Development of SOEs: The policymaking angle

The most common debate on the state-owned enterprises (SOEs) rests on the premise that the government should not be in business. “There is no business for the government to be in business” is a formula advocated by liberal economists, including economic experts of the International Monetary Fund (IMF) and 
World Bank.
 

Role of government 
And yes, it is generally true that government bureaucracy is not equipped to manage economic resources effectively. The private sector, with entrepreneurially-driven executives, is far more capable in creating economic value as a major source of wealth of a nation.  
The question is whether one formula could be applied universally? I would submit that since social, political and economic maturity of nations of the world is not equal, each country requires a different or at least an adjusted formula to successfully manage its economic resources.  

Competitive forces generally deliver efficient and equitable allocation of economic resources in nations such as the USA and many European countries, where the market economy functions at a nearly perfect state and regulations are credible and enforced. Under such conditions, the government should better leave the ownership and management of enterprises to the private sector. 
The government governs and rules, regulates and incentivizes enterprises to be able to effectively accumulate capital to create wealth for the nation. This is ideal. Unfortunately, the majority of nations do not have these ideal conditions.

The developing nations in particular have specific social and economic missions to accomplish. The governments of these nations need to formulate appropriate economic policies to effectively manage the national assets, particularly those under the SOEs. The government can empower the SOEs to accomplish specific missions such as public service obligations, infrastructure development, price stabilization, etc.
 

Need and backdrop for SOE reform in Indonesia
For almost three decades, under President Soeharto, Indonesia enjoyed sustainable economic growth of 7 percent p.a. However, the economic crisis of 1998 destroyed almost all economic institutions. The banking industry, dominated by SOEs, collapsed. The local currency depreciated from Rp.2,000 to Rp.10,000 for US $ 1. 
The Indonesian economy experienced a 14 percent negative growth. With fiscal deficit rising from one percent of gross domestic product (GDP) in 1997 to 8.5 percent in 1998, the Government of Indonesia had to turn to the IMF and World Bank for help. One of the IMF’s conditions under the Letter of Intent (LOI) was to quickly privatize the SOEs as new source of revenue to alleviate the acute problem of fiscal deficit. The IMF had put pressures on the government to follow a fast-track privatization process.

Prior to East Asia’s economic crisis in 1998, Indonesia had 158 SOEs with total assets equivalent to US $ 200 billion managed under 17 ministries. These companies were engaged in economic sectors strategic and vital to the nation, such as oil and gas, mineral resources, infrastructure, plantations and financial institutions. These SOEs were extremely powerful, as well as sources of corruption and monopolized all industry sectors.  
Obviously, they were not efficient and were unable to create value for the government, for monopolies are generally never efficient. From the perspectives of capital allocation and appropriation, the majority of SOEs destroyed value and with the impact of local currency devaluation, total assets of the 158 SOEs were reduced to US $ 100 billion.
In this context, the government had little choice but to establish an institutional framework for SOE reform that would maximize the government’s receipts from privatization as well as taxes and dividends from improved profitability.   
 

Establishing SOE Ministry 
Creating a new ministry dedicated to overlook the SOEs was a political as well as economic necessity at the time, especially to comply with the IMF pressures for fast tracking privatization.
Despite the apparent need for a new ministry, setting it up was not straightforward. First, there was resistance from elements within the government to the new ministry taking control of 158 SOEs and second, as a new minister, I had to organise the new ministry and establish a management team.  

  
The establishment of the SOE Ministry brought a major transformation of the management of national assets and economic resources as outlined below.
n The ministry transferred the management and control of 158 SOEs from 17 ministries to a single ministry – a complicated bureaucratic and administrative process. A strong and unwavering commitment by the government made a significant contribution to managing resistance to change. 

• The ministry fostered a total change in the way these SOEs were to be managed from bureaucratic monopolistic culture driven 

to a competitive culture focused on delivering efficiency.

• The roles of the 17 technical ministries changed from the power of managing and controlling the 158 SOEs to regulating and providing the policies that apply to both the state and private sector. Clear separation in the function and the roles between the SOE Ministry as operator and technical ministries as regulator is of utmost importance. The SOE Ministry is empowered to manage all the SOEs as business entities capable of competing in a market-driven economy. Only in such conditions can the SOEs be restructured and transformed into efficient and competitive corporations. The technical ministries (Finance Ministry, Industry, Energy, etc.) provide policies and regulations conducive to the development of all economic actors with different corporate structure and ownership, which include the SOEs. These ministries, as the regulator, manage the macro aspect of the relevant industry, while the SOE Ministry, as the operator, is responsible for micro managing all the SOEs to deliver value for the government.

With the creation of the SOE Ministry, the SOEs were given a specific mission – to create value through profitable operation. This could only be done by way of restructuring, particularly since the majority of the SOEs were not profitable. Restructuring, as means of transformation, could involve an individual SOE or a merger of several SOEs.  
 

An individual transformation: Garuda case 
Garuda, the national airline, was technically bankrupt as the financial crisis hit Indonesia early in 1998. Garuda had accumulated losses for seven consecutive years resulting in the company having to accumulate loans totalling US $ 1.6 billion, while its equity was negative US $ 300 million. 

The options for the government were: (1) Close down Garuda – politically unacceptable as Garuda is the national flag carrier. (2) Sell or privatize Garuda – wrong timing – Garuda was valued only US $ 1. (3) Restructuring by total management transformation – the only acceptable option. It was a true miracle that Garuda was turned around to a profit-making enterprise in less than two years. 
In 2011 (13 years later), Garuda went public through the Jakarta Stock Exchange with capitalization of US $ 1.6 billion (value had been created from US $ 1 to US $ 1.6 billion). The government still holds a 69.14 percent stake in the airline. The Garuda case proves that profitability through restructuring can be achieved while maintaining the state’s interest in an enterprise.
 

Restructuring through mergers: Indonesian banking industry 
Restructuring could also take the form of merger. Four state-owned banks collapsed as a result of the financial crisis in Indonesia. These banks had an average of 65 percent non-performing loans – technically, they were all bankrupt.

The four banks were merged into a new entity – Bank Mandiri – in order to create scale and efficiency under a new professional management. Bank Mandiri was listed on July 14, 2003 with today’s market capitalization of US $ 20 billion. Crucially, the government still holds 60 percent in the bank, which again is testament to the fact the SOEs can be turned around through reform while not relinquishing the state’s interest in these enterprises. 
 

Synergies and maintaining state interest in reform 
The way forward for SOEs is to develop and implement sectorial holdings so as to create scale and synergy to be globally competitive. This strategy is in line with the mission of creating value for the SOEs and not through privatization. (By definition, privatization is to relinquish government control of the SOEs or when the government ownership is less than 50 percent). 
Public or private sector participation in the SOEs can still be done through minority listing, giving concession or joint ventures with the private sector, including foreign partners to inject new capital, technology and management expertise or global market access.  

Government control of SOEs is essential for developing nations. The government can empower the SOEs to become the driver of its economy and fulfil social aspirations. Synergy among SOEs is extremely powerful to drive development in different sectors of the economy. The SOEs in Indonesia not only contribute significantly toward the government’s fiscal income but also the development of the capital market, small and medium enterprises (SMEs) and as a countervailing power to economic factors, where competition is required to drive economic efficiency. 
Restructuring is required to transform SOEs from bureaucratically controlled to market-driven and efficient corporate management. A significant value gap could be achieved by improving the operation, strategy 
and consolidation. 

(Dr. Tanri Abeng was Indonesia’s first State-Owned Enterprises Minister and holds over four decades of experience at the helm of private corporations, serving in government and heading public institutions. He is Chairman of Pertamina, an Indonesian state-owned oil and natural gas corporation based in Jakarta and Newcrest Mining Limited Indonesia. He is also presently Publisher of Globe Asia and President Commissioner of PT Alcatel-Lucent Indonesia)