Revisiting Growth and Poverty in Indonesia: The Causes of Declining Pace of Poverty Reduction

in the Post Asian Financial Crisis Period

Asep Suryahadi

Gracia Hadiwidjaja

The SMERU Research Institute

Jakarta – Indonesia

www.smeru.or.id

May 2011

Outline

I. Introduction

II. Sectoral Structure of the Economy

III. Poverty Trend and Profile

IV. Growth and Poverty Reduction

V. Conclusion and Implication

2

I. Introduction

Before the 1997/98 Asian financial crisis

(AFC), Indonesia experienced high economic

growth and rapid reduction in poverty.

After AFC, Indonesia has both significantly

lower economic growth and slower poverty

reduction.

This study’s objective is to assess possible

causes of the slower poverty reduction in post

AFC era using the growth-poverty framework.

3

II. Sectoral Structure of the

Economy

A. Development Policy

I. late 1960s – mid 1970s: open trade and investment

policy.

II. mid 1970s – mid 1980s: inward-looking import-

substitution policy.

III. mid 1980s – late 1990s: export orientation policy

and deregulation of domestic economy.

IV. late 1990s – now: remains committed to open

economic policy, but returns to protectionism in

certain sectors.

4

B. Output

5

C. Employment

6

D. Economic Growth

7

III. Poverty Trend and Profile A. Long Term Trend in Poverty

8

40.1

28.6

21.6

17.4

15.113.7

11.3

17.3

23.4

18.217.4

16.715.9

17.816.6

15.414.2

13.3

0

5

10

15

20

25

30

35

40

45

1976 1980 1984 1987 1990 1993 1996 1999 2002 2003 2004 2005 2006 2007 2008 2009 2010

%

Figure 4. The National Poverty Rates in Indonesia, 1976-2010 (%)

Old standard New standard

9

Back of Envelope Calculation of Changing Pace in Poverty Reduction

Pre AFC

1976-1996

Post AFC

2002-2010

Beginning period poverty rate (%) 40.1 18.2

End period poverty rate (%) 11.3 13.3

Reduction in poverty rate

(percent point) 28.8 4.9

Length of period (year) 20 8

Annual average reduction in

poverty rate (percent point) 1.44 0.61

Ratio to pre AFC period (%) 100 43

B. Urban and Rural Poverty

10

C. Sectoral Profile of Poverty

11

IV. Growth and Poverty Reduction A. The Growth-Poverty Model

The basic model to estimate the impact of economic

growth on poverty (Ravallion and Datt, 1996):

Indonesian study (Suryahadi et al., 2009):

12

ydP

dPj UA HUj

A yUjA

U

I HUjI yUj

I

U

S HUjS yUj

S

R

A HRj

A yRjA

RI HRj

I yRjI

R

S HRj

S yRjS

dS j Pj mEmj

Source: Suryahadi et al. (2009)

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Estimation Results of the Impact of Sectoral Economic

Growth on Poverty

Sectoral Rural Poverty Urban Poverty

GDP Growth Coefficient z-values Coefficient z-values

Urban Agriculture -0.190 -0.83 0.058 0.32

Urban Industry -0.099 -2.83 -0.106 -3.02

Urban Services -0.413 -4.52 -0.344 -4.75

Rural Agriculture -0.445 -2.19 -0.017 -0.08

Rural Industry -0.102 -0.89 0.012 0.17

Rural Services -0.555 -5.37 -0.294 -3.81

B. Possible Causes of Slower Poverty Reduction

Assuming the estimated s are the true *s,

then there are two possible causes of the

slower poverty reduction:

Changes in the levels of sectoral economic

growth

Changes in sectoral GDP composition

How do we test these possible causes?

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B.1. Changes in the levels of sectoral economic

growth

Fix the levels of sectoral economic growth (at

the pre AFC levels), let the sectoral GDP

shares vary (the actual shares):

15

mjmjj

S

Rj

S

Rj

S

R

I

Rj

I

Rj

I

R

A

Rj

A

Rj

A

R

S

Uj

S

Uj

S

U

I

Uj

I

Uj

I

U

A

Uj

A

Uj

A

Uj

EPdS

yHyHyH

yHyHyHdP

***

***

16

Average Sectoral GDP Share

in Indonesia Pre and Post AFC

Urban

Agriculture

Urban

Industry

Urban

Services

Rural

Agriculture

Rural

Industry

Rural

Services

1984-1996 0.0172 0.2169 0.3418 0.1656 0.1128 0.1457

2002-2008 0.0268 0.2475 0.3861 0.1300 0.0902 0.1193

Average Annual Sectoral Economic Growth

in Indonesia Pre and Post AFC (%/year)

Urban

Agriculture

Urban

Industry

Urban

Services

Rural

Agriculture

Rural

Industry

Rural

Services

1984-1996 8.00 8.73 7.15 4.25 6.28 7.22

2002-2008 2.64 2.27 6.01 4.42 11.52 11.34

17

18

B. 2. Changes in sectoral GDP composition

Fix the sectoral GDP shares (at the pre AFC

shares), let the levels of sectoral economic

growth vary (the actual growth levels):

19

mjmjj

S

Rj

S

RjS

R

I

Rj

I

RjI

R

A

Rj

A

RjA

R

S

Uj

S

UjS

U

I

Uj

I

UjI

U

A

Uj

A

UjA

Uj

EPdS

yHyHyH

yHyHyHdP

***

***

20

21

22

Annual Reduction in Poverty Rate (% point)

Rural

Poverty

Urban

Poverty

Actual Pre AFC -2.09 -1.35

Post AFC:

- Actual -2.02 -1.25

- Fixed Economic Growth -2.08 -1.43

- Fixed GDP Share -2.14 -1.24

Contribution to Slower Poverty

Reduction (%):

- Changes in Economic Growth 78.28 185.31

- Changes in GDP Share 162.92 -11.40

C. Growth Elasticity of Poverty – Rural

23

C. Growth Elasticity of Poverty – Urban

24

D. Sectoral Contribution to Poverty Reduction – Rural

25

D. Sectoral Contribution to Poverty Reduction – Urban

26

V. Conclusion and Implication Changes in the levels of sectoral economic growth are a

significant factor contributing to slower poverty reduction in post AFC era in both rural and urban areas.

Changes in sectoral GDP composition contribute significantly to the slower poverty reduction but only for rural areas.

The power of each percent of economic growth in reducing poverty – i.e. the growth elasticity of poverty – did not change much between pre and post AFC.

Services growth is the largest contributor to poverty reduction in both rural and urban areas, agricultural growth is only important for rural poverty, while industrial growth has become irrelevant for poverty reduction.

Caveat: need to investigate whether the coefficients (s) have changed in the post AFC era.

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Thank You