than 50 domestic workers, owned by at most 5 domestic shareholders). Investment climate i n Indonesia does not have anything to do with foreign investment which mostly done their business in large scale and scope. Doing Business is for SME.

Question is then, why do we need to focus on SME? Aco often points out to me that dealing with the smallies (it’s not English, I know, but I use it) is tricky. You don’t want the small vendors grow in number larger and larger, because it's just not a characteristic of what a developed country is, if you want to become one . Further, it is not easy to deal with them, because they are mostly informal. They are, well, the smallies. Here’s the Catch-22; they’re informal because they cannot afford to be formal. They cannot contribute more because they are mostly in the form of sole ownership rather than limited liabilities. They become small because they cannot ask for credit because they are informal. That’s why dealing with business indicator matters.

Starting Business and Dealing with business licenses in Indonesia is complicated, costly and takes an enormous resource. Most of our SMEs choose to become informal, simply because they cannot afford to be formal entities. How much contribution if we can fix this, you might ask. Well, I’m not really sure. I might have to turn this into a doctoral thesis. But, let me show you something, there are many medium and small-scale businesses in Indonesia. They outnumber the large ones.

OK, I’ll just stop here. Otherwise, this will become my proposal.


  1. Insightful observation!

    I own the so called Small Medium Enterprise (SME) who can't afford to be a formal entity. Some barriers in becoming a formal enterprise are the following:

    1. TAX! Among informal SMEs, there is an understanding (or probably misunderstanding) that taxation is very taxing to handle (pun intended) regardless of your honesty. There is a fear that once you declare yourself as a formal entity (incorporated and etc.) and start filing honest tax report, you will be visible to tax officer radar who will pressure you to spare them some money, or they will make up trouble in your tax report. A not so powerful SME simply can't afford to fight such pressure.

    My uncle (an informal SME) actually tried to file tax report honestly. After 5 years he was forced to declare his company bankrupt because of increasing pressure from the taxmen.

    2. In relation to tax, the margin in some business is simply too slim and almost all competitors simply do not pay Value Added Tax (VAT/PPN), or suppliers do not pay VAT that can be use to deduce your own VAT. This means that an informal SME in some business simply can't pay tax without going out of business.

    Not only small revenue company has problem at point 2 (in reference to an exemption of VAT for company whose revenue do not exceed 600 million rupiah a year). In some industry it's quite common for a company whose revenue in the order of hundred thousand dollars a month, to have problem paying VAT.

    3. Turning into a formal entity is not a one time cost. It's an ongoing cost. Not only you have to pay for permits, but you have to pay for extension of permits. And you must employ someone or hire some organization knowledgeable to know the minimal amount of money required for such and such permit. Under payment means your business will be disturbed. Over payment will make you uncompetitive.

    I think in many cases, the people who know the right amount of money to pay for such and such permit, will be the one who play in that particular industry. :-) Sad, but that's often their only competitive advantage..

    4. Turning into a formal entity means that you're not entitled to many dispensations reserved for informal entity. That can be a big problem if most of your competitors are still informal entities.

    An example is long-haul delivery business. If you're nobody, you can get away with over-weight/size delivery with just some spare change. But once you're carrying a brand name, not just the police or "dephub" guys will be after you, even the local mafia (almost any organization whose name start with the word "Forum" or "Rumpun") will haunt you. And the only way you can survive is to have an exclusive deal to companies who can protect you from those racketeers.

  2. hey amitz, looks like i have a potential respondent... based on your story, doing business in Indonesia is indeed complicated.

    LPEM reports on investment climate will show that tax, dealing with licenses and harrasment by officials are indeed among problems faces by private sector, even the formal ones.

    at any case, i think government have realized this and making the issue as their priority. However, there are some cases where good intentions turn into bad policies.

  3. If you have decided to take me as a respondent, just email me ^_^

  4. i think this is an interesting issue.

    i just looked at the list and indonesia is right below india!
    what's going on?

    i do think, however, that indicators/ratings/rankings are overrated.

  5. Roby,

    I'm curious, when you said "i just looked at the list and indonesia is right below india! what's going on?", were you honestly believe Indonesia should score better than India, or you just want to incite some discussion? :-)

    If you want to do business in Indonesia, you must be able to handle the uncertainty of your legal status, even for straight forward issues. Depending on which local agency you're asking, you may or may have the necessary requirement to get the UUG (Undang-undang gangguan) permit to open a restaurant. Depending on which _officer_ you're talking to, you may or may not aset a semi-permanent building here.

    btw, do you know that Jakarta's government force people who live below Jakarta's inter-city highway to move elsewhere, with reasons that the land is not for buildings? Do you know that a police sector office actually exist on that very same land?

  6. amitz sekali: indonesia should be much much lower than india.
    india is currently one of the world's power house.

    so i guess, in terms of doing business, india's score should be much higher than indonesia. if you see the breakdown, india gets higher scores on most areas which makes sense.

    but why the overall score is close?

  7. Roby,

    I didn't read the methodology used but I think dHani already say the answer. The "Doing business" survey is probably more relevant for SME business. For large companies, there is probably no such thing as difficulty of doing business given their resources. In addition, large companies might have some special relationship with top government officials who can adjust/interpret regulations accordingly.

    Therefore the fact that India is a major economic power house does not mean it's business environment is friendlier than Indonesia's.

  8. amitz sekali: i think it's fair to say that a blog post is hardly an answer to such interesting and complex problems.

    both dhani and the famous economist's speculations are, i think, interesting and worth to be pursued.

    hence, my comment should be intrepreted as an encouragement to dhani that the problem she's raised is an interesting one, at least from my perspective. i.e. if dhani is going to do serious research on this, i would be eager to know the results.

  9. Whoa... i just got back and find amitz sekali and roby had an interesting discussion.

    Roby you had a point questioning about "methodology". If you go to the website, you will find the methodology is challangable. They only picked one large city of one country, ask very few law firms and intermediaries on indicators and voila! But you can't really blame them. this is a survey done in 175 countries and you have to have uniformity that will work across countries. Thanks for the encouragement, btw. Frankly speaking, I kinda sick with this topic, that's why i need to rant to the manager. but you are right, it's an interesting topic to see how far this doing business thing will affect SME development in Indonesia. will do, will strengthen my heart and do this thing

    amitz sekali thanks for the offer. obviously i will sned you something once i had the opportunity to do such thing. You are right about dealing with regulations in Indonesia. There are a high scale of uncertainty and that cost people quite a lot. as i said before, large companies face more or less the same problems but they probably have lower opportunity cost and enough resources to deal with the problems.

  10. dHani,

    If I may know, what are you pursuing right now?