Bill Guerin – The Indonesian government raised fuel prices, electricity rates, and telephone charges at the start of the year in an effort to slash expensive subsidies and help ailing state-owned utilities.

However, these measures would have hit businesses hard and a stimulus package of tax breaks quickly followed. Twenty categories of products, including televisions, mobile phones, food and beverages, are no longer considered luxury items.

Cellular phones, TVs up to 21 inches, washing machines, refrigerators, low-output air conditioners, low-end videocassette recorders (VCRs), video compact disc (VCD), digital video disc (DVD) and audio players, low-end cameras and a range of other items will have the luxury tax removed altogether. Tax is being reduced on higher-end VCRs, VCD, DVD and radio/cassette players, high-end cameras and larger TVs, washing machines and air conditioners.

The measures will help reduce the cost of the products, enable manufacturers to compete against cheaper smuggled products and help increase domestic demand. The package will cost the government about Rp6 trillion (US$660 million) in lost tax revenue.

From 1990-95, Indonesia was up among the top-ranked Southeast Asian countries targeted by the world's largest electronics manufacturers. Major producers, mainly from Japan and South Korea, relocated their factories to Indonesia, but a dearth of investment since then has taken a heavy toll on the electronics sector.

Foreign manufacturers still dominate the national electronics industry and make up 90 percent of the total of Indonesia's electronic goods manufacturers, but tax incentives are non-existent. There are no tax incentives or even tax holidays to encourage global electronics producers to set up new Indonesian manufacturing plants for electronic components, consumer and industrial electronics.

New investment is badly needed to anticipate increasing demand for electronic products but despite the massive pool of cheap labor and the attraction of the biggest domestic market in Southeast Asia, manufacturers have steadily moved to neighboring countries such as Malaysia, Vietnam and China because of the unfavorable tax policies in Indonesia.

The high levels of the so called "luxury tax" on imports encouraged smuggling and boosted demand for products with lower prices as the prices of legally imported electronic products became more expensive, which in turn limited market demand.

Electronics giant Sony Corp toward the end of last year shelved its investment plans because of weakening sales, lingering labor conflicts and security problems, sparking genuine fears that only low-end electronic products will be manufactured in Indonesia. The Sony move caused the loss of about 1,000 jobs but the electronics sector employs an estimated 1.19 million, dwarfing the footwear industry's 389,000 and the 250,000 jobs provided by the textile sector. Indonesia's main claim to fame is that it currently produces 50 percent of the VCRs sold in the global marketplace, though the shadow of obsolescence looms as demand moves to digital-based products.

Sony relocated its audio plant to neighboring Malaysia, whose electronics industry, though still largely concentrated at the lower end of the assembly and packaging of semiconductor components and consumer electronic goods, is decidedly export-oriented.

Electrical and electronics products account for more than half of Malaysia's total exports and the country's biggest export product is semiconductor devices used in a diverse range of industries, such as automotive and telecommunications.

Malaysia's Multimedia Super Corridor project has fueled a move toward a stronger technology focus within the sector and the country is likely to benefit from high-tech electronic manufacturing plants, which might, in better circumstances, have been built in Indonesia (see Malaysia's dream of being an IT powerhouse

Conversely, many Singaporean electronics manufacturers have moved production across the water to Indonesia. Electronics manufacturing accounts for almost half of Singapore's manufacturing sector, which itself accounts for around 25 percent of the island's gross domestic product.

Last April, Singapore brought the Indonesian islands Batam and Bintan into their now-concluded bilateral free-trade pact with the United States. The new free-trade agreement will allow electronic components made in Bintan and Batam tax-free entry into the US and give the industry a tremendous boost.

It also boosts the Association of Southeast Asian Nations' (ASEAN) attractiveness as an alternative site for US companies in the face of increasing competition from mighty China, which has won billions of dollars in investment since its entrance into the World Trade Organization.

Demand in the sector is volatile. Though there were signs of an Indonesia consumer spending boom early last year, the sagging domestic consumption that surfaced mid-year saw a fall of 26 percent in sales of electronic goods in July and August.

Weaker consumer confidence in the wake of the Bali bombings further put the brakes on domestic demand and the weak market demand further discouraged new investments in the domestic electronics industry. Last year's sales of electronic products netted only about Rp32 trillion ($3.5 billion) against an expected market potential of about Rp50 trillion. Rampant smuggling and usurious levels of taxes have discouraged new players and angered the existing manufacturers.

At the turn of the century, facing a massive budget deficit, the government brought in an aggressive tax policy. One consequence was that imported electronic goods attracted tax rates of some 20 percent but a stifling 32.5 percent if manufactured in Indonesia.

Lee Kang Hyun, chairman of the Indonesian Electronics Manufacturers' Association (IEMA), who just happens to be the marketing general manager at PT Samsung Electronic Indonesia, says some 50 percent of the electronic products traded in Indonesia are illegally brought into the country. This is a damning indictment and IEMA has been lobbying the government for at least two years to take firm action to curb smuggling.

Local manufacturers whose businesses face serious threats from cheap, smuggled goods have time after time pressed the government to reinstate the pre-shipment import inspection (PSI) system, abandoned in 1995. PSI meant an independent agency One civil servant earns a gross salary of about US$225 per month, barely enough to survive on in ... Jakarta. Yet he not only lives in a prime residential district in South Jakarta but has two motorcycles and a Peugeot convertible. The Corruption in Excess Department could inspect imported goods in their country of origin, taking over this responsibility from the Indonesian customs, where so many officials turn a blind eye to import document manipulation, including under-invoicing and smuggling.

The customs office is widely held to be the nation's most corrupt institution, and known for being vindictive against companies that expose its malpractices in the media. Importers blatantly use under-invoicing to manipulate their product prices. Offering far lower prices than local manufacturers or legitimate importers, their products are highly competitive on the local market.

Samsung Indonesia produces the largest volume of exported electronics in Indonesia and has spent about $65 million to develop its facilities and gear up to become the largest producer in Southeast Asia. Samsung makes a wide range of electronic goods, such as VCRs, CD-ROMs (compact disks - read-only memory), DVD combos, television sets, refrigerators, cellular phones, air conditioners, computer monitors and washing machines.

Samsung was one of a number of major electronics firms left out of a new facility for 10 automotive and electronics companies to clear their imported goods faster and cheaper through customs at Tanjung Priok seaport.

The Directorate General of Customs and Excise introduced the scheme last October, which allows the favored 10 access to a "priority lane" at the port through which they clear their goods without undergoing document examination and physical checks by customs officials. The 10 companies are PT Toyota Astra Motor, PT Astra Daihatsu Motor, PT General Motors Indonesia, PT Indomobil Suzuki Internasional, PT Astra Nissan Diesel Indonesia, PT Denso Indonesian Corp, PT National Gobel, PT Sanyo Industries Indonesia, PT Sharp Yasonta Indonesia and PT LG Electronics Indonesia.

The new fiscal incentives may encourage some of the other main players to enhance their production capacity this year and the Association of Indonesian Electronics Producers (Gabel) points out that slashing luxury taxes has increased the bargaining power of local manufacturers with their principals abroad.

There may be more good news ahead for the sector. Trade and Industry Minister Rini M Soewandi said over the weekend that a second fiscal stimulus package for export-oriented industries was being considered, to help lessen the impact of the utility-price hikes. Domestic consumption has been the mainstay of growth over the past two years and Rini is committed to tax incentives to help local exporters improve their competitiveness overseas.

ASEAN and its free-trade area (AFTA) offer great potential for exports. Electrical and electronic equipment accounts for a substantial share of intra-ASEAN trade, up from 30 percent of inter-regional exports in 1993 to almost 40 percent last year. Last April ASEAN economics ministers signed a mutual recognition agreement (MRA) for such equipment, a move that is expected to reduce significantly the cost of inter-regional trade in these two categories of goods.

The MRA enables member countries to recognize the testing and certification of imported electronics and electrical equipment conducted in another member country or the country of origin. The main benefit is that the entry of electronics and electrical equipment manufactured in one ASEAN country will no longer be subject to testing and certification in the country of importation, which can be technical barriers to trade.