Dr. Tulus T.H.Tambunan
Director of the Center for Industry, SMEs and Business Competition (Trisakti University)
Prof Tulus T.H. Tambunan lectures at Trisakti University in Jakarta on Indonesian small and medium enterprises and cooperatives. He is also the director of the Center for Industry, SMEs and Business Competition studies in the same university.He has also been contributing to the Global Competitiveness Report from the World Economic Forum (WEF) representing Indonesia.
His main area of research is on micro, small and medium enterprises (MSMEs), including women entrepreneurship in Indonesia and other Asian countries. He has published some of his works on this area in a number of international journal and also as several books. They include Trade Liberalisation and SMEs in ASEAN (New York: Nova Science Publishers, Inc., 2010), SME in Asian Developing Countries (London: Palgrave Macmillan Publisher, 2009), Development of Small and Medium Enterprises in ASEAN Countries (New Delhi: Readworthy Publications, Ltd, New Delhi, 2009), Entrepreneurship Development in Developing Countries (New Delhi: Academic Excellence, New Delhi, 2007), and many more others.
With respect to ASEAN Economic Community 2015, there are three questions in relation to small and medium enterprises (SMEs) in the region. First, is the ASEAN initiated AEC 2015 good for businesses especially small and medium enterprises (SMEs) in the region? Second, are SMEs in the region ready for the AEC 2015? Third, what will be the role of SMEs in the region in the post 2015 landscape?
With respect to the first question, as stated in the Roadmap for ASEAN Community 2009-2015, “The AEC will establish ASEAN as a single market and production base by making ASEAN more dynamic and competitive with new mechanisms and measures to strengthen the implementation of its existing economic initiative; accelerating regional integration in the priority sectors; facilitating movement of business persons, skilled labour and talents; and strengthening the institutional mechanisms of ASEAN.”(page 133)
In short, the AEC will transform ASEAN into a region with free movement of goods, services, investment, skilled labour, and freer flow of capital. For all owners or managers of SMEs in all member states, it is important to be aware that free movement of goods presents both market and production with opportunities and threats for them.
Some SMEs might face opportunities as well as threats directly, while others indirectly. Direct opportunity, for instance, a local SME has opportunity to sell its goods to other member states; if looked at the same situation for direct threats, they will face direct competition for its goods in local market from similar goods produced by SMEs from other member states.
Whereas for indirect opportunity, a local SME making certain components or half-finished products for a local assembling company gets more order because the company is expanding its market to other state members. While the indirect threats would be, the local SME receive less order from the assembler as the latter company reduce its production due to heavy competition from other member states in local market.
All local SMEs must also be alert that free flow of services, investment, skilled labour and capital represents fundamental shifts in the way that they will operate in the future. One obvious implication for all SMEs in member states is that they have more opportunities to improve their efficiency or productivity as well as to expand their production scale with lower costs as more workers and services with better quality and capital are available for them.
Whether the implementation of AEC 2015 will provide more opportunities or more threats to local SMEs, it depends on two main things, namely the readiness of the enterprises and the seriousness of governments in individual member states in supporting them. One thing for sure, SMEs in individual member states need to strengthen their resources and capabilities if they want to survive or, even more than that, to become the key players in the regional trade and production.
Capacity building should be the key priority in individual SMEs. Depending on current conditions of each SMEs which can vary by enterprise, the emphasis of capacity building can range from such as human resource development (not only improving skills of employees but also development of entrepreneurship), improvement in technology/technical capability, building or strengthening business networks, improvement in management, reorganisation, adopting better production methods, adopting better long-term business strategy, and expanding production capacity.
On their turn, governments in individual member states should fully support the capacity building in SMEs. The government supports should not necessary be direct, e.g. providing special subsidised financing, technical/vocational trainings, or technical assistances, but, can also be indirect, such as appropriate fiscal, monetary, industry, investment and trade policies which are in favour of SMEs.
Even, in many cases, these policies that create conducive environment for doing business are more important than direct supports for local SMEs. The World Bank in its annual report on Doing Business states again and again that policies or regulations that make doing business more easy and gives much help to local SMEs to grow.
May be it can be said that direct supports in combination with creating easy doing business environment is more important than government protection measures for local SMEs. The Indonesian long experience with protection measures for big national companies through the so-called import substitution policy during the Suharto (New Order) era (1966-1998) and government protection for local SMEs through e,g, 'negative list' of sectors (i.e. sectors closed for large/foreign companies or allowed for large/foreign direct investment but they should doing partnership with local SMEs) show that such way in promoting national industry and local SMEs did not create strong and competitive national industry and SMEs.
With respect to the third question, based on data from individual member states, currently SMEs account between the smallest 88.8% (Myanmar) and the highest 99.98% (Lao PDR) of all enterprises. The enterprises are the key generator of employment in all member states. The share as percentage of total employment ranges from the lowest about 51.7% in Viet Nam, 61.0% in Philippines, 81.4% in Lao PDR, and the largest 97.2% in Indonesia.
As a general feature of SMEs in developing countries, they are dominant only in number of enterprises and employment but not so much in gross domestic product (GDP) and export. In ASEAN, the highest share of SMEs in the formation of GDP is found in Indonesia at around 58%. In other member states, it ranges from the lowest 23.0% in Brunei Darussalam, 32.5% cent in Malaysia, 36.0% in Philippines, 37.0% in Thailand, 40.0% in Vietnam, and in Singapore 45.0%.
In export, SMEs in the region seems much weaker. For instance, in Indonesia the share of local SMEs in the country's total export (without oil and gas) is about 16.4%; in Malaysia around 19.4%, Philippines 10.0%, Thailand 29.9% and 20.0% in Vietnam.
As current or long-term development of export share of an industry is often used as an indicator on the industry's ability to do export or its competitiveness or its capability to compete in domestic as well as global market, the fact showing low share of ASEAN SMEs in export may suggest the enterprises should deal first with their problems or shortages before they can become the key players in the post 2015 landscape.
Based on information from various sources, in general, SME's difficulties in the region range from lack of market access ability; difficult to access for finance; lack to modern technologies; lack of management skills; low skilled workers; lack of access to information on markets, technology and sources of raw materials; no link to export markets; limited entrepreneurship skill to identify market opportunity; low innovation capability; limited communication channels, and no or low linkage between SMEs and LE (large enterprises). Among these constraints, difficulties with access to financial facilities and export markets are the key bottlenecks to SME development in the region.
Thus, to be able to make use of greater market opportunities that will be generated by the implementation of AEC next year and hence to be the key players in the region, ASEAN SMEs face the following challenges: easy access to financing, easy access to markets (domestic as well as in other member states), easy access to advanced technology and to be able to do innovation, to have well-developed infrastructure, security in doing business/investment, human capital development, and to be supported by good legal and regulatory framework.
It is indeed very important that SMEs in all member states give their serious efforts to deal with those shortages and challenges with full supports from the government for one simple reason: with the implementation of AEC 2015, the business landscape will become more complex and SMEs have to operate in a highly competitive and rapidly-changing environment. Consequently, they have to perform consistently in an efficient and productive manner as they face a variety of issues to develop, grow and achieve sustainability in the market.
In April 2014 the Acting Governor of DKI Jakarta, Basuki Tjahaja Purnama, announced that the operation of all sub-district and urban village head offices in the city as One-Door Integrated Services (PTSP) would be effective beginning June this year.
Before, in December 2013, the government DKI Jakarta has passed the government regulation No.12/2013 on the implementation of PTSP for licensing as the follow-up to the National initiative for PTSP which commenced in 2006. One of the objectives of PTSP is to make it easy for business, including micro, small and medium enterprises (MSMEs), to start their operations.
The Indonesian government has strong reason to implement PTSP because although improvements have been made in certain areas, the business environment in Indonesia is still not so friendly compared to other countries. The costs and difficulties in getting licenses are still among current complaints of business owners of MSMEs in Indonesia.
So then, it is not surprising that the majority of MSMEs in the country are microenterprises and all of them are not registered or are operating in the informal sector.
The government has for a long time been concerned with the development of MSMEs, as they are the greatest employment generator and the main players in almost all sectors of the Indonesian economy. In 2013, the share of MSMEs in total enterprises was around 99%. The government has been trying to support MSMEs with regulations and programmes.
Overall however, those regulations and programmes have not been very successful. This is shown by the fact that, on one hand, the number of MSMEs keep rising, at least based on national data, while, on the other hand, the competitiveness level of the majority of these enterprises is low, and most of them are microenterprises servicing only local markets.
There is no evidence that the transformation process in size among microenterprises has taken place (i.e. microenterprises have grown in size, modernised and expanded their market outreach).
The unsuccessful government’s MSME development programmes can be attributed to a number of factors and among them is the lack of coordination among ministries and government agencies in charge of all MSME development programmes.
With respect to MSMEs export promotion policy, at least three ministries (i.e. the Ministry for Cooperative and Small and Medium Enterprises (MCSME), the Ministry of Trade (MoT), and the Ministry of Industry (MoI) have their own export promotion programmes with sufficient funding that mainly comes from the national budget. But, when dealing with exporting MSMEs, the programmes are not well-coordinated among the three ministries. Although a coordination agency, i.e. the PEPI (National Team for Increasing Exports and Investments) under the MoT exists to coordinate all export promotion programmes in the country, it has not been able to prevent overlapping programmes.
In the area of technology and innovation policy for MSMEs, the strategy elements are included sporadically in some policy documents without a consistent approach. There are at least three ministries which are also concerned with technology development and innovation in MSMEs, namely the MCSME, the MoI, and the Ministry of Science and Technology (MoST), and each of them has its own plan.
There is neither synergy nor a system uniting all the strategy elements in promoting technology in MSMEs. The databases on information about innovation support service providers are also still fragmented in these three ministries, although they are available to MSMEs.
The problem of coordination among ministries or the unclear inter-ministerial division of responsibilities for MSME development in Indonesia is also obvious when dealing with training programmes to improve labour productivity in MSMEs in the manufacturing industry.
Of course as the MoI is responsible for activities involving MSMEs in the manufacturing industry, it is naturally the key provider of such training programmes. However, the Ministry of Manpower (MoMP) also provides similar training programmes in various aspects related to labour, including for MSMEs, as it is under the responsibility of this ministry.
Since the Suharto era (1966-1998) until now, there are two key government agencies which are directly concerned with MSME development, namely the MoI and the MCSME. The latter is not only responsible for the formulation and implementation of national policies for MSMEs, but is also the national coordinator of all MSME programmes and activities There has been little communication between these two ministries to delineate a clear division of their respective responsibilities.
In addition, there are no less than 34 ministries and government agencies that are also dealing with MSMEs (though not their key areas) at central level which often leads to duplication and overlapping in MSME development programmes or services.
The most important ones among them are the following: the MoT, the MoST, the MoMP, the Ministry of Agriculture, the Ministry of Fishery, the Ministry of Forestry, the Ministry of Tourism and Creative Economy, and the Ministry of Finance.
Since issues related to MSME development are mainly economic, policies for MSMEs (such as policies for industry, agriculture, trade and others) are under the coordination of Ministry for Economic Coordination.
While this can be productive and should lead to competition for providing good services, it is not happening in Indonesia. The duplication resulting in confusion is particularly pronounced in the MSME field and the problem with coordination has become worse since the implementation of regional autonomy.
Soon after the collapse of the New Order era in May 1998, under the Local Government Law No. 32 of 2004, Indonesia had started with regional autonomy accompanied by fiscal decentralisation.
Regional governments were established at the state level, and below that, at the district level, i.e. kabupaten and kota level, all of which were granted autonomy. This law sets out that autonomy under the law is the right and responsibility to independently administer regional governments for the benefit of the community. The central government is to determine the principles for creating norms, standards, and procedures, while the regional governments are to independently formulate policy based on these principles.
At the district level, measures and standards necessary to the effective implementation of policies for cooperatives and MSMEs are set out by the MCSME in the Ministerial Directive No. 20 of 2000. At this level, actual administration is carried out by the regional/local Cooperative and Small & Medium Enterprise Bureau (Dinas), and the Dinas Bureau Chief reports to the district head or Mayor. Dinas has a responsibility for administration and planning, licensing and approvals, regulation and implementation of government policy, certification, formulation of budgets, budget corrections and winding down cooperatives, among others.
As between ministries at the central level, in fact, the delegation of responsibilities between the central and regional governments is also not so clear. This is due to such factors as a lack of leadership and supervisory ability centrally, and excessive demands from regional governments for autonomy.
So, for Indonesian MSMEs to flourish and grow, the coordination of all MSME programmes from different ministries and government agencies, including the establishment of PTSP, is one necessary step that the government should take, and the MCSME should lead the process. Other steps that the government should take are as follows.
First, the implementation of MSME policies and programmes should be continuously monitored and evaluated to ensure continuous improvements in order to render them more effectively.
Second, MSME policies should be part of the country’s long-term overall effort in economic development.
Third, the MCSME should make sure that the targets in MSME development plan are achieved; services are delivered; obstacles are overcome; and improvements are implemented. For this purpose, it should develop mechanisms of stakeholder interactions and the management cycle to ensure effective implementation and evaluation of MSME programmes.
Fourth, policies and programmes need to be integrated into the structure,organisation procedure and day-to-day service delivery to the public. Initiatives from different agencies should be incorporated into holistic national initiatives which are implemented synergistically.
Fifth, the MCSME should coordinate a portal that links all government initiatives in supporting MSMEs, including PTSP.
Sixth, the government should ensure that large companies and universities perform their roles in supporting MSMEs.
Seventh, communications and information about licenses should shift from using ‘middlemen’ into having MSMEs dealing with the bureaucracy themselves. Having involvement of community organisations such as LPBs (they are established by companies or universities to advise MSMEs at grass-root levels) will improve the successful implementation of PTSP in getting more MSMEs to register formally.
Eighth, the licensing procedures should be simple, clear, and universal in the requirements; certain clarity in cost and delivery is also very important.
Finally, government service delivery could be improved significantly; the government should have clear sequence of helping MSMEs from starting, operating, growing and exiting the business. A portal of MCSMEs can serve as an interface that links the services with other ministries, including PTSPs.
In 2003, Association of Southeast Asian Nations (ASEAN) leaders agreed to establish by 2020, an ASEAN Community which comprises three pillars, namely the ASEAN Political-Security Community, ASEAN Economic Community (AEC) and ASEAN Socio-Cultural Community.
In 2007, they affirmed this commitment with the decision to accelerate the creation of an ASEAN Community by 2015. In particular, they agreed to hasten the process of regional economic integration with the adoption of the so-called AEC Blueprint in 2007 for the establishment of the AEC by 2015. The initial initiative of AEC 2015 is founded on a vision of a single market and production base for ASEAN member states (AMSs), i.e. Indonesia, Singapore, Malaysia, Thailand, Brunei Darussalam, the Philippines, Vietnam, Cambodia, Lao PDR, Myanmar and Timor Leste – to promote the free movement of goods, services, investment and skilled labor across the ASEAN region. The main aim of AEC 2015 is to foster equitable economic development across the region and the creation of a highly competitive economic region that will be fully integrated into the global economy.
It is expected that the implementation of AEC 2015 will transform ASEAN into a single market and production base like the European Union (EU), which will enhance ASEAN’s competitiveness. All existing tariffs on exports and imports will be eliminated and non-tariff barriers (NTBs) will be gradually phased out. ASEAN investors will be free to invest in all economic sectors throughout the region. Simple, harmonised and standardised trade and customs requirements are expected to reduce transaction costs. The AEC 2015 will then boost the development of production networks and it will thus foster the regional integration of priority sectors and allow for the free movement of business persons, professionals, skilled labour and talents.
An ASEAN single market and production base comprises five core elements: free flow of all goods, free flow of all services, free flow of investment, free flow of capital and free flow of skilled labor. A single market for goods and services will enhance ASEAN’s capacity to serve as a global production centre to better meet the demands of the global supply chain. According to the ASEAN Secretariat, sectors targeted to benefit from the single market and production base include the following priority integration sectors: agro-based products, air travel (air transport), automotive, e-ASEAN, electronics, fisheries, healthcare, rubber-based products, textiles and apparel, tourism, wood-based products, and logistic services. Many of these sectors are also the most important sectors for micro, small and medium enterprises (MSMEs) in all AMSs.
Now the question is, does the implementation of AEC 2015 matter for the individual AMSs? The answer is yes. There is little doubt that AEC 2015 generates immense competitive challenges for AMSs. However, the real impacts of it on the economy of individual AMSs remain a much debated and controversial subject. Theoretically speaking, at an aggregate level, the broad benefits that would be generated from the implementation of AEC 2015 would include: improved resource allocation, access to new and better technologies, inputs and intermediate goods, economies of scale and scope, greater domestic competition and the availability of favourable growth externalities, such as the transfer of know-how.
Then, the next question is, would the implementation of free regional trade and investment in the context of AEC 2015 have great effects on local MSMEs, and if yes, would they be positive or negative? This question is important because debates among policy-makers and researchers on this issue are still going on. Their real concern is about the ability of local MSMEs to survive or to sustain their existence amid growing pressure from trade liberalisation. Some contributors to the debate are skeptical, given the fact that most of the enterprises in many AMSs especially in the 'less developed' ones such like Cambodia, Lao PDR, Vietnam, Myanmar, Timor Leste or even Indonesia, are lacking the necessary resources, particularly technological advancement and skills, to remain competitive.
Theoretically, trade liberalisation affects individual local firms, including MSMEs, positively or negatively, in four major ways.
First, by increasing foreign competition: lower or elimination of existing import tariffs, quotas and other NTBs have the effect of increasing foreign competition in the domestic market as more and more imported goods and services enter the domestic market. This is expected to push inefficient, unproductive or uncompetitive local firms to improve their efficiency, productivity and competitiveness by eliminating unnecessary cost components, exploiting external economies of scale and scope, and adopting more innovative technologies and better management practices, or to shut down.
Therefore, the openness of an economy to international trade is also seen in the increasing plant size (e.g. scale of efficiency), particularly as local firms adopt more efficient technologies, management, organisation and methods of production. This argument is in line with general theory that suggests size capable of affecting export performance of firms positively. The new international trade theory posits a positive impact of market size in view of economies of scale. It argues that the scale economy provides costs advantages in production, research and development (R&D) activities and marketing efforts.
Export marketing literature, on the other hand, suggests that large enterprises (LEs) have greater resources to gather information on markets in foreign countries and to face up to the uncertainties that prevail in a foreign market. As a general hypothesis, therefore, it is more likely for LEs, instead of the MSMEs, to become export-oriented firms.
Second, by lowering production costs due to cheaper imported inputs: local firms benefit from lower input costs, thereby increasing their price competitiveness so they can compete more effectively in both domestic markets against imports and in export markets. Having said this, the validity of this hypothesis is relevant under two assumptions:
(1) Other competitiveness determinant factors, such as wage (labor costs) and transportation costs are constant;
(2) Many local firms are dependent on imported inputs because of the absence of domestic production for the inputs, or trade liberalisation pushes prices for inputs to go lower than those made at the domestic market.
Third, by increasing export opportunities: opening up to international competition will not only induce increased efficiency in domestic firms but it will also encourage them to exports or it will stimulate more exports from the existing domestic export-oriented firms. This view is generally supported by results from many econometric analyses. However, this theoretical view is acceptable with the assumption that other factors determining the ability of a firm to export, such as production capacity, labour and energy costs, and governmental regulations, do not change unfavorably against the MSMEs.
The fourth way is by reducing availability of local inputs: eliminating export restrictions on unprocessed raw materials will increase export of the materials at the cost of local firms. Theoretically, if domestic products can have better prices abroad than in domestic market, it encourages domestic suppliers of the items to sell more to abroad than to domestic consumptions.
Thus, the question of whether trade liberalisation will lead to more imported final goods instead of more local production is about the competitive effect of trade liberalisation. If goods and services produced by domestic firms are less competitive in comparison to those imported from other countries, domestic firms are likely to be pushed out of the domestic market.
Whereas, the question of whether trade liberalisation will lead to more imported inputs instead of local made inputs, is about the production cost reduction effect of trade liberalisation. As import tariffs and other NTBs are removed, resulting in cheaper imported inputs than those produced domestically, domestic production costs are likely to decline. In addition, trade liberalisation also generates other two effects, i.e. export opportunity effect and domestic input scarcity effect.
The first effect is greater export opportunities for local firms, while the second effect will occur as local producers of inputs prefer to export than to sell domestically due to better prices abroad. The production cost reduction effect and the domestic inputs scarcity effect can be put together as the overall supply-side effect, whereas the combination of the competition effect and the export-opportunities effect can be referred to as the overall demand-side effect of trade liberalisation. The overall supply-side effects can be negative if the second effect is greater than the first one; alternatively, it could be positive if the other way occur, or if one effect is fully compensated by the other effect.
The impacts of trade liberalisation or trade policy reforms on many countries, including in some AMSs, at the macro level have been examined extensively. However, academic and policy analyses on the impact of trade liberalisation on the continuance existence or growth of local MSMEs, especially in AMSs remain scant.
There is only a very few field studies or academic papers on the effect of trade liberalisation on MSMEs that can be identified so far, but not in AMSs. Some of the studies argued that trade liberalisation could have some adverse effects on local MSMEs development, at least in the short run. Rapid trade liberalisation could lead to loss of domestic market share of local MSMEs because their made products cannot compete in their own markets with imported products, which produced more efficiently and cheaper.
Indeed, many MSMEs in Indonesia (as also happening in other AMSs) are losing their domestic market against much cheaper China made products. In the export-side, many studies conclude that export opportunities of local MSMEs could disappear due to lack of global competitiveness of the enterprises and the economy as a whole. This conclusion also seems to be supported by condition in Indonesia that since the implementation of ASEAN-China free trade agreement until now no evidence on the increase of Indonesian MSMEs exports to China.
One way to assess the ability of local MSMEs in individual AMSs to export with the implementation of AEC 2015 is by looking at their export intensity and performance. Although data on export of these enterprises in individual AMS are very limited (official publications on the enterprises by governments in AMSs usually focus only on their generated employment and output, not export), from limited sources (e.g. research reports, seminar papers) it reveals that the export intensity of the enterprises is very low; though it varies by individual AMS.
In other words, most MSMEs in the individual AMS are domestic market oriented, and there are various reasons for that. Among them, the most important one is their lack of four key inputs, namely (i) technology and skilled workers (so they cannot make highly competitive products that meet world standards), (ii) information especially on market potentials (including current changes in market demand/taste),(iii) global business strategies, and (iv) capital for financing export activities. With respect to the latter, it is not uncommon that forMSMEs doing direct international marketing is too costly, as they have to deal with such as promotion, distribution, communications, export license, transportation and logistic.
Although the implementation of AEC 2015 has just less than a year to go, local MSMEs still have time to do at least three strategic actions to make them ready to compete, namely: (i) improving skills of the owners and their workers, not only 'hard' skills, i.e. technical know-how related to the nature of their production but also 'soft' skills especially in the areas of management and international marketing practices; (ii) improving business efficiency by e.g. reorganising production activities; and (iii) changing current or adopting new appropriate business strategy to cope with increasing competition pressures. But, MSMEs alone cannot do these minimum required actions.
Other parties such as the government, chamber of commerce, business associations and universities have crucial roles to play to support local MSMEs in doing their capacity building.
In Indonesia, fossil-fuel subsidies had traditionally played an important role in determining the cost of living and also the cost of doing business. For the past decade, rising world oil prices and the growing demand for fuel had rendered these subsidies to be unaffordable, leading to several substantial reforms. As necessary as these might be for fiscal reasons, Indonesia has however had to cope with a very large population of low-income households. This has made the fuel subsidies more than just issues of economic importance, they lie at the heart of controversial social and political debates as well.
Indonesian SMEs (especially SEs) were often hampered by numerous constraints that limited their ability to sustain themselves or to grow. These constraints included those affected significantly by fuel costs, namely lack of funds to finance operations and capital investment, difficulties in procuring raw materials and other required input and high transportation costs.
A national survey made of SEs in the manufacturing industry has shown that energy prices and supply were reported to be their significant problems, although they varied amongst industrial groupings. These might be related to differences in how they operated, even the nature of their production processes. For instance, as a percentage of total manufacturing expenses, energy was most frequently the most serious problem for SEs in tobacco-processing, followed by those who manufactured reproductions of publishing and recording media, machinery and tools, food and paper and its products.
The variety might also be linked to issues such as geographical location, the condition of the local energy market and local transportation networks. It was obvious that the majority of SEs having this particular problem were located outside Java and Sumatera. More specifically, the five provinces where energy costs were the biggest issues were in West Kalimantan, Kepulauan Riau, West Nusa Tenggara, Gorontalo and Banten.
Based on many studies, it was generally known that although SMEs, particularly SEs, are much less energy intensive in comparison to large enterprises (LEs), energy costs were still significant; running from around 10 per cent to more than 65 per cent of the total cost of production (United States Agency for International Development [USAID], 2008).
The survey data from BI & PS-IUKMPU (2010) showed that operation costs were just a small component of total production costs for SEs in wood processing, food and beverage, textile and footwear industries in some regions in the country, including West Sumatra and, West and East Java. Operation costs included energy costs, though energy was not necessarily a dominant component of operation costs. For example in the wood processing industry, the share of energy costs of the total operation costs was about 13.55 per cent. In other industries the share was much higher, such as in the food and beverage industry, where fuel costs represented 42.4 per cent of operation costs. SMEs in the latter industry used boilers as the source of steam for their production processes. Coal, diesel and oil were the common fuel material used to operate boilers, which all resulted in higher production costs.
* Summarized version of similar article ‘How Have Indonesian SMEs Coped with the Latest Increases in Energy Prices’? written by the author for ‘Briefing Note, November 2013, International Institute for Sustainable Development’.
A businessman’s ability to fully or partially pass on costs to consumers would depend on the type of goods that he produced or the type of market that he served. SEs producing essential goods, such as street food that low-income groups depended on, should to be ready to face relatively inelastic consumer demand. SMEs that sold non-essential goods with elastic demand such as furniture, toys, or clothing, might have more difficulty passing on extra costs to consumers.
Some anecdotal reports from various newspapers have indicated that the impact of the increase of fuel price in 2013 seemed to be significant. For instance, the Republika newspaper has stated that many SMEs in the West Java city of Sukabumi might have to close down because of the fuel subsidy policy (Republika Online, 2013). Citing complaints that the rising costs of production had made it difficult to expand, Antara News (2013) has stated that the price changes had been felt by many SMEs in East Java, and have even threatened some businesses with bankruptcy. In the East Java city of Malang, at least 10,000 local SMEs were facing bankruptcy due to the sharp rise in operating costs (especially transportation costs) that followed the fuel price change (Antara News, 2013).
Meanwhile, according to Kompas newspaper, the State Ministry for Cooperatives, SMEs and BPS had estimated that the impact of the fuel price reform had generated financial problems for many SMEs in Indonesia. According to the study, although the resulting increase in production costs were not as bad as in 2005, when fuel prices were first increased, it had still created significant problems for many SMEs (Antaranews.com, 2013).
The impact of the increase of fuel price in 2013 on SMEs could be differentiated between it’s direct and indirect impact. The direct impact increased the total operational costs of SMEs because they had to pay more for energy. The degree of the increase varied by industry group, according to the amount of energy and the type of energy that they consumed.
For example, SMEs making bread were very dependent on gas for use in ovens, such energy costs represented 7–8 per cent of the total cost of bread production. Every day, bakeries consumed an average of three 12-kg cylinders of LPG. When the government announced plans to raise the price of 12-kg cylinders of LPG in early March 2013 from IDR70,200 (US$6.15) to IDR95,60, a total increase of IDR25,400 (or 35 per cent), the Indonesian Bakery Employers Association claimed that this would increase the cost of bread production by 2 per cent.
With the inclusion of recent increases in the cost of electricity, this would have increased overall energy costs by 10 per cent (Citra Indonesia, 2013). The increase in total operational costs caused by increases in the price of fuel also depended on the type of machines used and, probably more importantly, adjustment measures taken by producers in response to price changes, which would determine the efficiency of fuel usage.
Indirect impact, on the other hand, occured through the knock-on effects that energy price rises had on other aspects of an SME’s business, for example, by increasing the cost of other input or by reducing the consumers’ real income, thereby reducing demand. Indirect effects on SMEs were generally expected to be more significant than direct effects. Indonesia’s central bank (Bank Indonesia) had predicted that annual inflation in 2013 would surge as high as 7.9 per cent, exceeding the government`s estimate of 7.2 per cent, as a result of the increase in subsidized oil fuel prices.
The immediate direct and indirect inflationary impact of the June 2013 price reforms were estimated to be 2.45 per cent, made up of the following sub-components: the indirect effects on public transportation fares and commodities (food and other core items) contributing respectively, 0.82 per cent and 0.40 per cent and the direct impact contributing a further 1.23 per cent. According to Bank Indonesia, the impact would last for three months, notably in public transportational costs (Berita 2 Bahasa, 2013).
The indirect impact on credit would also have a serious impact. As a response to increased inflation and the continued depreciation of the rupiah, Indonesia’s monetary authority decided to increase Bank Indonesia’s interest rate from 5.75 per cent in May 2013 to 6.0 per cent in June and up again to 6.5 per cent in July (Bank Indonesia, 2013).
The rise in the cost of credit made it harder for SMEs that depended on bank loans, though that did not represent a large proportion of the SMEs in the country. More seriously, it affected the larger businesses that depended on credit and had a relationship with SMEs (e.g. trading companies and large-sized car producers). If those firms had financial problems caused by higher interest rates, and therefore had to reduce production or even go out of business, the subcontracted or business-related SMEs would suffer the consequences as well.
Potentially, the most serious indirect effect on SMEs was the expected decline in purchasing power among low-income groups. Although data on the number of buyers of SMEs’ goods and services broken down by income groups were not available, the main customers for SMEs were from low-income households, as the majority of SMEs in Indonesia (as in developing countries in general) produced low-priced goods and services.
Even if these low-income households did not spend their income on fuel directly, they were expected to be seriously affected by subsidy reforms, as the prices of goods and services, including transportation fares, would rise as a result of the increased fuel prices. Following the price increases of gasoline and diesel in June 2013, the Ministry of Trade had estimated that the price of essential goods and services would increase by a minimum of 5 per cent to a maximum of 10 per cent, or on average around 8.2 per cent (Setiawan, et al., 2013).
In reality, it was possible that the real impact could be much worse. According to the Organization of Land Transportation, transportation fares could increase up to 35 per cent (Republika Online, 2013b), although the government would allow them to increase only up to a maximum of 20 per cent (Setiawan et al., 2013).
In general, SMEs were less energy-intensive than LEs but they were also the more vulnerable. That meant that the direct financial impact of energy price increases might not be as serious as those experienced by LEs, however the capacity of SMEs to cope with any negative impact were likely to be much lower and even small negative effects could have much more serious impact. The indirect impact of energy price increases were likely to have the more serious effect on SMEs, especially through the costs of transportation, raw materials and capital. That could be the case for three reasons.
Firstly, SMEs in general were much less energy-intensive (including fuel-intensive) than LEs, so the direct impact was relatively smaller. Secondly, all firms of all sizes were dependent on land transportation, which had always been the main focus of fossil-fuel subsidy reform in Indonesia. Thirdly, Indonesian SMEs and SEs, were heavily dependent on low-income households as they were their main consumers and that particular group had always been the most seriously affected by increases in the price of fuel and its related inflation, which reduced their available income and lead to a decline in market demand.
What should be done?
There was little value on further debate about why the government has decided to cut fuel subsidies. It was simply because the scale of subsidy expenditure was unsustainable and that the fuel subsidy (intended to help low-income groups) appeared to have been poorly targeted and thereby misallocated. Instead, the following actions should be taken by both the government and SMEs to compensate for the problems that could be caused by the fossil-fuel subsidy reform.
From the government side:
(i) increase access to bank financing for business-feasible SMEs, especially those that had greater potential to contribute to GDP and future exports; for example, that might include SMEs related to textiles and garments, foods and beverages, leather products, wood products (especially furniture), creative goods and handicrafts;
(ii) eliminate all unnecessary bureaucratic procedures to reduce time-consuming and costly steps related to SMEs getting the licenses that they needed, these might include licenses to import raw materials, export goods and services;
(iii) reallocate a proportion of the funds that had become available from subsidy reforms for the development of infrastructure and public transportation facilities, especially in rural areas where the majority of SMEs were located. Good infrastructure and public transport facilities would help SMEs in procuring raw materials and marketing. Funds could also be used to tackle SMEs’ other priority problems, for example, to invest in education to increase the medium-term availability of skilled workers that SMEs needed to grow and expand. Funds could be reallocated more generally to help implement Indonesia’s existing policies in support of SMEs, which included human resource development, entrepreneurship development and financing;
(iv) support SMEs to improve their efficiency in using energy. For example, SMEs could be provided with technical as well as financial assistance in identifying opportunities for efficiency improvements and modernizing their production systems; and
(v) help SMEs utilise alternative energies. Generally, SMEs need technologies that they do not have at present. It is therefore essential to support the transfer of technologies with various partners, such as universities, LEs, non-governmental organizations and government agencies. Many issues need to be addressed for the effective transfer and development of technology for developing alternative energies including institutional development, information, partnership and networking, collaborative research and development, intellectual property rights, financing and infrastructure.
SMEs also had a responsibility to take preparatory actions, of which at least the following two should be considered:
(i) take appropriate measures to adapt to higher energy prices by increasing energy efficiency. For example, using more efficient methods to heat or to process foods;
(ii) explore long-term solutions to rising energy costs. This might include using alternative energy or developing renewable energy. For the sake of efficiency and taking into account the capacities of many SMEs, this action should be taken in a cooperative way either among SMEs or with local community players such as universities or non-governmental organizations. As one feasible action, SMEs could develop electricity from small-scale or renewable power sources such as wind, solar, micro-hydro systems or sustainable biofuels. In many places, for instance, electrification from biomass energy has led to the development of SMEs in areas such as rice parboiling, roofing tiles and curing tobacco.
Free trade agreement (FTA) has been proliferated in East Asia led by Association of Southeast Asian Nations (ASEAN) in particular. ASEAN has indeed become an FTA hub. Its diplomatic and economic importance is seen in the number of FTAs (and other forms of co-operations including economic partnership agreements) that ASEAN has signed or is still negotiating with major economic partners.
ASEAN has established two FTAs: internal, i.e. among member states, and external, i.e. ASEAN with non-member states. Internally, ASEAN FTA or AFTA was signed on Jan 28, 1992 in Singapore that came into full operation by end of 2003 that eliminates import duties on all products placed in the normal track in the ASEAN-6 (i.e. Brunei Darussalam, Indonesia, Malaysia, Philippines, Singapore and Thailand). With Vietnam joined in 1995, Laos PDR and Myanmar in 1997 and Cambodia in 1999, AFTA now comprises the ten member states of ASEAN, and they all have made significant progress in the lowering of intra-regional tariffs through the Common Effective Preferential Tariff (CEPT) Scheme for AFTA.
More than 99% of the products in the CEPT Inclusion List of the ASEAN-6 have been brought down to the 0%-5% tariff range. They have also resolved to work on the elimination of non-tariff barriers (NTBs) (ASEAN Secretariat News). During the 22nd ASEAN Summit, on Apr 2013 in Bandar Seri Begawan, the leaders took part in extensive discussions on intensifying efforts to realise the ASEAN Community by 2015, transforming ASEAN into a single regional market (ASEAN, 2013).
With respect to external FTA, since 2007 ASEAN has signed and implemented various FTAs with a number of non ASEAN countries, including the People Republic of China (PRC) signed in 2002, Japan signed in 2003, Republic of Korea (RoK), India, and Australia and New Zealand signed in 2009. All those external ASEAN FTAs started in Jan 2010 (ASEAN Secretariat News).
With those six major trading partners, ASEAN established not only FTA but also comprehensive economic cooperation or partnership agreements. With PRC (ACCEC), it began with an early harvest program focusing on liberalisation of trade in major agricultural products and an agreement on agricultural cooperation. For liberalisation of trade in goods, was signed in 2004 and started in 2005, followed in 2007 with a FTA for liberalisation of trade in services and an agreement for liberalisation of investment that was signed in 2009.
With Japan, the ASEAN-Japan Comprehensive Economic Partnership Agreement (AJCEP) signed in 2003 was soon followed by six bilateral FTAs with individual ASEAN countries (Brunei Darussalam, Indonesia, Malaysia, the Philippines, Singapore, and Thailand). Negotiation of the AJCEP was concluded in 2008. With RoK, the ASEAN-Korea Comprehensive Economic Cooperation Agreement (AKCEC), covering both goods and services, was concluded in November 2007 (Zhang and Shen, 2011).
Further, ASEAN together with those six major trading partners had begun the first round of negotiations on 26-28 February 2013 in Bali, Indonesia on establishment of the Regional Comprehensive Economic Partnership.The idea was first mooted at the 19th ASEAN Summit in November 2011 (ASEAN Secretariat News, 2012).
FTAs utilisation by ASEAN MSMEs
To apply FTA preferential tariff rates, micro, all firms including SMEs must follow certain procedure. Specifically, the use of FTA rates requires firms in exporting countries to meet the Rule of Origin (RoO), to obtain Certificate of Origin (CoO) and to submit it to the customs in importing countries. The RoO is the criteria to determine the origins of goods to be exported.
Although official data on the utilisation of existing ASEAN-led FTAs by private sector, particularly the MSMEs in the region, are hard to find, several studies in some member states suggest that most MSMEs (if not all) in ASEAN have generally not taken advantage of the opportunities that derive from these agreements. An article written by Ehda Dagooc for The Philippine Star (2013) said that Philippine exporters are still not keen on free trade deals. Despite the active stance of the Philippine government to encourage Filipino companies to avail of the FTA it entered into with different countries, most exporters are intimidated to avail of the benefits because of the complication of rules and their macro-approach requirements.
Particularly, MSMEs are less inclined to avail of FTA at present, while most of them do not get to understand how to fully take advantage of it. A lot of misconceptions, complications on the FTA on trade practices in different countries, and unclear harmonised codes within ASEAN, and uneasy access to up-date information about regulations dealing with the implementation of FTA have become disincentive factors for Filipino owners of MSMEs to fully participate in existing FTA.
Kawai and Wignaraja (2009) also find that firms in the Philippines are generally unaware of FTA provisions. Even from their firms surveyed, only 7% of those using FTA indicating awareness. According to their findings, lack of information is the most important constraint for many firms in the Philippines to use FTA. Other impediments to using FTA preferences are delays and administration costs with RoO, small preference margins, non-tariff measures in FTA partners, too many exclusions, arbitrary classification of product origin (also known as 'rent-seeking'), and use of export processing zone (EPZ).
For Thailand, there are two important studies. First, Kohpaiboon (2008) analyses AFTA implementation by Thai exporting companies for the period 2003-2006, using AFTA administrative records collected by the Bureau of Preferential Trade, Department of Foreign Trade, Ministry of Commerce, and he finds that LEs or firms in industries with a huge margin between general and preferential tariffs rates tend to utilise the AFTA scheme.
Second, Wignaraja, et al (2010) did a survey of 221 exporting firms (both domestic and foreign affiliates) in three key industries, i.e. textiles or garments, electronics, and auto or auto parts, to find out how FTA has affected exporting firms in the country. Thailand, as an outward-oriented regional production hub, is probably one of East Asia's most active users of FTA as an instrument of commercial policy. Their key findings in relation to the utilisation of FTA are as follows (pages 18-19): (1) the evidence suggests reasonable use of preferences in existing Thai FTA. Also, more firms used (or planned to use) tariff preferences in FTA than otherwise thought; (2) over half the surveyed firms, particularly foreign electronics and auto/auto parts firms, reported that FTA has influenced their business plans; (3) many of the surveyed firms saw RoO as an obstacle to using FTA preferences, and larger firms were more likely to do so. They said that obtaining a CoO will increase the complexity of the whole procedure, and multiple RoO would add to business costs (especially, as commonly agree, the costs arising from RoO are expected to increase substantially when countries are overlapped by multiple FTAs (Lim and Kumura, 2009)); (4) the sample firms, particularly domestic firms, still desired more institutional support services for enterprise adjustment to FTA. Many of them still need to know the harmonised system codes of their products, their cost structure, and relevant RoO. Especially smaller companies do not know how to use FTA. Services demanded include provision of information on implications of FTA for business, upgrading of technical standards and quality, training on FTA, financial support for upgrading technology and skills, and adoption of electronic custom (e-custom) to speed up and simplify procedures for CoO.
Most recently, a dialogue forum for MSMEs with the topic ‘Utilisation of ASEAN-Led FTAs’ was held in Bangkok (Thailand) in Jun 2013. Information came out from the discussion, which was also attended by the author, suggests a modest utilisation rate of a total of 11 FTAs, or about 47.32%, that Thailand is currently engaging in currently. Other important information disseminated during the dialogue is that firms in Thailand are more inclined to use bilateral state-to-state FTA that Thailand engages itself with many countries outside ASEAN rather than those led by ASEAN. For instance, as by 2013, the utilisation rate of the ASEAN-Australia-New Zealand FTA is around 2.81% compared to 60.65% with respect to the bilateral Thai-Australia FTA. Kawai and Wignaraja (2013) give one reason for this: bilateral state-to-state FTAs give more attractive preferences for key products and simplified RoO.
Based on a comprehensive firm survey of business impacts of East Asian FTAs in multiple countries, i.e. three non-ASEAN: Japan, PRC and RoK, and three ASEAN member states: Singapore, Thailand and Philippines, Kawai and Wignaraja (2010, 2011) provides interesting findings: (1) around 28% of the firms surveyed use FTA preferences and this figure nearly doubles when firms that plan to use FTA are included. More firms in the PRC, Japan and Thailand make use of FTA preferences than firms in RoK, Singapore and Philippines; and the FTA utilisation rate was highest among PRC firms. The latter is linked to the rapid emergence of this giant economy as a leading economic powerhouse, and the, probably more important, proactive business strategies of PRC firms, such as increasing involvement in regional and global production networks; (2) only around 20% of responding firms said that multiple RoO added significantly to business costs; and (3) LEs (large enterprises) are more likely than MSMEs to have negative perceptions of multiple RoO, as LEs tend to export to multiple markets, change their business plans in response to FTAs and, therefore, have more reason to complain about multiple RoO.
In Vietnam too, though no data are available on the utilisation rate of ASEAN-led FTAs by local MSMEs, it is generally believed that only very few enterprises of this category may aware of existing signed FTAs and take advantage of incentives from those signed FTAs. The Government of Vietnam (i.e. Ministry of Trade and Industry) in collaboration with private organisations including Vietnam Chamber of Commerce and Industry (VCCI) have been therefore making efforts to encourage local MSMEs to apply for existing FTAs. The efforts include providing up-to-date information on how to apply for FTA, customs, and other aspect related to FTA through official websites and also by organising a series of workshops, including the Workshop on Vietnamese MSMEs and ASEAN Market Opportunities that was held in Hanoi, on Dec 2013, and also attended by the author.
Lim and Kimura (2009) studied the internationalisation of ASEAN MSMEs in regional and global value chains, and they find that the role of MSMEs in production fragmentation has been expanding and their potentials to grow within the framework of regional and global value chains are promising, especially in electronics, machinery, ICT, automobile and service industry. As economic integration through ASEAN-led FTAs (and other regional and bilateral FTAs) is generally expected to enhance ASEAN production networking, the utilisation rate of ASEAN-led FTAs by ASEAN MSMEs are thus expected to increase as well, indirectly through the increase of MSMEs' involvements in regional production networking. However, they conclude that economic integration in ASEAN in terms of production networking or value chains has not benefited much from formal existing FTAs. As they have observed, the basic weaknesses of AFTA and other FTAs are they are too many exceptions on key sectors, standardisation and harmonisation of rules and regulations are inadequate (including the existence of NTBs), and transportation, infrastructure and institutions to implement FTAs are absent or inadequate.
Most recently, Wignaraja (2013) took a comparative and firm-level analysis of the impact of regional FTAs (such as AFTA) in three ASEAN member states (Indonesia, Malaysia, and the Philippines). The study found that firm-heterogeneity matters in regional FTA use. Acquiring knowledge about regional FTA through in-house efforts and actively forging links with regional FTA support institutions, building technological capabilities, and membership of industrial clusters show up as significant factors affecting the likelihood of firm-level regional FTA use. A lack of information about regional FTA and the absence of regional FTA with major trading partners are the main reasons for many local firms not using existing regional FTA.
Agenda for further research
Given the fact from existing studies discussed above that the utilisation rate of existing ASEAN-led FTAs by ASEAN MAMEa is still relatively low, there are two followings questions that need further research:
ü What specific policy and practical initiatives that have been pursued by ASEAN governments to facilitate their MSMEs to take advantage of export opportunities through ASEAN-led FTAs?; and
ü What lessons learned from other regions (e.g. European Union) with respect to the utilisation of FTA by MSMEs?
Although the share of foreign direct investment (FDI) in Indonesia’s gross domestic product (GDP) is relatively low compared to other countries in the region, such as Thailand, Singapore and Malaysia, FDI has played a crucial role in Indonesia’s economic development process, not only in boosting overall productivity and exports, but also in achieving sustainable economic growth and employment creation. Especially during the ‘New Order’ era under President Suharto (1966-1998) and after the introduction of the first investment law (Law Number 1 of 1967 on Foreign Investment, amended by Law Number 11 of 1970), FDI flows into the country were relatively large.
During the 1960s and 1970s, FDI in Indonesia was concentrated in the oil and natural gas sector. In the 1980s and 1990s, the Indonesian Government introduced a number of deregulation packages to liberalise its domestic market as well as several fiscal incentives to foster FDI in the manufacturing and services sectors to reduce the country’s dependency on the primary sector. Since then, the secondary and tertiary sectors have attracted the bulk of foreign investment in Indonesia. After the 1997/98 Asian financial crisis that hit the country's economy very hard, FDI inflows to the country started to recover again. In 2007, FDI stock in Indonesia reached almost US$80 billion, and in 2011 it reached US$173 billion. While, FDI flows continued to increase that reached to US$18.9 in 2011,
The Indonesian Government has deregulated the economy and provided fiscal incentives to encourage diversification of the economic structure. In the past ten years, FDI in Indonesian has been markedly reoriented toward manufacturing and services. In 2012, within the manufacturing sector, three industries accounted for the bulk of total FDI stock in all sectors: the metal machinery and electronics industry (almost 10%), the food industry (7.3%) and the rubber and plastic industry (2.7%). The considerable increase in the relative importance of manufacturing during the past decade has been due to large green-field investments in these sectors. These are also groups of industry where the majority of establishments are from the category of micro, small and medium enterprises.
After the 1997-1998 Asian financial crisis the Indonesian Government took many measures to promote economic recovery. It also reoriented FDI policies and initiated reforms in many areas related to private investment, including the legal system. Since 1998, many presidential decrees and regulations have been introduced to improve the investment climate and attract FDI. A new investment law, the Law on Investment Number 25 of 2007, is widely seen as the most important investment reform effort ever undertaken by the Indonesian Government. This law covers all private investment, both domestic and foreign.
From the point of view of FDI, this new investment law is generally considered as much more “open” than Law Number 1 of 1967, since in the new Law the negative list has become shorter, i.e. more sectors or subsectors are open now for FDI. This new Law provides a list of business fields absolutely closed for large enterprises (LEs), including FDI, for several reasons, including protection of micro, small and medium enterprises (MSMEs). These sectors reserved only for MSMEs are public transportation (route and non route), public shipping, tobacco drying, and processing industry. Whereas sectors open for LEs/FDI but with conditions it has to work together (partnership) with local MSMEs are: industry of nails, nuts and screws, industry of component and spare parts for motor driver, industry of pumps and compressors, industry of component and equipment of two and three wheeled motor vehicles, industry of bicycle and pedicab component and spare parts.
Also, many new incentives in various forms (e.g. tax holiday, tax deduction, and import duty reduction) and investment facilities (e.g. land rights facility, immigration, import-licensing facility) have been introduced that make it easier for foreign investors to do business in Indonesia. The new investment law has also removed pribumi (indigenous) ownership conditions that were previously a major issue for FDI.
In addition, from 2006 to 2010, four Presidential Instructions/Regulations were issued that specifically mentioned the steps the government has taken to improve the investment climate which, at least, theoretically, may have effects on development of local MSMEs. For instance, Presidential Regulation (PR) Number 36 of 2010 regulates 17 business sub-sectors that are conditionally open to FDI: agriculture, banking, communications and information technology, culture and tourism, defense, education, energy and mineral resources, finance, forestry, health, manufacturing, manpower and transmigration, marine and fisheries, public works, trading, transport, and security. One condition is that foreign firms should do partnership with local firms, including MSMEs.
Now the question is: does this liberalizing FDI regime in Indonesia matter for local MSMEs? Or, put it differently: what opportunities as well as challenges this new regime provides to local MSMEs? Would this development more positive or more negative for Indonesian MSMEs?
Theoretically, there are two opportunities for local MSMEs. The first one is wider market opportunities either internally or externally. Externally: export-oriented foreign firms in Indonesia provide opportunities for local MSMEs to be involved indirectly in export activities through e.g. subcontracting production linkages. For instance, local MSMEs produce intermediate or semi-finished goods and supply them to export-oriented foreign firms that finishing the products. Internally: the presence of foreign firms in Indonesia needs processed raw materials, intermediate products, or components that can be produced by local MSMEs. In other words, local MSMEs have some kind of domestic market security with the presence of foreign firms. The second one is production improvement or innovation opportunities for local MSMEs through transfers of technologies and knowledge from in Indonesia located foreign firms.
While, challenges which local MSMEs may face with the presence of foreign firms are their capability/capacity to make a good use of those above mentioned opportunities. The main question here is: can local MSMEs to become efficient and competitive local suppliers for foreign firms, or can they absorb technologies from foreign firms?
Historically, business cooperation in any forms such as subcontracting, joint ventures, etc., between MSMEs and LEs, especially with foreign firms in Indonesia is not so strong, certainly much weaker compared other countries like Japan, Chinese Taipei and South Korea. National data 2010 show that of a total of 2,732,724 micro and small enterprises (MSEs) in the manufacturing industry in Indonesia, only 552,334 units or only about 20 percent having partnerships with LEs, mainly in marketing: MSEs supply semi-or unpacking finished products to large-sized trading companies.
Although subcontracting production linkages between MSMEs and LEs, especially with foreign companies is not yet so popular in Indonesia (compared to such as in Japan, South Korea and China Taipei), there are some clusters of manufacturing MSMEs which have production links with LEs. They are mostly concentrated in the province of Central Java. For instance, a cluster of MSMEs producing wig and hair accessories in Purbalingga has partnerships with two big companies, i.e. PT Royal Korindah, PT Indo Kores; two clusters of handicraft in Kasongan and Sleman (Yogyakarta) with PT Out of Asia; a cluster of textile weaving in Pekalongan with PT Pismatex; the well known cluster of furniture in Jepara with many big firms including Duta Jepara, Grista Mulya, and Satin Abadi; a cluster of brass handicraft in Juwana with some big firms like Krisna, Samarinda; a cluster producing Roof tile in Kebumen with Mas Sokka; and also the well known clusters of metalworking industry in Tegal, and Cibatu and Ceper (Klaten) with a number of big automobile companies, mainly Japanese affiliates. For instance, the Ceper cluster is spread out over several villages in the Batur district of the Klaten regency, counted more than 300 units that range from microenterprises employing 10 workers specializing in the production of simple fences of cast iron to LEs with more than 200 workers assembling parts for the national railways and automotive industry. The cluster encompasses a variety of metal casting firms ranging from MSMEs producing basic utensils for local market to LEs that work exclusively on order from national big companies such as the railway and car-manufacturing firms in Jakarta and Surabaya.
However, many case studies show that not all MSMEs, especially micro enterprises, inside those clusters have production linkages with LEs or FDI-based firms due to their inability to meet standards required by big companies. For instance, in the Tegal cluster, MSMEs as potential subcontractors/suppliers are tested first through initial batch orders. But, only a few of them are able to meet required standards by LEs as contractors. Medium rather than small and micro enterprises are more likely to be accepted as local subcontractors because they are more able to adopt new technologies in their bid to become subcontractors to LEs, including foreign firms. After winning a contract, an accepted subcontractor has access to many facilities provided by contractors including technical training and financial supports. Among successful local suppliers in the cluster are PT. Prima Karya and PT. Karya Paduyasa. The first company specializes in making parts and components for heavy equipment, and it was formally incorporated in 1983, beginning operations with the manufacture of spray cans and agriculture machinery such as hand tractors. The company’s first experience as a subcontractor started in 1985, as it won a contract with a large local conglomerate for manufacturing large quantities of ‘coffee peeler’ machines (but, the contract was later terminated due to the economic crisis in 1997/98).
The second company has three plants, each with a specific production objective, namely for: (i) casting, principally hydrants and fire monitors; (ii) incidental job orders, usually in small lots; and (iii) a stamping process especially for large parts and automotive components. It began by making textile equipment and parts in Jakarta in the 1950’s. After the company moved to Tegal, it diversified into making agriculture tools and machinery. While rapidly diversifying its product base, it improved its productive capability. Among the important achievements of the company was the development of the casting capability to produce hydrants. Hydrant manufacturing was driven by government contract. At the peak of production, the company made around 200 units per month.
The above stories suggest that one thing for sure and this is also valid for other Asian (or ASEAN) countries that not all local MSMEs will benefit from investment (and also trade) liberalization. Also in the case of ASEAN economic community 2015 only local MSMEs which have capacity to improve continuously their technology and technical skills will see the positive effects of it.
By definition, business matching or business-to-business (B2B) refers to business that is conducted between companies. This is in contrast to business to consumer (B2C) and business to government (B2G). A typical supply chain involves multiple business to business transactions, as companies purchase components and other raw materials for use in its manufacturing processes. The finished product can then be sold to individuals via B2C transactions. In many countries, business matching or B2B providers play an important role for many domestic companies to expand their businesses, as B2B providers help them to find new markets, new buyers, new business partners, and new suppliers. In Association of Southeast Asian Nations (Asean), although information on how many companies use the services of B2B providers is limited, it can be expected that, their role is also important, also for small and medium enterprises (SMEs).
In all Aseanmember states there are business matching or B2B providers; although types (e.g. online, exhibition, directory, newsletters) of services provided vary by companies/agencies. The level of development of B2B services also tends to vary by level of economic development. Within Asean, there are more B2B providers in much developed member states such as Singapore than in less developed member states such as Lao PDR and Cambodia. Also services of B2B providers in Singapore are much more comprehensive and sophisticated than the latter states.
In Indonesia, the most popular B2B services providers are the followings: (1) Alibaba.Com: it is among important business matching services providers in Indonesia; (2) Kadin Business Support Desk (BSD): Kadin BSD from the Indonesian Chamber of Commerce and Industry (Kadin Indonesia) introduces entrepreneurs to potential business partners, using the nation-wide business network of Kadin, which covers all major sectors. Whether it is foreign or Indonesian business, BSD focuses on finding the right investment partners, preparing tailored information on investment and business opportunities. BSD also gives advices on policy, regulatory and legal issues, together with a network of partners.
Working closely with the government of Indonesia and business stakeholders, BSD provides an independent view on new opportunities and developments in Indonesia; (3) Virtual Exhibition: it is a service provided by Ministry of Trade of Republic of Indonesia. Directorate for Market Development and Information System under Directorate General for National Export Development (DGNED), which represent a change from National Agency for Export Development (Nafed), has developed the website to assist Indonesia exporters promoting their products. This website aims to exports enhancement of Indonesia through electronic media. While for foreign buyers, the website makes them easy to find any products in Indonesia; (4) Indonesian-Products.biz (IPB): it is the Trading Board special designed for SME from the State Ministry for Cooperative and SMEs.
Before using its services, a firm should become member first, and then it can put its products in the IPB’s website that any potential buyers can see. And when there is a buyer, he/she can buy the product via IPB without necessary to meet directly the producer. Through IPB, the Ministry also provides directory of SME that help or make other companies from domestic as well as international (or from other Asean member states) more easy to find SMEs in all provinces in the country as their business partners. The directory provides important information of individual SMEs, e.g. name of company, address, and type of product, etc.; (5) Indonesian SME Service Center: it is established by Smecda, also from the State Ministry for Cooperative and SME which serves SMEs across the nation by providing information on such as access to finance, human resource, marketing and Intellectual Property Right (IPR).
With respect to marketing, buyers who want to buy SMEs’ products or suppliers or other business agencies who want to do business with SMEs in particular industries can get information through the website of the Center. Indonesian SME seeking for markets abroad or foreign buyers can also get information through the website. The marketing block in the website also provides information on domestic fair. Besides those services, Smecda also organises annual exhibition for SMEs products from all provinces. Even, the Ministry has a special building (SME Tower) where representatives of SMEs from all provinces with their local products can sell their goods there.
Besides exhibitions in Indonesia, the Ministry also gives financial and technical sponsors to selected SMEs to participate in international exhibitions, including annual APEC SME exhibitions; and (6) Indonesian Association of Furniture Producers (Asmindo) provides B2B services by organising trade fairs and business meetings. It has successfully organised annual international exhibition of furniture in Jakarta, called International Furniture Fair Indonesia (Iffina), initiated in five years ago. In this annual exhibition, usually in March, Indonesian furniture producers meet potential international buyers or trading agencies. In fact, among SMEs key sectors-related business associations, Asmindo is the more active association in organising exhibitions. Represented by Asmindo, this year in 2013 Indonesia is the chairman of the Asean Furniture Industrial Council (Afic) (chairman election takes every two years).
However, no evidence is available to shows to what extent local SMEs in Indonesia (as probably in other Asean member states) make a good use of existing B2B services providers, or how many SMEs actively participated in exhibitions organised by both private sector or government, or how many exporting SMEs in the country have visited the website of NAFED of the Ministry of Trade. Nevertheless, how many SMEs in Indonesia use business matching services provided by Trading Board for SME (IPB) can be estimated through its list of SMEs as members.
As by April 2013, the number of SMEs subscribed to the Trading Board is 3358 units across the country. Given that total number of SMEs in Indonesia are around more than 53 million units, so only about 6% of total SME in the country make a use of services provided by the Trading Board. Also how many SMEs participated in annual exhibitions in Jakarta organised by the State Ministry for Cooperative and SMEs can also be obtained as the ministry has the lists of participants. But, certainly total participants every year on average are not more than 100 SMEs.
This very low number of SMEs using the services in Indonesia is not surprise, given the fact that, as one reason, the majority of the enterprises do not use information and communication technology (ICT) or do not use computer or do not have access to internet. National data on SMEs show that less than 10% of total SMEs use computer and not all of them use intensively internet. Other reasons may include too expensive to participate in exhibitions because location of the events is too far (for SMEs located outside Java, for instance) and expensive administration costs (not all SMEs are selected to be sponsored by the ministry, only those which are seen to have a great potential to grow or to export).
It reveals that the main important service providers for SMEs in Indonesia, especially micro and small enterprises (MSEs), are traders, collectors, suppliers and customers. Even foreign tourists play a crucial role in the case of furniture producers and exporters in Jepara in the province of Central Java, Indonesia, which is among the popular export-oriented SME clusters in Indonesia. Many of these enterprises export their made furniture and foreign tourists have played as the main important intermediate agents in linking them with foreign markets. Because of those services providers, many owners of SMEs, especially MSEs, do not see seeking information through websites or to participate in exhibitions as necessary since their market is already taken care by traders or collectors, or foreign tourists in the case of Jepara.
But, of course, this is not a good sign that SMEs are fully depending on traders or collectors. To growth SMEs must fully independent in the sense that the owners must make themselves any necessary business decisions, not done by traders or collectors, and they must have fully knowledge about markets they serve or wish to serve. Thus, two actions should be taken by both government and private sector, e.g. chamber of commerce and business/industry association. First, capacity building supports for SMEs that make them able to use ICT and to have access to internet. Second, to socialise or to inform SMEs about existing B2B agencies and their types of services that they can make a good use to expand their businesses.
Clustering is not only a common economic phenomenon, but also a common industrial organisation among micro, small and medium enterprises (MSMEs), especially so where they produce similar or complementary products concentrating in a certain area. In developing countries, clustering of MSMEs tends to emerge especially in small towns and villages or in confined segments of large cities.
Indonesia has a very long tradition of MSME clusters, and especially clustering of manufacturing MSMEs is a highly significant phenomenon. Within this group of enterprises, micro and small enterprises (MSEs) tend more than medium-sized businesses to cluster geographically and according to manufacturing subsector. Currently, there are more than 10,000 identified clusters of MSMEs scattered around the country. However, the majority of them are located in Java island with 69.05% compared to Sumatera island with less than 12%, or Kalimantan island with less than 5% and less than 1% in Maluku and Papua. These clusters are found in many industries, including craft, furniture, food processing, refractory bricks, roof tiles, wearing apparel, iron, and steel basic products, and many of these clusters are also export-oriented, although some of them do export indirectly through production or commercial subcontracting arrangements with large firms or trading companies.
Most MSME clusters in Indonesia were established naturally as traditional activities of local communities whose production of specific products have long been proceeding by subsequent generations and the workers have special skills in making such products. Based on comparative advantages of products they made, at least with respect to the abundance of local raw materials and workers who have special skills in making such products, many of these clusters have a large potential to grow. For example, clusters of batik producers, the traditional Indonesian textile, that have long been existence in various districts in Java island such as D.I.Yogyakarta, Pekalongan, Cirebon, Surakarta and Tasikmalaya.
Many of the existing MSME clusters have been supported by the government, under the responsibility of the State Ministry for Cooperative and SME. The supported MSME clusters have been given such as technical assistances, soft loans, trainings, marketing supports and many others. The intensity of the supports varies, however, by cluster, depending on its current condition and performance. Some clusters are helped by the government in almost all aspects of business such as marketing, capital and human resource; while many others which are relatively well-developed are assisted only in, for instance, technology or marketing. The distribution of gpvernment-supported MSME clusters is also not equal among province.
Experiences in many countries show that by clustering individual MSMEs can overcome their constraints such as shortages in capital, technology, information and skilled workers; and difficulties in marketing and in getting raw materials. By working together, individual MSMEs inside clusters are more able to compete in competitive market environment. Through clustering and strong internal as well as external networks, individual MSMEs inside clusters can address their current problems related to size, process of production, marketing and distributions, procurement of raw materials, risks associated especially with unanticipated demand fluctuations or economic downturn, and they can improve their competitive position. Additionally, through co-operations among enterprises inside a cluster, individual MSMEs may take advantages of external economies: presence of suppliers of raw materials, components, machinery, parts and other necessity inputs; presence of workers with required sector-specific skills; and presence of workshops that make or service the machinery and production tools.
For efficiency reason, a cluster of firms will attract traders from surrounding locations to come to the cluster and buy the products produced in it and sell them to distant markets. For traders, buying large amounts from producers in the same location through a single visit certainly reduces transaction costs. It is also more easy and much efficient/less costly for the government, universities, vocational training institutions and other development supporting agencies to provide services and facilities such as technical development and management training, and general facilities such a large machinery for raw material drying and processing into half-finished goods to MSMEs in clusters.
In general, MSMEs clusters can be classified into three (3) types according to their level of development, including their innovation capacity. Each type has their own characteristics such as skills of employees, market coverage and its characteristics, nature of organization, and many other aspects. The first type of clusters which dominated MSME clusters in Indonesia (more than 90%) can be called as 'artisinal' clusters or 'survival' clusters with the following characteristics: mainly micro enterprises (MIEs), low productivity and wage, stagnated (no market expansion), no improvement in production methods (degree of mechanization or computerization is low or even fully manual), very local market (low-income consumers) oriented, used primitive or obsolete tools and equipment, they do not adopt modern organization and management systems, and many producers are illiterate and passive in marketing.
The second type can be called as 'active' clusters with the following key characteristics: most enterprises inside the clusters use higher skilled workers and better technology, they supply national and export markets, the producers are active in marketing, and the degrees of internal networks (among enterprises inside the clusters) as well as external networks between the clusters and other stakeholders such as government, banks, business association, university, chamber of commerce, and so on, are high. The third type are 'dynamic' or 'advanced' clusters with the following characteristics: the degree of inter-firm specialization and cooperation inside the clusters is high, business networks between enterprises inside the clusters with suppliers of raw materials, components, equipment and other inputs, providers of business services, traders, distributors, and banks are well developed, cooperation with local, regional or even national government, as well as with specialised training and research institutions such as universities is good, and many firms are export-oriented, directly or indirectly through trading houses or exporting companies.
From the literature on cluster development as well as evidence from manly developed countries, it reveals that through a clustering with intensive internal as well as external networks individual firms have capacity to do innovations (in product as well as production process) due to the following reason: clustered MSMEs have the opportunity to adopt new technologies reflected in the use of new equipments, machines, and production tools which is more difficult, if not impossible, for individual firms inside the cluster to that due to their limitation in financial and technical capabilities. Working together among firms inside the clusters makes it possible to adopt what they called 'technological indivisibilities'.
Many cases in Indonesia suggest that innovation adoption did not come about by itself, but it was initiated by various actors or they called as agents of change, which can be some producers inside the clusters or traders or collectors or middlemen who visited regularly the clusters, or even large companies outside the clusters. The large companies were mainly those having subcontracting or other business linkages with some producers inside the clusters. Whereas traders as initiators of innovations were mainly those who regularly visit the clusters and when they spot new domestic or export market opportunities they asked the producers inside the clusters to do some changes in their products or their production process in order to meet that market opportunities. In some other clusters suppliers of equipment were found as the pioneers in doing innovation.
One successful cluster in innovation is the furniture cluster in the district of Jepara, in the province of Central Java. Producers in the clusters are motivated entrepreneurs who do steadily innovation in both product (i.e. new designed furniture) and production process. In the mid-1980s many firms in the cluster started to export, with the top-ten exporting firms controlled of up to 50% of the cluster’s total exports.
A major breakthrough for the cluster in export was the participation of many firms from the cluster in a big trade fair in Bali in 1989, and since then the products of this cluster have become known not only for domestic consumers but also foreign buyers. At the time, the cluster’s exports were aimed at the low-income segment of the markets in the destinated countries, and recently heavy competition has been rising from other wood-based furniture producing countries such as China, Vietnam and Cambodia. The strong export performance allowed the cluster to weather the drop in domestic demand as a result of the 1997/98 Asian financial crisis in Indonesia.
The cluster’s export also benefited from the improvement of the harbor in the capital of Central Java, Semarang, which facilitated door-to-door container transports, improved credit facilities, and saw greater participation of foreign buyers, traders, wholesalers, and raw material suppliers in the industry. In addition, the visits of foreign tourists to Jepara also played an important role in boosting the export capacity of this cluster. Foreign tourists, who have contributed to as much as 25% of the total furniture exports of Jepara, became a major intermediary between Indonesian firms and international customers, and played an important role in the expansion of order-driven production, tailored to the quickly changing customers’ preferences. The long experience of this cluster shows that foreign tourists as well as traders, wholesalers, and suppliers of raw materials have played a crucial role in initiating innovation in the cluster.
Unfortunately, clusters like this one in Jepara are very few. The majority of total MSMEs clusters in Indonesia are from the first type that lack of all necessary resources for innovation including skilled workers, capital, networks and entrepreneurship. This type of clusters has a long way to go before they become innovative clusters. From Indonesian experience, it reveals that clusters from the second type and/or especially from the third type are in much better position to do innovations.
These innovative clusters have common characteristics that can be considered as success factors that relate to certain aspects including market served, specific knowledge and skill of entrepreneurs and their employees, individual characteristics of entrepreneurs/producers (e.g. their willingness to do non-stop innovation activities that led to making and marketing new and better products, to improve their organisation and management, to learn from other successful entrepreneurs experiences), internal organization, types of supports and their quality provided from government (e.g. training, technical and marketing assistance, special credit scheme), active role of self-organisation in supporting or assisting local clusters, and external networking between firms inside clusters and local providers of education/training, technology and technical assistance.
From a worldwide perspective, it has been recognised that micro, small and medium enterprises (MSMEs) play a vital role in economic development as they have been the primary sources of job/employment creation and output growth. Even now it is generally believed that sustainable and inclusive development of economies in Asia and other developing regions in the world depend to a large extent on the vibrant private sector, in particular MSMEs.
However, recently in Indonesia (as also probably in other Asian developing countries), the attention of the government on their contribution to the national economy has shifted from their role as employment generators, to their potential role as the main engine for export growth. This is especially true for manufactured goods, either directly or indirectly through production linkages that can take place in the form of subcontracting arrangements with exporting large enterprises (LEs), including multinational companies. Indonesian MSMEs are also expected to engage actively as suppliers of certain intermediate goods or components and spare parts within a regional or even global supply chains. This new paradigm shift of the role of MSMEs is simply based on the fact that these enterprises are indeed important because they create a lot of employment, but it is not enough; they should also generate high value-added products and this can only be done through export, especially through finished goods.
But the question that the Indonesian government has been asking a lot and the point that they have showcased doubt on, is the capability of MSMEs playing this new role, particularly the micro and small enterprises (MSEs). This comes from the fact that traditionally Indonesian MSMEs are domestic market-oriented. Although exact numbers are hardly available, it is generally believed that only a small percentage of a total of more than 50 million MSMEs in the country are exporting, and the percentage becomes negligible if only those who does direct exports are considered.
Based on available data from the Indonesian Statistics Agency (BPS), the export share from manufacturing industry only shows not more than 20% of the sector's total export value. Although official data on MSMEs’ exports in Asian developing countries are either not available or difficult to verify, as a comparison, export shares of MSMEs in many other countries are much higher than that.
For instance, MSMEs in China are estimated to export around 40% to 64% of total export value of the country. In Chinese Taipei this category of enterprises has about 60% share in total export, and in Thailand it is estimated around 40%. There are, however, some countries in the region with MSMEs export shares not better than Indonesia or lower, e.g. Vietnam 20%, Malaysia 19% and Bangladesh around 11%.
There is a number of reasons why a vast majority of Indonesian MSMEs are domestic market-oriented. The most important one is their lack of four main inputs. Theya are namely (i) technology and skilled manpower (thus, they cannot produce highly competitive goods that meet world standards); (ii) information especially on market potentials (are not in par with current changes of market demand/taste), trade regulations at domestic as well as regional (e.g. in the context of ASEAN and APEC) and international levels (e.g. WTO); (iii) global business or marketing strategies, and (iv) capital for financing export activities.
Especially for MSEs, doing international marketing directly is too costly as they have to deal with promotion, marketing, distribution, and communications, export license, transportation and logistic. The extent of those individual constraints may, however, differ from industry to industry, from region to region, between rural and urban areas, or among individual enterprises within a group of industry.
But, the above mentioned constraints are common to a vast majority of MSMEs in the country. Their lack of information is especially caused by two main factors: (a) lack of skilled manpower on how to find or to identify the right information that they really need and how to understand the meaning of their accessed information to doing. In addition to the above mentioned constraints, lack of access to trade facilitations (TFs) is also often stated as another important reason why many MSMEs in the country having difficulties in doing export or are not competitive in export markets. As for export-oriented LEs, TFs are no doubt also important for exporting MSMEs as TFs reduces trade transaction costs which means higher competitiveness and thus higher export volume.
Nevertheless, national data in the past 4 decades may suggest that Indonesian MSMEs do have a great export potential, not only for cultural-based goods, products using available local raw materials, and traditional labour-intensive simple consumption goods, but also for intermediate and capital goods (at least for certain components and parts), and others from the category of medium to low-based technologies. Recent data shows that, based on total value, their top 10 export goods are textile and garment; iron steel; machinery; automotive components; rubber-based products; electronics; manufactured copper, tin, etc.; pulp and paper;products from wood, bamboo and rattan, including furniture; basic metal; food and beverages; a variety of leather products including footwear; and manufactured palm/palm oil. 2011 data shows that the latter product is in the first rank among their top 10 goods, which exported to such as euro zone (Europe) countries, Japan and the United States. In the second rank are textile and garment. The most important foreign market for Indonesian textile and garment is US and some European countries. In 2006, the Indonesian MSMEs’ export volume for textile and garment reached nearly 1.9 billion kg, with a total value of US$ 9.4 billion.
One important characteristic of export-oriented MSMEs in Indonesia isthat those who make similar products tend to form a cluster. Clusters of MSMEs are indeed common in Indonesia, with the grouping of MSMEs in the manufacturing sector according to group of industry has been regarded as a significant phenomenon. The clustering of MSMEs tends to emerge in small town and villages, or in confined segments of large cities. Based on most recent data from the State Ministry for Cooperative and SME, in 2010 alone, there were more than 400 MSME clusters that were assisted by the government, with some of these clusters being export-oriented. Island of Java has the largest proportion of MSME clusters, as well as export-oriented MSME clusters. This simply suggests that MSMEs in the island are more export-oriented than those located in other parts of the country.
Among the popular export-oriented MSME clusters in Indonesia is the furniture cluster in the district of Jepara, in the province of Central Java. In the mid-1980s many firms in the cluster started to export, with the top 10 exporting firms controlled of up to 50% of the cluster’s total exports. A major breakthrough for the cluster in export was the participation of many firms from the cluster in a big trade fair in Bali in 1989, and since then the products of this cluster have become known not only for domestic consumers but also foreign buyers. At the time, the cluster’s exports were aimed at the low-income segment of the markets in the destinated countries, and recently heavy competition has been rising from other wood-based furniture producing countries such as China, Vietnam and Cambodia.
The strong export performance allowed the cluster to weather the drop in domestic demand as a result of the 1997/98 Asian financial crisis in Indonesia. The cluster’s export also benefited from the improvement of the harbor in the capital of Central Java, Semarang, which facilitated door-to-door container transports, improved credit facilities, and saw greater participation of foreign buyers, traders, wholesalers and producers in the industry. In addition, the visits of foreign tourists to Jepara also played an important role in boosting the export capacity of this cluster. Foreign tourists, who have contributed to as much as 25% of the total furniture exports of Jepara, became a major intermediary between Indonesian firms and international customers, and played an important role in the expansion of order-driven production, tailored to the quickly changing customers’ preferences.
Indonesian export-oriented MSMEs have other two additional important features. First, many of those which do export, do not sell all of their products abroad but they also serve the domestic market. Recent data on MSEs in the manufacturing industry show that most of them are fully domestic market-oriented, and from those doing export, only a small portion of them serve export markets fully.
Second, the majority of those doing export do not pursue export directly, but instead indirectly through intermediaries, such as traders, trading houses, or large-sized exporting LEs. These intermediary agencies usually collect products from or give orders to MSMEs, and, in this respect, play an important role in deciding designs, prices, technologies and the timing of the production. Such MSMEs are involved in the so-called buyer-driven commodity chains. Intermediaries link MSMEs to international markets and provide a range of bundled services to the latter that include pre-financing of production, market access, technology and skills upgrading, advice on designs, advice on patent rights, and so on. In such networks, MSMEs and their workers receive compensation mainly for their skills and hours worked. MSMEs have very limited involvement in activities outside direct production, while much input provision, marketing output, as well as their involvement in upgrading their enterprises is limited since much of the decision on the product development aspect is handled by the buyers. For instance, in the case of food exports, as among key exported products of Indonesian MSMEs comes from smallholders and fishermen who grow food crops or collect seafood and fish and they depend on the processing and exporting capacity of larger firms.
There are at least two main reasons for many MSMEs to be engaged in export indirectly through this system. First, doing direct export is too expensive and difficult for many MSMEs, particularly MSEs with limited resources such as financial capital and skills. Secondly, exporting can be viewed as a risky business due to the unpredictable nature of a foreign market in comparison to the domestic market. Thus, doing export indirectly through intermediate agencies is generally accepted as the appropriate strategy for MSMEs to be involved in international trade, particularly for the beginners.
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