The Impact of Formal and Informal Labor Regulations on

The Impact of Formal and Informal LaborRegulations on Business in Serang District

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Printed in 2006.

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Rural Investment Climate Assessment Website: www.worldbank.org/id/rica

ACKNOWLEDGEMENTS

The Rural Investment Climate Assessment Case Studies were prepared by a team led by Stefan Nachuk, and consisting of Novia Cici Anggraini, Jennifer Donohoe, Janes Imanuel Ginting, Julie Hackett, Gregorius Kelik Agus Endarso, Kyle Lemargie, Agni Paramita, Peter Rooney, and Nunik Yunarti.

The Rural Investment Climate Assessment Case Study team extends its deep thanks to the people of the five localities where the case study research was undertaken: Serang, Malang, Manggarai, and Tegal districts, and Wiradesa, sub-district, Pekalongan. Without their thoughtful ideas and generosity, these studies would not have been possible.

The Rural Investment Climate Case Studies are part of a project led by Neil McCulloch, the Indonesian Rural Investment Climate Assessment or RICA. The RICA project is one output of World Bank’s Indonesia Poverty Team (INDOPOV) led by Jehan Arulpragasam. Overall guidance was provided by William Wallace, Lead Economist for Indonesia, Rahul Raturi, Rural Development Sector Manager for East Asia, Shobha Shetty, Senior Economist Rural Development and Andrew Steer, World Bank Country Director for Indonesia.

Project management support was provided Roksana Khan and Juliana Wilson. Logistical, editorial, and production support was provided by Maulina Cahyaningrum, Juliana Wilson, Lina Marliani, Indra Irnawan, Niltha Mathias, and Deviana Djalil.

Financial support from the World Bank-Netherlands Trust Fund for Institutional Development and Capacity Building as well as from the DFID Poverty Reduction Partnership Trust Fund is gratefully acknowledged.

The Rural Investment Climate Assessment (RICA) project was funded by the World Bank-Netherlands Trust Fund for Institutional Development and Capacity Building as well as the DFID Poverty Reduction Partnership Trust Fund. The project is designed to provide a better understanding of the rural investment climate and its linkages to rural poverty reduction.

The initial phase of the RICA project has four components: the Rural Investment Climate Survey, National Conference on the Rural Investment Climate, and five case studies that complement the quantitative survey with qualitative research. The case studies were designed to increase understanding of the policy and institutional setting and how it influences the failure or success in implementation and outcomes. The RICA Case Studies were chosen around five themes where knowledge gaps exist or where good examples of innovation have been found. The knowledge gained from these case studies will be incorporated into the RICA Report.

For more information on the RICA project, please refer to www.worldbank.org/id/rica.

KAB. MANGGARAI

KAB. MALANG

KAB. PEKALONGANKAB. TEGAL

KAB. SERANG

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Case Study 2: The Impact of Formal and Informal Labor Regulations on

Business in Serang District

ABSTRACT This case addresses the impact of national and local labor regulations as well as informal labor practices upon business in Serang District. The national labor law, Manpower Act 13/2003, raised severance rates for long-tenured workers. As a result, there has been a decrease in formal sector permanent employment as businesses have turned to contract labor and outsourcing to avoid severance payments. Though Manpower Act 13/2003 limits both contract work and outsourcing, these clauses are not enforced in Serang District.

Serang District regulation No. 13/2003 on the Provision of Facilities for Private Sector Workers and After-Work Accident Insurance obliges enterprises to provide after-work accident insurance for workers and workplace facilities such as canteens, prayer rooms, and sports facilities. The law was drafted without significant consultation with local stakeholders, including businesses and labor unions, and includes clauses that worker representatives themselves label unrealistic and unnecessary. Enforcement is extremely selective and the law is either ignored by or unknown to small and medium enterprises. If it were strictly applied, the law would be onerous and without a more certain legal climate, its existence could encourage rent-seeking behavior.

The 2005 District-set minimum wage regulation requires enterprises to pay at least IDR 690,000/month1 to all full-time employees, in line with other industrial areas in Banten Province. Opinions are divided about the minimum wage: some businesses claim the minimum wage is too high, particularly given low worker productivity; others, particularly large capital-intensive industries and foreign-owned companies, do not believe that the level of the minimum wage represents a significant challenge for their business.

Informal recruitment practices include pressure from communities for work share even if community members are less or unqualified, the use of middlemen to secure employment contracts, and the prevalence of small-scale gangsters extracting rent from enterprises. This case study shows that such practices are prevalent in Serang and have a negative impact upon the local business climate.

This case was written by Peter Rooney, consultant (United Kingdom) and Novi Anggriani, consultant (Indonesia). Research was based on field research in Serang District in September 2005; team members included Gregorius Kelik, consultant (Indonesia). Technical advice and review was provided by Armida Alisjahbana and Chris Manning (thematic authors). Analytical and managerial support by Neil McCulloch, World Bank (Indonesia), and Stefan Nachuk, World Bank (Indonesia). Editorial support was provided by Juliana Wilson, consultant (U.S.A). See Bibliography for works referenced. This case is copyrighted by the World Bank and may not be reproduced or reused without its permission. 1 About $68 US per month

Rural Investment Climate Assessment 2

SERANG DISTRICT Serang is part of the newly established province of Banten. Originally part of the province of West Java, Banten Province was established in 2000, one year after Indonesia’s sweeping legislation on regional autonomy came into effect. Among the powers devolved to local officials that impact this case are the ability to pass labor regulations and to set the minimum wage. Recent legislation has changed Indonesia’s election laws from a system selecting political parties who then appoint officials to direct elections by Indonesians. Direct election of local officials begins in 2006.

Serang District has a population of approximately 1.8 million spread across 34 sub-districts with about 400,000 residents in the capital city, Serang.

It is strategically located approximately 70 km from the industrial heartland of Jakarta and Tangerang with easy access to the ferry port at Merak, the industrial port of Cigading in Kota Cilegon and the Bojonegara port, currently under construction. Serang also has easy access to the toll road running from Merak to Jakarta.

East Serang hosts approximately 46% of the District ’s enterprises. Small, medium, and large businesses in the east produce a wide range of goods including textiles, electronics, and machinery. East Serang’s industries are labor intensive and absorb 65% of the 74,500 workers in Serang District.2

The remaining 54% of Serang’s 939 registered companies are in west Serang. The western industrial sector is dominated by the chemical, agricultural, and forestry industries—industries that require close proximity to the industrial port of Cigading in Kota Cilegon. These are capital-intensive industries requiring a highly skilled workforce. West Serang’s industries absorb approximately 26,000 of Serang District’s workers.

During Serang’s industrialization, from the late 1980s through 1997, the Serang Regional Gross Domestic Product (RGDP) increased steadily, averaging 6.98%. The picture changed dramatically during the Asian Economic Crisis of 1997.

Since 1998, growth has increased at an average 3.13% per annum.3 Despite the 1997 economic downturn, the manufacturing sector continued to contribute 50% of Serang District’s RGDP while employing 15% of the workforce. According to the District Department of Industry, Trade, & Cooperatives (BKPMD), issuance of new business licenses was relatively stagnant from 2000-2002, but showed signs of improvement from 2003-2005, especially in the agricultural, forestry, textile, and footwear industries. Some of Serang’s industries failed to rebound from the Asian Economic Crisis; a number of these have relocated within Indonesia or to other ASEAN countries.

2 All figures are Year 2005, source: District Department of Industry, Trade & Cooperative 3 All numbers BPS, The World Bank, calculated using 1993 GDP deflator.

Figure 1: Serang District and surrounding area

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The rise of manufacturing in China has also negatively impacted industries located in Serang District, particularly firms producing electronics.

Table 1: Serang Real RGDP 1987-2002

IDR 1,000,000,000

IDR 2,000,000,000

IDR 3,000,000,000

IDR 4,000,000,000

IDR 5,000,000,000

IDR 6,000,000,000

1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002

Educational levels in the District remain lower than the provincial and national average, with mean years of schooling at 6.8 years, compared to a provincial average of 7.9 years, and national average of 7.1 years. This trend has created a large surplus of low skilled, poorly educated workers in the District, particularly in east Serang. In 2003, only 30% of Serang’s labor force had completed schooling beyond the primary level.4 Though Serang is by no means the worst district in Banten for educational attainment, it is closer to very poor districts in Banten rather than to two better off urban/semi-urban districts, Tangerang and Cilegon.

Table 2: Education and Employment, 20025 Municipality/ District

% of Education Expenditure from Total Expenditure

Mean Years of Schooling

Employment in the Informal Sector (%)

Open Unemployment (%)

City of Tangerang 23.39% 10.1 25.7 11.7 City of Cilegon 19.24% 9.6 42.6 18.4 Tangerang District 31.40% 8.6 34.5 11.7 Serang District 42.62% 6.8 66.6 13.7 Pandeglang District 48.54% 5.9 80.5 12.7 Rangkasbitung District 48.88% 5.3 81.1 14.1 Banten Province 7.9 51.1 12.7 Indonesia 35.53% 7.1 64.1 10.6 Source: Indonesia Human Development Report 2004. As seen in Table 2, the open unemployment rate was 13.7%, higher than both the provincial rate of 12.7% and the national rate of 10.6%. Almost 67% of Serang District’s labor force worked in the informal sector.

The official poverty rate is 9.11%, slightly higher than the provincial average of 8.54%.6

4 Serang in Figures, BPS 2003 5 Source: Kabupaten Financial Information System for Government Expenditure on Education and Statistics Bureau. 6 BPS 2004


Local Actors Local government departments significant to labor issues in Serang include the Department of Manpower, the Department of Industry, Trade, and Cooperatives, the Coordinating Board for Local Investment, and the Economic Development Section.

The two largest trade confederations in Indonesia are active in Serang, they are KSBSI and KSPSI7. KSBSI represents 6.8% of workers in the District or 5000 workers. KSPSI represents 10,000 workers or 13.6% workers in Serang.

SPN or National Trade Union is a local trade union and represents the greatest number of workers in the Serang, 24,500 workers or 33% of workers.

The two main business associations are APINDO (the Indonesian Association of Employers) and KADINDA (the local level of the Indonesian Chamber of Commerce). 8

METHODOLOGY Twenty-nine semi-structured interviews were conducted involving representatives from local government, business associations, trade unions, workers, as well as a range of managers and owners from small, medium and large enterprises. Businesses and workers were selected to ensure a spread across industry and enterprise scale. Nine interviews with business representatives were conducted at four industrial areas, Modern Cikande, Pancatama, Nikomas Gemilang and Bojonegara. (See Appendix 4 for interview list)

A Focus Group Discussion (FGD) with business representatives was held on September 8, 2005. Another FGD was conducted with KSBSI, the trade confederation, on September 1, 2005. Two interviews with the business associations were conducted. Nine interviews were conducted with workers involving nineteen permanent and contract workers from various industries including footwear, garment, furniture, and plastic industries. Workers were interviewed at their residences.

Issues Investigated 1. How and to what extent has the national labor law, Manpower Act 13/2003, affected the

investment climate? 2. How and to what extent have local regulation 13/2003 and the minimum wage

regulation affected the investment climate? 3. How do informal labor practices operate and to what extent are they a burden on firms

and workers?

How and to what extent has the national labor law, Manpower Act 13/2003, affected the investment climate?

Manpower Act 13/2003 is Indonesia’s major law governing labor and job creation. It addresses workers’ basic rights including the right to strike, health and safety in the workplace, wage protection, and severance payments. Manpower Act 13/2003 cannot be seen in isolation but as part of a longer trend that has severance rates 200% since 1986.9 Long-term workers have benefited most with an 50% increase in severance payment since 2000. 2003 is the latest increase, with workers employed more than 10 years receiving a 22% increase. Rates for workers

7 Konfederasi Serikat Buruh Sejahtera Indonesia or Confederation of Indonesian Prosperous Trade Unions. Konfederasi Serikat Pekerja Seluruh Indonesia or Confederation of All Indonesia Trade Unions. 8 Asosiasi Pengusaha Indonesia and Kamar Dagang dan Industri Daerah 9 Alisjahbana, pg. 38.

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employed fewer than 5 years remained constant. (See Appendix 1 for comparative table on severance payment rates).

A study of Indonesia’s severance costs placed it third among thirty-six countries studied and at the top of Asian countries.10 (See Appendix 2 for a complete chart of thirty-six countries surveyed)

The study framed 2003 severance costs as equal to a hiring tax of 4.1 months wages per employee or 34 percent of a worker’s annual wage.

Table 3: Severance & long service pay for lay-offs and plant closings

0

5

10

15

20

25

30

1 year 3 years 5 years 10 years 20 years MaximumYears of Service

1986 1996 2000 2003 Source: Indonesia’s Employment Protection Legislation: Swimming Against the Tide? LP3E FE UNPAD–GIAT USAID.

Despite these regulations, business owners and trade confederations confirmed that many enterprises in Serang District rarely fulfill legal severance obligations. Small and medium businesses as well as large labor-intensive firms stated that they negotiated lower rates with workers or simply paid less. One respondent, the owner of a medium sized food-processing enterprise, was unaware of the severance pay stipulations, as were many of the workers. The trade confederations KSPSI and KSBSI stated that in the event of plant closure or down-sizing agreements are often reached through tripartite bargaining rounds. Workers receive severance pay but far less than the national labor law requires, with payments averaging between one and two months salary. Local government representatives and even the local labor union referred to the severance package aspect of the law as “unrealistic”.

The burden of paying high severance has lead businesses to dismiss workers citing ‘major offence’ to absolve them from paying the required severance. As the head of the Serang Department for Manpower stated, there is no real recourse for workers because the legal system hinders fair consideration of dismissals.

10 Indonesia’s Employment Protection Legislation: Swimming Against the Tide? LP3E FE UNPAD–GIAT USAID 29 November 2004.


Manpower Act 13/2003 is intended to protect the rights of fixed-term or contract workers by setting limits to short-term labor contract. The law is designed to promote the transition of short-term workers into the permanent workforce of a company. Manpower Act 13/2003 sets a maximum contract length of two years, with possibility of extending for one year, after a grace period of 30 days. Despite the compromises on severance payments mentioned above as well as general non-compliance to the law, many businesses have chosen to decrease their permanent workforce in favor of increasing short-term contract workers and outsourcing.

While contract workers were certainly used before Manpower Act 13/2003, since the law’s passage the use of contract workers and outsourcing has increased. One large Japanese manufacturing firm stated that their use of contract workers increased 70% in 2004. Many enterprise respondents said that their hiring practices had shifted, ranging from limiting the number of permanent workers hired to not hiring new permanent workers altogether.

Clearly enterprises with fluctuating orders benefit from restructuring around a temporary workforce as it enables them to hire workers according to production requirements and avoid paying high severance payments. One fish and animal feed enterprise estimates that 20%-30% of its workforce is contract labor. This firm was negatively affected by the avian flu outbreak but has been able to respond to decreasing orders by reducing its temporary workforce.

Other enterprises stated that the restrictions on contract extensions were burdensome, particularly the 30-day grace period required between completion of one short-term contract and the start of the next. There is little evidence that Manpower Act 13/2003 has achieved its goal of moving contract workers into permanent staff after the 2-3 year short-contract period. Firms

“…We have 45 contract workers or 34% of our workforce… sometimes we increase the number of contract workers up to 88 workers. With this contract system we can easily manage our workforce based on orders.”

Table 4: Comparative severance rates in monthly wages across Asia*

0

1

2

3

4

5

6

7

8

9

10

* For a worker with 4 years dismissed for economic reasons Note: Only severance rates included. Excludes long service pay plus 15 percent compensation for Indonesia. Source: Indonesia’s Employment Protection Legislation: Swimming Against the Tide? LP3E FE UNPAD–GIAT USAID.

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often re-contract workers without heeding the 30-day grace period or the maximum two or three-year contract limit. One entrepreneur justified this by saying the requirement burdens workers who must go without pay during the grace period. Another large enterprise respondent stated an additional reason for not re-hiring workers on permanent contracts is that the workers become “lazy and unreliable”. In Serang the large pool of low-skilled job-seekers and their willingness to take any kind of job encourages the proliferation of short-term contract labor and outsourcing.

Manpower Act 13/2003 recognized firms’ rights to outsource ‘non-core’ business activities. What constitutes ‘non-core’ business activity, however, remains open to interpretation without an additional implementation regulation from the Department of Manpower. Manpower Act 12/2003 states that some examples of non-core activities are cleaning, catering services, and security, but businesses have asserted that different industries can classify a range of activities as non-core. Two respondents from large overseas enterprises sought clarification from the national government but have yet to receive a definitive answer.

Outsourcing and contracting are extremely contentious issues for the trade confederations and the trade union. Despite legal requirements, contract and outsourcing workers do not enjoy the same rights as their permanent counterparts. As a representative of KSBSI noted, enterprises are not responsible for working conditions at an outsourcing company. Outsourcing workers are less likely to be covered by Jamsostek11 or to be paid minimum wage. As illustration, a plastic manufacturer pays contract workers IDR 18,000/day or IDR 432,000/month, while the minimum wage in Serang District is set at IDR 690,000/month for 2005. Again, the discrepancy between legal requirements and practical application reflects the high level of unemployment in Serand District; many job-seekers are grateful for any work, even if it is on a short-term contract and does not meet basic legal requirements such as the minimum wage and health insurance.

How and to what extent have local regulation 13/2003 and the minimum wage regulation affected the investment climate?

Local regulation No. 13/2003, not to be confused with Manpower 13/2003, on the Provision of Facilities for Private Sector Workers and After-Work Accident Insurance requires businesses to provide after-work accident insurance for workers along with workplace facilities, such as canteens, prayer, and sports facilities. (See Appendix 4) The local regulation was drafted over a two-month period without significant input from stakeholders. Stakeholders became involved after the regulation’s passage, when the Serang District government invited stakeholders to socialize the new law in the community.

Table 5: Required Facilities under Serang Kabupaten Regulation No. 13/2003 on Provision of Facilities for Private Sector Workers and After-work Accident Insurance

No Facility Large Firm Medium Firm Small Firm 1 Health supporting facility √ √ √ 2 Praying facility √ √ √ 3 Sport facility √ √ √ 4 Transportation facility* √ √ 5 Canteen facility √ 6 Work uniform √ 7 Recreation facility √ 8 Cooperative facility √ √ 9 After-Work accident insurance √ √ √ Source: Bupati Office, Serang: Bupati Decree No. 5/2004 Large Firm: ≥ 100 workers or < 100 workers but spend ≥ Rp65 millions/month for workers’ salaries Medium Firm: 20–99 workers or < 20 workers but spend ≥ Rp13 millions/month for workers’ salaries Small Firm: 5–19 workers or < 5 workers but spend ≥ Rp3.25 million/month for workers’ salaries * Transportation facility refers to a shuttle bus for female workers on the night shift 11.00 p.m. - 05.00 a.m.

11 Obligatory national social security program for worker at formal sector including cover for workplace accidents, with a majority contribution form the employer (Jaminan Sosial Tenaga Kerja = Workers’ Social Insurance)


While the enterprises and workers are the key stakeholders to labor regulations, enterprises stated that they have never been involved or invited to participate in the formulation of the regulation, despite government claims to the contrary. One representative of large enterprise said that he was invited to a socialization meeting for the local regulation in early 2005, long after the law’s passage.

Labor unions and labor confederations were unevenly contacted to participate in preparing the local regulation. Indonesia’s largest labor confederation, KSBSI, was invited to provide input but failed to work with the government. KSBSI felt the government’s afterwork health insurance scheme was unrealistic given current economic conditions. KSPSI was invited to provide input on the local regulation’s design, but they were surprised that the final version of the local regulation was different with the one discussed—unions had asked for a housing and transportation allowances for workers, not the provision of sport facilities and after-work accident insurance. Representatives from SPN, the local labor union that represents the largest percent of Serang’s work force (33%), were not invited to participate in drafting the local regulation and were stunned when they were invited to a socialization meeting. SPN stated that the local local regulation was a political ploy to curry favor with workers; its articles were unrealistic and did not properly target worker welfare. Furthermore, SPN stated the local regulation would never be properly monitored or enforced. The union and confederations stated they still have not seen a full copy of the local regulation and its implementing regulations, despite numerous requests to local government.

Socialization and enforcement of the new law is uneven at best. Though it was enacted more than two years ago, many firms remain ignorant of the law’s existence. While most large businesses knew at least some aspects of the regulation, most small and medium enterprises were unaware of the requirements. Those familiar with the regulation felt that it was impossible to provide all the facilities listed in the law and, when combined with the taxes they pay other local government agencies, that the provisions constituted a burden on business. Managers of large enterprises stated that the local government carried out monitoring every six months. Given that many firms’ lack awareness of the law, monitoring and enforcement of local regulation No.13/2003 remains highly selective. Even those who knew about the law, were unclear about the provisions. Most respondents from larger enterprises stated that they already provided facilities beyond the legal requirements when in fact most fell far short of the requirements.

Lack of enforcement means local regulation No.13/2003 has had minimal impact on enterprises in Serang, with the notable exception of a large foreign-owned footwear manufacturer who has been singled out by local manpower officials. (see text box) Enterprises and the business association, APINDO, emphasized that rigorous enforcement of the law regarding the provision of workplace facilities will burden firms, especially small and medium enterprises.

Another significant aspect of the regulation, the after-work accident insurance scheme, has not been implemented according to enterprise respondents, again with most small and medium enterprises unaware of the requirement. The plan obligates all employers to pay 0.24% of each employee’s salaries for after-work accident insurance. 75% goes to the insurance provider with 25% going to the local government’s general budget. The insurance provider was appointed by decree from Serang District’s Regent. Firms think provision of insurance for workers at work is sufficient and many wondered what would become of premium payments and what benefits, if any, workers would receive. The workers also strongly

doubted they would ever see benefits from this scheme. With one-fourth of the premium collected going to local government’s budget, the main intention of the legislation seems to have been an increase in own-source revenue (PAD), though the Head of the District Manpower office

The Notable Exception: Nikomas

Nikomas is largest footwear manufacturer and the largest employer in Serang with over 31,000 employees; It was requested by local Department of Manpower officials to pay the 0.24% insurance premium. Nikomas in turn wrote to the national Department of Manpower asking for clarification. The case is still in process. Assuming that all employees at the company are paid at the minimum wage, the total annual cost of after-work health premiums would reach US$ 61,000.

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stated, without being asked, that this was not their intention. When talking with the Serang Manpower office the primary focus of the local regulation seems to have been the after-work health insurance; the office claimed they were trying to raise the work ethic of local employees with 24-hour coverage and good facilities at the workplace.

According to the law, if an enterprise is found to be flouting the law then a grace period of six months is given for them to meet their legal requirements. Again, without enforcement, the law’s impact on profitability and growth has been negligible thus far but the lack of legal certainty has businesses concerned: a lack of meaningful enforcement could encourage rent-seeking by local officials, particularly from the larger and more profitable enterprises.

Minimum Wage In the era of regional autonomy, authority to set the minimum wage has been transferred to governors, mayors, and regents using a framework stipulated by the national government. Each province and district has a wage council consisting of worker representatives or unions, employers, and the local government, who then sets the minimum wage after a cost of living survey. A province-wide minimum wage is set, after which districts then set their own minimum wage at the provincial standard or higher. The minimum wage increases each year in line with inflation. In Serang, the 2005 minimum wage is IDR 690,000, one of the highest rates in Indonesia, but in line with Banten Province minimum wages as a whole. According to the head of the Regional Investment Coordinating Board, the minimum wage is not a determining factor for enterprises seeking to invest in Serang.

Table 6: Minimum Wage Rates in Banten Province, by District

Year Province of Banten

Tangerang District

City of Cilegon

Serang District

Pandeglang District

Rangkasbitung District

Average

2002 360,000 590,000 575,000 538,741 360,000 360,000 481,963 2003 475,000 628,675 635,000 605,506 480,000 475,000 561,122 2004 515,000 660,000 673,000 650,000 515,000 550,000 603,286 2005 585,000 693,500 713,000 690,000 600,000 585,000 651,429 Source: Department of Manpower

Several enterprises, unions, and the business association APINDO stated that the local manpower office monitors implementation of the minimum wage every six months through an institutionalized tripartite system involving unions and enterprises. An enterprise can propose a postponement to wage increases to the District Manpower Office. If the office’s assessment finds that the enterprise is able to pay the minimum wage, it can impose sanctions. In practice, the Manpower Office has never issued sanctions and many workers continue to be paid at below the minimum.

Reactions to the minimum wage are mixed: most large and foreign-owned enterprises claim they pay their workers at or above minimum wage but many locally-owned or small and medium-sized firms did not. In general, the minimum wage is paid by large firms because they are more likely to be targeted for enforcement and their workers are more productive. Five large foreign-owned enterprises and one medium furniture enterprise stated the minimum wage does not constitute an important cost burden for them. Other respondents, one small, two medium and three large labor intensive-industries, felt wage increases could outpace productivity gains, thus creating a significant cost burden in the future. A representative from one large enterprise stated that their outlay for wages on average constituted approximately 33% of the firm’s operational cost. One industrial area manager claimed the minimum wage is only a burden for electronic companies who are facing increased competition from China, where wages are lower. Another respondent from a large labor-intensive industry stated that the planned 30% increase in the 2006 minimum wage would cause him lay off workers.


Many small and medium sized firms as well as several large Indonesian-owned enterprises pay some or all of their workers below the minimum wage. A medium sized garment enterprise interviewed pays its workers IDR 10,000 up to IDR 25,000 per day, depending on the quality of the garments produced, thus these workers can earn from 240,000 to 600,000/month.

Table 7: Wage Rates in Banten and Indonesia

Banten National Less than IDR200,000 72,899 3,347,087 200,000-399,999 114,536 6,584,640 400,000-599,999 183,298 6,352,879 600,000-799,999 423,153 6,278,635 800,000-999,999 295,505 3,571,426 1,000,000-1,499,999 227,050 4,266,918 1,500,000-1,999,999 114,431 2,112,070 Above 2,000,000 73,396 1,128,658 Total 1,504,268 33,642,313 Minimum Wage in 2004 515,000 461,692 Workers below MW (percent) 12.5 29.5

Contract workers at larger enterprises are paid below minimum wage. One worker at a large plastics manufacturer is paid IDR 18,000 per day or IDR 432,000 per month for his contract work.12 Contract workers are less likely to be union members and are willing to accept jobs at below minimum wage or are unaware of the minimum wage rate altogether. According to a representative of KADINDA, the business association, many workers’ lack of education and access to information contributed to their lack of awareness of the minimum wage. The workers who are the members of a union typically know the minimum wage and employers pay them the amount stipulated by law.

The minimum wage regulation has now become the default standard industrial wage. Some workers, especially the members of unions, believe that their employers can give them higher wages than they receive while the enterprises instead use the system as the minimum standard for paying the workers. Some firms suggested that wage determination should be between employer and employee. This is in line with the original objective of the stipulation of minimum wage—to protect the most vulnerable workers.

Overall, both locally and foreign-owned enterprises emphasized that the minimum wage policy has reduced Indonesia’s international competitiveness, especially compared to other Asian countries in the region such as Vietnam and China that have lower wage but higher productivity.13 One foreign-owned automotive manufacturer noted that in 2005 in comparison to Serang, wages in China were 40% lower yet productivity was substantially higher. Previous studies found that for every 10% increase in the real minimum wage, the total formal employment in urban areas decreases 1%.14

12 Assumption: working day in a month is 24 days (6 days a week) 13 In January 2003, the Minimum Wage (MW) in Hanoi, Vietnam was only US$19 per month for domestic firms and US$40 for FDI firms (US Department of State, Bureau of Democracy, Country Report on Human Rights Practices 2003) while in major cities in Indonesia like Jakarta, Tangerang and Bekasi were around US$73 for all formal sector; Serang Kabupaten was around US$71 (US$1 ~ Rp8,500) 14 Wage and Employment Effects of Minimum Wage Policy in the Indonesian Urban Labor Market, SMERU Research Report with support from USAID/PEG, October 2001

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How do informal labor practices operate and to what extent are they a burden on firms and workers?

Informal recruitment practices in Serang District can broadly be divided into two categories: pressure from local communities to employ locals and payments to third parties to secure employment. Premanism was widespread in Serang, to the point the police were forced to launch a targeted action in April 2005.

The practice of paying a third party to secure a job is widespread. This can involve someone from within the firm ‘unofficially’ seeking rent from job seekers and can also involve a local community leader. Job seekers are subject to considerable charges, given the low salaries offered for unskilled workers. One new employee at the District ’s largest employer stated she paid the equivalent of well over a month’s salary, IDR 900,000, to an agent for a minimum wage job. This was echoed by many other workers at the same company, though they had paid less, IDR 500,000, to secure their jobs. Workers at a variety of industries stated they paid agents to secure their jobs. Union confederations and SPN confirmed that this practice was prevalent in all Serang’s industries. This practice affects all workers, locals and migrants seeking work at foreign and Indonesian-owned firms. The practice of paying agents to secure jobs developed alongside Serang’s industrial development but the fees have increased significantly in recent years. Firms know of the practice but it often represents a compromise between the company and local elites who are acting as agents for workers. Companies interviewed had no objection to the

practice of paying agents as long as workers met employers’ requirements. However, oftentimes laborers do not meet specified requirements and the company comes into conflict with the working poor and the elite/agents in the local community.

Industrial development has brought with it a sense of entitlement to jobs among local residents. Serang’s large number of unemployed and low skilled workers exact considerable pressure on enterprises to provide them with jobs. While most firms feel this pressure, it is felt most acutely at larger firms that require a proportion of skilled workers. Many enterprises stated a preference to employ workers who are not originally from Serang, whose skill and educational levels are generally much higher. Recognizing that good relations with local communities are important, many larger firms have developed mechanisms to cope with demands for employment without compromising product quality and worker safety. An enterprise may employ low-skilled local workers for menial tasks with jobs requiring higher skill-levels being filled by people from outside the District.

While direct threats against an enterprise are not common, there have been cases of violence in the past (see text box). The compromise mentioned above is not always sufficient as local residents will demand access to higher paying jobs for which they are not qualified. Businesses will often provide a certain number of jobs are to community members to maintain relations. No enterprise admitted to directly ‘paying off’ the local community. As one respondent from a large foreign firm noted initial payments to a local community, often led to demands for larger and larger sums. One firm employs high security to operate outside the factory to make sure that issues with the local communities are contained.

Premanism

Preman or jawara (local term) are small-time gangsters who make their living extorting money from businesses, including direct demands for money accompanied with threats to either people or property. Preman may demand an enterprise use certain services, like waste disposal. Preman loiter outside firms and note any new employees arriving for work and then ‘charge’ the firm for hiring new workers. One firm has hired military and civilian security, which adds to operational costs. However, several respondents noted that since April 2005 the Kabupaten police have launched an operation to combat premanism by rounding up suspects, which seems to have reduced the problem for the moment.


These informal practices are prevalent across Serang and nearly all enterprise respondents reported this as a burden for their enterprise. It interferes with recruitment, forces enterprises to employ unqualified workers, and unnecessarily increases the number of employees.

CONCLUSIONS Serang District has exceptional infrastructure in the form of the toll road, industrial ports, and is strategically located to attract investment. Unfortunately, the opportunities made available through infrastructure are constrained by limited quality of its human resources, a confusing regulatory environment, and disruptive informal labor practices.

In Serang, Manpower Act 13/2003 has created an emerging "labor aristocracy" of formal sector workers whose numbers are stagnant or even declining. High severance costs have lead to increased outsourcing and fewer new permanent jobs. Most new jobs are in the informal sector or on contract terms thus leaving most workers having with few or no safeguards whatsoever. Changes are being considered in a revision of Manpower Act 13/2003. In the current draft, however, does not significantly severance payments: under the old law workers with eight years experience received nine times their monthly wage, under the new law workers with six year experience will receive seven times their monthly wage. For employees with twenty-five years experience will receive six rather than ten months severance. Perhaps most significantly, the new law allows companies to outsource some or all of their core business activities.

Regarding local regulations, decentralization and democratization have empowered new groups and created new pressures and incentives regarding labor legislation. Labor unions and citizens all have powerful incentives to lobby for higher wages and greater worker protections. With the advent of direct local elections politicians have increased incentive to pass what they perceive to be pro-labor laws thus appealing to constituents. To be effective, all stakeholders should be active in drafting local labor laws—government, businesses, and labor unions or worker representatives. Labor laws ultimately are best drafted and passed at the national level not only to create a more stabile and predictable regulatory environment for businesses but to protect workers as laws drafted at the national level are more likely to be respected and implemented by businesses.

While lawmakers have incentive to pass legislation in Serang, there are few, if any, incentives for them to enforce their own labor regulations. Without enforcement, few enterprises are motivated to observe local labor laws. Lack of uniform enforcement can exacerbate rent-seeking behavior. In Serang, lack of enforcement has had one positive effect: if the local regulation was enforced, more businesses would close or move outside the district.

By and large, the minimum wage does not bind for medium and large businesses. Evidence gathered in Serang suggests that for small businesses the minimum wage can bind, hence the lack of implementation by small enterprises. The current proposed revision will change how the minimum wage is calculated; emphasizing the minimum wage as a safety net and considering the financial conditions of small-scale enterprises. This may allow small businesses and employees to negotiate a mutually acceptable level.

Informal labor practices are not addressed in the Manpower law revision. These informal labor practices constitute a burden for businesses by creating unpredictability in relations with local communities. When workers obtain positions due to payments rather than their qualifications, businesses can be adversely affected with less qualified workers who may produce a lower quality product. This is not to mention that workers are deeply burdened by these payments and then beholden to informal labor agents. Foreign direct investment is most susceptible to local demands for work and will be adversely affected should a dispute garner national or international shareholder attention.

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APPENDIX 1: CHANGES IN SEVERANCE AND LONG SERVICE PAY 1996-2003 Rates of

severance* (months of salary)

Voluntary Departure

Dismissals

Economic Reasons** Minor Offences Major Offences 1996 2000 2003 1996 2000 2003 1996 2000 2003 1996 2000 2003 1996 2000 2003 Severance pay <1 year service 1 1 1 0 0 0 2 2 2 1 1 1 0 0 0 3 years service 4 4 4 0 0 0 8 8 8 4 4 4 0 0 0 5 years service 5 6 6 0 0 0 10 12 12 5 6 6 0 0 0 10 years service 5 7 9 0 0 0 10 14 18 5 7 9 0 0 0 20 years service 5 7 9 0 0 0 10 14 18 5 7 9 0 0 0 Maximum 5 7 9 0 0 0 10 14 18 5 7 9 0 0 0 Long service pay <1 year service 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 3 years service 0 0 2 0 2 0 0 2 2 0 2 2 0 2 0 5 years service 2 2 2 0 2 0 2 2 2 2 2 2 2 2 0 10 years service 2 2 4 0 4 0 2 4 4 2 4 4 2 4 0 20 years service 5 5 7 0 7 0 5 7 7 5 7 7 5 7 0 Maximum 6 6 10 0 10 0 10 10 10 6 10 10 6 10 0 Total severance < 1 year service 0 0 0 2 2 2 1 1 1 0 0 0 3 years service 0 2 0 8 10 10 4 6 6 0 2 0 5 years service 0 2 0 12 14 14 7 8 8 2 2 0 10 years service 0 4 0 12 18 22 7 11 13 2 4 0 20 years service 0 7 0 15 21 25 10 14 16 5 7 0 Maximum 0 10 0 20 24 28 11 17 19 6 10 0 * Selected years of service only shown. Compensation changes for each year of service up to 5-6 years (severance) and up to 24 years for long service. ** For dismissals due to efficiency increases or changes in the ownership of the firm, the employee receives double the severance rate for their years of service. For dismissals due to bankruptcy or force majeure employees who are laid off are receive the standard the severance pay rate. Source: Based Ministry of Manpower, Indonesian Labor Laws and Regulations, 1950-2001 and new Labor Protection Law No. 13/2003


APPENDIX 2: SEVERANCE PAYMENTS AS TAX ON MONTHLY WAGES

Note: * Excludes figures for Indonesia Source: Heckman and Pages (2000) for all Latin American, Caribbean and OECD countries. Hiring tax for these countries estimated in 1999. Author’s computation for Indonesia

Country Tax in monthly wages Tax as percent of annual wages Rank Bolivia 4.756 39.6 1 Portugal 4.166 34.7 2 Indonesia (2003) 4.09 34.1 3 Ecuador 4.035 33.6 4 Turkey 3.973 33.1 5 Peru 3.796 31.6 6 Honduras 3.53 29.4 7 Colombia 3.493 29.1 8 Indonesia (2000 to 2002) 3.420 28.5 (8) Chile 3.380 28.2 9 Spain 3.156 26.3 10 El Salvador 3.134 26.1 11 Mexico 3.126 26.1 12 Costa Rica 3.121 26 13 Indonesia (1998 and 1999) 3.041 25.3 (13) Argentina 2.977 24.8 14 Venezuela 2.955 24.6 15 Dominican Republic 2.814 23.5 16 Panama 2.718 22.7 17 Nicaragua 2.563 21.4 18 Trinidad & Tobago 2.548 21.2 19 Indonesia (average 1996/97) 2.502 20.8 (19) Uruguay 2.232 18.6 20 Paraguay 2.168 18.1 21 Jamaica 1.920 16.0 22 Guyana 1.890 15.8 23 Greece 1.804 15.0 24 Brazil 1.785 14.9 25 Austria 1.784 14.9 26 Belgium 1.729 14.4 27 United Kingdom 1.451 12.1 28 Switzerland 1.247 10.4 29 Poland 1.219 10.2 30 France 1.143 9.5 31 Germany 1.140 9.5 32 Norway 0.912 7.6 33 Canada 0.553 4.6 34 Australia 0.443 3.7 35 New Zealand 0.221 1.8 36 United States 0 0 37 Simple average all countries* 2.4 19.8

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APPENDIX 3: NOTES ON SEVERANCE PAYMENTS15

In 1996, Ministerial Decree No. 3 1996, rates of severance and long service pay were increased significantly (over 50 percent) for dismissals for economic cause and minor offences, and the coverage of long service pay was extended to workers who committed major offences.

Four years later, the Ministerial Decision No. 150, 2000 (Kepmen 150) raised rates of severance further for workers with 10 or more years of service, and granted long service pay to all workers who left their jobs voluntarily. A 15 percent gratuity of all severance and long service leave was also granted to workers, including those that were dismissed for minor offenses.

The Basic Manpower Act No. 13, 2003 further increased rates of severance for workers with longer years of service over and above that granted in Kepmen 150. But partly as compensation to employers, the Act withdrew the legal rights to severance payments, for workers who quit or were dismissed for major offenses. Instead the new law mandates a ‘separation payment’ or ‘uang pisah’, which is some payment in cash or kind determined by the parties involved.

The new law compromises on some of the controversial elements of severance entitlements granted under Kepmen 150/2000 and previous Ministerial rulings. In particular, the law does not mandate employers to pay severance or long service pay, at rates prescribed in the new law, to workers who voluntarily quit or who are fired for a major offense, as defined in the law such as stealing or violent behavior in the work place. The new law provides one exception - a worker who voluntarily quits because of a change in the status of the firm (change in ownership or merger) is entitled to both severance and long service pay. Rather the law requires employers to make "separation" payments to these workers with the value of the payment determined though the collective bargaining process.

15 Indonesia Employment Protection Legislation: Swimming Against the Tide, LP3E – FE UNPAD – GIAT USAID report, November 29, 2004.


APPENDIX 4: INTERVIEWS No Institution Name 1 Dinas Tenaga Kerja

Kabupaten Serang Sudirman Zaini (Kepala Disnaker) Widodo (Kepala Penempatan & Perluasan TK)

2 BKPMD

Ir. Muhadi, MSP (Head of BKPMD) Engkos Kosasih (Kabid Pembinaan & Pengendalian BKPMD)

3 Disperindagkop

Endang Rahmat (Kepala Dinas) Maman Hendarman (Kasubdin Perindustrian)

4 Bappeda (We only got data, not interview with them)

Bidang Data dan Sosial Budaya

5 Pemerintah Daerah Kabupaten Serang Panji Tirtayana (ASDA II) 6 KADIN Kabupaten Serang

H. Lukman (Komite Hukum & Ketenagakerjaan) Didi Supriadi (Ketua Harian Kadin) Djaelani (Secretariat) Zainal (Secretariat)

7 APINDO Kabupaten Serang Mustofa (Chairman) Yos Sudarso Junus (Secretary)

8 KSPSI Asep (Chairman of DPC KSPSI Kabupaten Serang) 9 KSBSI Effendi Lubis (Korwil Banten of DPD KSBSI)

Sumantri (DPC KSBSI F GARTEKS) 10 PT TOMOE Machinery Titi (HRD Manager) 11 PT Lung Cheong Brothers Industrial H. Mustofa (Admin Manager) 12 PT Sanex Qianjiang Motor Chris (Manager) 13 PT. Polychem Lindo Adang Ismail (Deputy Plant Manager) 14 PT. Cabot Indonesia Waspada Marbun (Director and Administration Manager) 15 Batik Banten Uke Kurniawan (Owner) 16 CV. Dina Lestari Dindin (Owner) 17 PT Han Jin Indonesia Jaya Gultom 18 Austrindo Jaya Abadi 19

PD Putra Jaya Food Industries Erwin Taswin (Owner) Husen (Factory Manager)

20 PT. Yasunaga Indonesia Iin (HRD Staf) 21 PT Nikomas Gemilang Bruce Shieh (Director),

Greta Wu (Compliance Manager) 22 PD Gunung Gede BM Sirait (Director) 23 Bardesi Shoes, Home Industry

(Household industry) Badru (Owner)

24 PT. Puncak Ardimulia (Management of Kawasan Industri Modern Cikande)

Tonny Hadhiwalujo (Director)

25 HIPWIS PT Colorindo Aneka Chemicals

B. Halomoan (Manager)

26 PT Indah Kiat Paper & Pulp Heppy Moiras (Director) 27 Hotel Mahadria Hani (Marketing) 28 PT Wonokoyo Jayakusuma M.Gunawan Wibisono (Human Resources) 29 CV Avin Tassa Abadi

(Bag industry) H. Rohman (Director)

30 PT. Cilegon Fabricators Abdul Muhiy (HRD Officer) 31 PT Lucky Jati Yogi Sutrisno (Director) 32 DPD REI Banten S.Sofyan (Executive Secretary) 33 PT Gemah Ripah Asri Arum Hidayat (Manager) 34 CV Titipan Kilat Mulyadi AM (Operations Manager)

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BIBLIOGRAPHY Alishjahbana, A, ed. 2004. Indonesia’s Employment Protection Legislation: Swimming Against the

Tide? GIAT USAID report.

Alishjahbana, A. and Manning, C. 2006 (forthcoming) “Employment, Labor Standards & Flexibility: Getting the Balance Right.”

Manning, C. 2003. Labor Policy and Employment Creation: An Emerging Crisis? Partnership of Economic Growth-USAID, Report No.110, Jakarta, (see http://www.pegasus.or.id/public.html).

Manning, C. 2004. “Labour Regulation and the Business Environment: Time to Take Stock” in Business in Indonesia: Old Problems and New Challenges, M. Chatib Basri and P. van der Eng, eds. Institute of South East Asian Studies, Singapore.

Labor Market Analysis. 2003. Employment Friendly Labor Policies, Executive Summary, Directorate of Manpower and Economic Analysis, National Development Planning Agency (BAPPENAS).

BPS, Bappenas and UNDP. 2004. Indonesia Human Development Report 2004: The Economics of Democracy, Financing Human Development in Indonesia, Published Jointly by BPS-Statistics Indonesia, Bappenas and UNDP Indonesia.

Smeru. 2001. Wage and Employment Effects of Minimum Wage Policy in the Indonesian Urban Labor Market. SMERU Research Report with support rom USAID/PEG.

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