AMsebastian Comparative Politics 2012 04 13: State Capacity and Deregulation in the Philippines and...

State Capacity and Deregulation: The Philippines and Indonesia Compared

Asuncion M. Sebastian Comparative Politics DVS540P Dr. Antoinette Raquiza April 13, 2012

State Capacity and Deregulation: The Philippines and Indonesia Compared Introduction

Building on the works of Fukuyama (2004) and Williamson (2003), this paper

discusses state capacity and deregulation—one of the three major thrusts of

structural adjustment program (SAP), the two others being trade liberalization and

privatization. The SAP was embodied in the Washington Consensus implemented in

Latin America; however, essentially the same program was adapted by the member-‐

countries of the Association of the South East Asian Nations (ASEAN) in the nineties,

which became a period of opening of their economies to global trade and

competition.

Using the deregulation experiences of the Philippines and Indonesia, this paper

argues that 1) state capacity, specifically its aspect of organizational design and

management, is necessary for deregulation programs to achieve the desired

development goals and 2) technological innovations resulting from deregulation

break down monopolies and promote market efficiency, thereby contributing to the

attainment of those goals. These arguments are represented in the diagram below.

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Scope

Trade liberalization, deregulation, and privatization are different yet interrelated

concepts and are often implemented together under the SAP. This paper focuses

only on deregulation, herein defined as the “easing of barriers to entry and exit [into

the market, without] abolishing regulations designed for safety and environmental

reasons” (Williamson, The Washington Consensus and Beyond, 2003) and “are

intended to influence how firms operate, (having) no controls over capital

movements” (Williamson, Beijing Consensus Versus Washington Consensus, 2010).

Since deregulation does not involve transfer and/of exchange of assets, its

implementation is less complicated and controversial, and its supporting evidence,

more transparent than that of trade liberalization and privatization.

The discussion will not cover the financial sector, as Indonesia was way ahead of the

Philippines in opening its capital markets, making their cases incomparable. It will

instead focus on select industries that require heavy investment on infrastructure

thus justifying their original state as monopolistic markets (or the “natural

monopoly” industries). These industries include air transportation, automobile,

telecommunications, and electric power generation. Oil industry is not included in

the analysis because Indonesia is a net oil exporter while the Philippines, in

contrast, is a net oil importer.

Rationale for the Cases

This paper presents Philippines and Indonesia as cases of similar characteristics and

contexts with differing results of implementation of deregulation, with the latter

having economic and social performance than the former.

Geographically, both Philippines and Indonesia are archipelagic—the Philippines is

composed of 7,107 islands and Indonesia, 13,670. (Buendia, 2002) Both countries

are also susceptible to natural calamities—typhoons and volcanic eruptions in the

Philippines, earthquakes and tsunamis in Indonesia. These features pose a major

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challenge to industries that require heavy investment in physical infrastructure in

order to move goods and service, including those cited earlier as part of this study—

air transportation, automobile, telecommunications, and electric power generation.

Demographically, both countries have diverse cultures, languages, and religions. The

Philippine population is estimated at 77 million (17th largest in the world as of 2002,

which has grown to 94 million by 2010) with 110 ethno-‐linguistic and cultural

groups spread over 77 provinces (as of 2002, which has numbered 80 in 2011). On

the other hand, Indonesia has a population of 213 million (4th largest in the world as

of 2002, which has grown to over 248 million by 2012), speaking 250 languages,

spread over 32 provinces. (Buendia, 2002) This, combined with the countries’

geographic features, makes disparity in development an inevitable problem.

Politically integrating a diverse people is also concern for the government.

Historically, neither country has been a nation prior to colonial rule of the European

countries, which gave both countries common experience (or common enemy for

that matter) that compelled the people to unite. The Philippines was under the

Spanish rule for more than 370 years (400 years of colonialism to include American

occupation) while Indonesia was under the Dutch power for 350 years. (Buendia,

2002) The post-‐colonial state capacity building for the two countries should

therefore not differ much.

Consequently, both countries are characterized by clientelism, patronage, and

corruption so much so that the interests of the government and those of large

businesses cannot readily be separated, and that public economic policies reflect the

interest of the few elites. (Ghosh, 1996) In the Philippines, the “incredibly corrupt

Marcos dictatorship” was overthrown by the Aquino administration that did not

have the ability to eradicate the rent-‐seeking behavior of the president’s kin.

(Brilliantes, 1993) In Indonesia, the first family has “a stake in almost every

important commodity or service in the country”. Thus some people viewed

deregulation as a test to the president’s willingness to sacrifice his and his family’s

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interest—the results were mixed. (Liddle, 1988) While in many cases the monopoly

markets are “natural monopolies”, Indonesia’s was known to be “plastic

monopolies” because these were monopolies only by the virtue of being linked to

the first family. (Soesastro, 1989)

In the eighties and nineties, Indonesia was widely known to be more corrupt than

the Philippines with its Vice President admitting that corruption reached “epidemic

proportions in the bureaucracy and the business.” (Bello, 2009) Thus, corruption

could not be blamed for the Philippines’ ineffective deregulation and poor economic

performance in general. “Kung walang corrupt, walang mahirap” may not hold water

if various economies like Indonesia would be examined.

However, Philippines and Indonesia also differ in some ways. Under the post-‐

colonial regime, the Philippines adopted the unitary structure of governance and

institutions of democracy from the Americans. However, this kind of democracy,

opined Lee Kuan Yew of Singapore in his analysis of why the country has difficulty

in economic take-‐off, does not work in the Philippines. (Brilliantes, 1993) On the

other hand, Indonesia, under the powerful leadership of its first president Sukarno,

used the indigenous village system of governance, which espoused functional rather

than party representation, and consensus deliberation rather than partisan election.

(Buendia, 2002) This kind of orientation could explain why the policies, especially

those under the second president Suharto were pro-‐indigenous and protectionist in

nature.

As a reflection of the countries’ political system and culture, the Indonesian

government as a whole determined who the “beneficiaries” of structural

adjustments would be (which were the conglomerates) while in the Philippines, in

the absence of a cohesive political system, patterns of recipients was “less planned,

less clear, and less predictable…with different groups (winning some and losing

some)”. (Milne, 1992) This, however, does not mean that Indonesia’s institutional

design (as discussed by Fukuyama) is any stronger than the Philippines’s. The

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former’s dependence on the power of its leader, Suharto, rendered the state

unresponsive unless Suharto personally gave approval; thus the nation was shaken

when Suharto fell critically ill in 1997. (Bird, 1997)

In terms of the market, Indonesia is different from the Philippines in that the

number of local/indigenous firms is smaller and the local Chinese are less well

assimilated. In Indonesia, too, it is a basic objective to promote local

entrepreneurship to accelerate transfer of the management of foreign-‐owned

enterprises into local, private enterprises. (Milne, 1992)

Theoretical Background

Fukuyama (2004) argued that there was nothing wrong in the Washington

Consensus per se, only that as the states needed to be cut back in certain areas—for

example, through reduction of subsidies and tariff protection, privatization, and

deregulation—they also needed to be strengthened in others. He defined state

strength or capacity as its “power or ability to plan and execute policies and to

enforce laws cleanly and transparently”. The four main components of state capacity

are the following: 1) organizational design and management; 2) institutional design

or political system; 3) basis of legitimization; and 4) social and cultural factors. Of

these components, what is deemed most appropriate in the discussion of

deregulation is organizational design and management, which combines the

discipline of management, public administration, and economics. Moreover,

Fukuyama recommended that developing states focus on this aspect on state

building because it can be “manipulated and built”. Hence, the analysis of the two

country cases—Philippines and Indonesia—shall center on this particular

component of state capacity.

Milne (1992), supportive of Fukuyama’s point, asserted that the nature of

government largely dictates whether (structural adjustment program) can or

cannot be implemented consistently and successfully. Bello (2009) also cited the

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case of the Philippines’ neighboring ASEAN countries: these states may have played

a less aggressive role but an active state posture manifested in industrial policy,

protectionism, mercantilism, and intrusive regulation was central in their

industrialization.

In support of these authors’ argument, this paper proposes that state capacity is

necessary for the scope-reduction programs such as deregulation to be

effective in achieving national development goals. Goals may vary across

nations: market efficiency as in the case of the Philippines; or development of non-‐

oil export capacity for macroeconomic stability or strengthening of local enterprises

in the case of Indonesia; or provision of quality and reliable supply of basic needs to

the public for some, for exmaple.

Looking back at the Washington Consensus, following are the lessons that can be

culled from the experience: 1) income distribution must be considered (Williamson,

The Washington Consensus and Beyond, 2003); 2) the program should be done

during the period of rapid growth, not crisis (Williamson, The Washington

Consensus and Beyond, 2003); 3) the idea of deregulation should not be taken too

broadly (Williamson, Beijing Consensus Versus Washington Consensus, 2010); and

4) having a government that delivers is important (Williamson, Beijing Consensus

Versus Washington Consensus, 2010). These caveats, which could very well fall

under the banner of “organizational design and management”, will be included in

the country analyses.

Bowen and Leinbach (1995) concluded thus: where public enterprise is natural

monopoly, deregulation may not produce the desired increase in competition. A

natural monopoly is characterized by scale economies required for efficiency and

profitability to recoup huge investments in capital, thus providing “natural” barriers

to entry of other, most often smaller, players. Examples are petroleum refining,

tobacco products, glass products, and non-‐ferrous metals. Other industries may

appear to be natural monopolies when in fact the market simply happens to be

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relatively small for a large firm—among these industries are professional

equipment, footwear, ceramics, and metal furniture. (Hill, 2003)

Although the above observation on natural monopolies may not be completely

inaccurate, this paper further argues that technological innovation that results

from deregulated, competitive environment breaks down monopolies,

although a deregulated, competitive environment does not always produce

technological innovation. Innovation allows the players to compete in aspects other

than price; if products and services are undifferentiated and players can compete

only through cutthroat pricing—which shrewd businesspeople will least likely do—

then the industry may only consolidate into a duopoly, or at best oligopoly and

cartels, despite deregulation. Perhaps, the role of technological innovation in

determining the success of structural policies is this paper’s main contribution.

Deregulation in Indonesia

The country’s dependence on oil revenues and the decline in world oil prices in

1986, coupled with the rise in interest rates and the appreciation of yen, caused the

rupiah to plummet and Indonesia’s foreign debt to bloat. At this time, several major

reforms were introduced, including modern tax system, promotion of non-‐oil

exports, reduction of trade barriers or select products, and deregulation of select

industries (e.g. service industries remained closed to foreign investors and

agricultural and handicraft sectors to medium-‐ and large-‐scale enterprises, both

domestic and foreign). (Fane, 1996) Thus, “Indonesian deregulation can be seen as a

pragmatic response to an economic situation…(and) Indonesia’s policymaking

processes should not be viewed as mechanical or unilateral”. (Soesastro, 1989;

Bowen & Leinbach, 1995)

Further, since Indonesia had other sources of credit, it was not beholden to the

development agencies for funds; and because the adjustment occurred without the

tutelage of the International Monetary Fund and the World Bank, it could afford to

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ignore (and it did) certain features of the package and deregulation remained

minimal (if not selective). (Ghosh, 1996)

The eighties were known to be Indonesia’s “decade of deregulation”. (Soesastro,

1989) The country implemented deregulation more widely than privatization in

promoting market efficiency, for the latter may actually mean “ strengthening the

market at the expense of the state.” (Milne, 1992; Fane, 1996) In Fukuyama’s term,

privatization may mean limiting state scope while also diminishing state capacity.

What was also surprising was that while other countries reacted to the shock by

imposing exchange controls and import licensing, Indonesia emphasized

deregulation. As to why the country did not implement such open policy in the

earlier decades, often the answer given is “bad times mean good policies”. (Liddle,

1988; Fane, 1996; Bird, 1997)

Although the state implemented market-‐oriented policies in the eighties and

nineties, up to Suharto’s term in May 1998, the state had remained the most

important economic actor. These market-‐oriented policies were aimed at

“deepening the country’s industrial structure, creating a heavy-‐industry nucleus

around which to center the economy”. This strategy included the development of an

automobile industry, an integrated steel complex, a shipbuilding complex, and an

aircraft industry. (Bello, 2009) Alongside with this program were the

implementation of local content schemes and selective tax exemptions intended to

protect individual firms. (Fane, 1996) Indonesia’s strategic and selective policies

only show that the country did not adopt structural adjustment lock stock and

barrel—again an indication of state capacity.

Indeed, the country’s deregulation policies were well thought out. In general, the

state mandates that the benefits of deregulation and economic growth must be

widely and evenly spread, and that the development of the rural areas should be

considered continuously. (Soesastro, 1989) In fact, the economic nationalists (to be

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described in the next paragraph) feared that foreign interest may dominate the key

sectors and that wealth discrepancies between the conglomerates and the

disadvantaged group may become worse under deregulation. (Hein, 1990)

Specifically, certain caveats were highlighted: 1) if singularly pursued to promote

non-‐oil export, deregulation may lead to new distortions; 2) if focused heavily on

manufacturing, it could lead to bias against the agricultural sector; 3) deregulation’s

initial impact was on the psyche level, that is, business climate had become more

favorable with its implementation; and 4) there is a need to assess deregulation’s

impact at the industry or sectoral level, especially in the non-‐tradable markets.

(Soesastro, 1989)

Indonesia’s organizational design and management capacity is evident in the

country’s political structure. The head of the state deals with two competing groups

of advisers: 1) the technocrats, many of whom are professional economists that

favor market forces or neoliberalism; and 2) the economic nationalists, many of

whom are engineers who promote large-‐scale, capital-‐intensive projects using

advance technology. The latter group believed that such projects should be state-‐

owned and may need direct government subsidies and protection. (Fane, 1996)

They argued that it is worth paying the short-‐term costs of protectionist policies to

promote the development of state enterprises and indigenous (non-‐Chinese locals)

entrepreneurs who cannot as yet compete in either domestic or world markets.

(Soesastro, 1989) It appears then that Indonesia’s economic development

framework is largely influenced by the economic nationalists.

As of 2000, the following industries in the country had been deregulated: petroleum

and natural gas refineries, electric power generation, telecommunications,

automobile, and certain agricultural commodities. (Asia Pacific Economic

Cooperation, 2000)

Despite the favored groups’ flexing of political muscles to seize business

opportunities, the economic policy reforms achieved the development of a growing

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non-‐oil export market at a minimum. (Liddle, 1988) According to Soesastro (1989),

the aim of deregulation is improved economic performance through a more efficient

resource allocation and the most immediate measure of its success is the growth of

the non-‐oil exports (hitting USD 1 billlion monthly in 1988 and contributing 60

percent to the country’s total export earnings in 1989). The country’s gross

domestic product (GDP) grew by 5.4 percent from 1979 to 1989 and by 7 percent

annually on average from 1990 to 1994. Likewise, poverty incidence decreased in

the rural area from 40.4 percent in 1976 to 16.4 in 1987 and in the urban area from

38.8 percent to 20.1 percent over the same period. (Ghosh, 1996) With these

figures, one can conclude that deregulation worked in Indonesia in propelling the

country’s economic growth and without necessarily aggravating poverty (although

there could be other factors that have influenced the decline in poverty incidence).

In fact, while there is a general perception that the poor bore the costs of structural

adjustments, Balisacan (1995) cited Indonesia as one of the countries whose

transition has not been anti-‐poor.

These results therefore challenges Williamson’s (2003) proposition that structural

adjustment should be done during rapid growth, not during crisis. The whole ASEAN

region was suffering the consequence of international recessionary trends in the

eighties when Indonesia started its deregulation policies. (Bello, 2009) Further, the

outcomes serve as proof of the state’s capacity to formulate and implement

appropriate policies, even at least “during bad times”.

Deregulation in the Philippines

While Indonesia’s decision to adopt structural changes was deemed pragmatic, the

Philippines’s was partly due to its international commitments and partly due to its

own initiative, expecting that open economy would lead to competition, which in

turn would lead to economic efficiency. (Orbeta) With this difference in intention,

the Philippines was at a disadvantage in that it did not have as much freehand as

Indonesia to select and/or calibrate programs that would suit its context.

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Structural adjustment in the country was designed to “alter the balance between the

market and the state in the Philippine economy in order to promote economic

efficiency”. (Bello, 2009) Its implementation was done in three phases: 1) from 1980

to 1983 when the emphasis was trade liberalization; 2) from 1983 to 1992, when

debt repayment became government’s focus; and 3) from 1992 until the turn of the

century, when free-‐market transformation, rapid deregulation, privatization, and

trade and investment liberalization characterized the economy. Structural

adjustment in the second and third phases was seen as a precondition for economic

growth and debt repayment as an “unpleasant but temporary condition”. (Bello,

2009)

Under the regime of President Fidel Ramos beginning in 1992, the country’s

economic strategy centered on economic liberalization, with “concerted attacks” on

cartels and monopolies. In his inauguration, the President explained that the

political dominance of the oligarchic groups—the country’s dominant commercial

families—is the reason why the Philippines lagged so far behind the Asian tigers.

(de Dios & Hutchcroft, 2003)

Bello (2009) argued that the slack in the Philippines’ performance could not be

attributed to pace of economic liberalization, as the country’s start-‐off point did not

differ from its neighbors. Neither could it be attributed to non-‐interventionist states

among its neighbors because they are more intrusively interventionists, including

Indonesia, than the Philippines. He cited two reasons for the Philippines’s below-‐par

economic performance thus: 1) the national priority of debt repayment that

signaled low purchasing power of the Philippines as a market and thus failed to

attract investors; and 2) doctrinal distortion that brought indiscriminate

liberalization instead of the state carefully calibrating policies—a similar point

raised by Williamson (2003) regarding Washington Consensus in that the policy

reforms set were needed by a particular region at a particular time and that they

were not an ideological agenda to be imposed on all countries at any and all times.

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The reforms led to improvements in competition but the gains were not as much as

expected, according to Orbeta (n.d.). The author believed that this was so because

the nature and extent of deregulation may have been inadequate and that the

government continued to control further entry and to regulate prices. These claims

may not prove accurate because in 1996 Asia Money Magazine considered the

Philippines as “one of the most deregulated in Asia” (The Philippines Back in the

Spotlight, 1996). Besides, the Indonesian government, with its deliberately selective

deregulation and high level of regulation even after the reforms, was able to achieve

the objectives of its economic reforms. Orbeta also criticized the Philippines’s local

content requirement as hindrance to firms’ access to more competitive import

products—the same policy that worked well in strengthening the position of the

indigenous entrepreneurs in Indonesia.

In the end, however, Orbeta pointed out the country’s two main challenges, which

this paper supports: 1) too many implementing agencies results in lack of focus,

expertise, and accountability; and 2) there is a danger that regulators become too

intimate with the industry players and thus become eventually beholden to them.

These points are apparent indicators of the state’s weak capacity.

Sadly, the results of the three decades of structural adjustment were damaged

industries such as textile, rubber, and ceramics, among others, while only a modest

level of exportation in garments and electronic assembly was established. (Bello,

2009) Aggregate poverty also rose during the period while GDP remained at the 3-‐

percent range from 1988 to 1991. (Balisacan, 1995)

Deregulation of Select Industries

What can be culled from the previous discussion is that Indonesia has been more

successful than the Philippines in using deregulation as a strategy to achieve both its

economic goal (i.e. development of the non-‐oil export) and social goal (i.e. wide and

even distribution of benefits of deregulation and economic growth). The state was

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able to do this because of its strong capacity to plan and execute policies, although

not necessarily enforcing laws cleanly and transparently, as Fukuyama defined state

capacity.

However, it cannot be assumed that regulatory agencies in all industries in both

countries have uniform capacities. Although Fukuyama (2004) emphasized that

state capacity should be viewed at the central government level and not at the level

of its various agencies, the implementation issues related to regulation would be

better analyzed at the agency level that governs the industries. The following

sections show how Indonesia became successful in deregulating the air transport

and automobile industries, and the Philippines in telecommunications; and how

both did not quite succeed in the electric power generation.

Air Transportation

Many of the Asian newly industrialized countries (NICs) established their flag

carriers during the post-‐war period. At the time, the states could not rely on private

capital to create airlines that would support their national objectives; besides, it was

of ideological importance for the states, at least at that time, to keep direct control

over key sectors of the economy. Further, the states had to ensure that private

companies would not exploit monopolistic profits and that the small, less profitable

markets, which are usually present in developing economies, would be served.

Ironically, the Philippines’s flag carrier Philippine Airlines (PAL), established in

1941, was the only privately owned in ASEAN region put up by industrialists. Other

Asian countries’ flag carriers—Thailand (1947), Korea (1949), China (1950, closely

linked to the Taiwanese government), Indonesia (1950), Malaysia (1972), and

Singapore (1972)—were all state-‐owned. (Bowen & Leinbach, 1995)

In 1973, PAL was awarded a domestic monopoly in exchange for its service to

unprofitable routes, and was eventually nationalized in 1977. While PAL was the

region’s premier international carrier in the early post-‐war period, it was

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overshadowed by its neighboring countries by the eighties. In 1988, PAL’s

monopoly was revoked and in 1992, in line with the Aquino government’s thrust to

dismantle state-‐owned enterprises, the flag carrier was brought back to private

ownership through the sale of shares to a consortium consisting of a few major

players (in contrast to Singapore Airline’s privatization via public-‐share offerings

that prevented concentration of ownership among few individuals). (Bowen &

Leinbach, 1995) No new entrant in the market came until the mid-‐nineties with the

launching of Cebu Pacific—a classic example that deregulation does not necessarily

attract new players or investors. One may ask then if the decision to nationalize PAL

and later to privatize it, through sale of shares to few individuals at that, was

grounded on pragmatic economic principles.

In the case of Indonesia, the state deregulated the airline industry in the eighties,

opening it to private players—which were all related to the President’s family—

while keeping Garuda, the flag carrier, under state ownership. However, Garuda

remained protected despite the presence of multiple carriers. Until 1989, Garuda

was the only Indonesian carrier allowed to operate jet aircraft. Moreover, other

privately-‐owned airlines were not allowed to undercut Garuda by more than 15

percent, were restricted to operate in less profitable routes, and were allowed to fly

only three times for every seven domestic flights served by Garuda. (Bowen &

Leinbach, 1995)

Sempati, owned by a conglomerate controlled by one of President Suharto’s sons,

entered the Indonesian domestic market in 1989 and the international market in

1991. Through its international operations, the private company acquired foreign

currencies that enabled it to acquire Dutch-‐made Fokker aircrafts. The Dutch

manufacturer in turn partnered with a local manufacturer IPTN for production of

certain components of the Fokker jets. Thus, in the end, these private company-‐

initiated arrangements facilitated technology transfer to Indonesia. (Bowen &

Leinbach, 1995)

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As pointed out by Bowen and Leinbach (1995), political leverage in the airline

industry may come from two sources: 1) a firm’s political clout based on its ability

to fulfill important government policy objectives and 2) leadership of the airline by

politically influential personalities. While Sempati illustrates the first case, PAL is an

example of the second. No hard data on these airlines’ business and developmental

performances were provided but the fact that Indonesia has overtaken the

Philippines in terms of both access/routes in the international flights and number of

players in the industry proves that deregulation has worked better in Indonesia

than in the Philippines.

The airline industry case thus supports the arguments that 1) who owns the

enterprises is not as crucial as the capacity of the state to define development

objectives, set sound policy framework, and regulate and 2) that technology plays a

key role in breaking monopolistic barriers and achieving efficiency, which could not

be achieved solely through deregulation of the market.

Automobile

The Philippine automobile industry suffered the same fate as the airline. Despite its

early lead in the region in the sixties, its operations proved inefficient beginning in

the seventies and by mid-‐nineties it was overtaken by Indonesia’s production, which

was three times more than the Philippines’s output. (Hill, 2003)

Indonesia, on the other hand, protected and strengthened its deregulated

automobile industry through the national car policy. The policy stipulated that

producer must be 100 percent Indonesian-‐owned, must use Indonesian brand

name, must develop local technology, and must satisfy local-‐content requirements

(that is, from 20 percent by the end of first year, to 40 percent by the end of second

year, to 60 percent by the end of third year). (Fane, 1996)

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Again, the same arguments are supported by the experience of the two countries in

automobile industry: 1) ownership of enterprises is not as crucial as the capacity of

the state in organizational design and management and, in this case, in promoting

efficiency despite protectionist policies; and 2) that technological innovation, more

than deregulation policy that does not automatically attract investors, is crucial in

development.

Telecommunications

Prior to deregulation, the privately owned Philippine Long Distance Company

(PLDT) enjoyed a monopoly power in the telecommunications industry for 65 years.

With the underdeveloped industry then, telephone density was around 1 percent

and complaints on poor service quality was estimated at 17 percent per month,

higher than Indonesia’s 9 percent. (Abrenica & Llanto, 2003)

Mercado-‐Aldaba (2000) blamed it on the misguided policy and the weak and

corrupt regulatory structure of the government. The opening of the market to new

players in 1991 and subsequently the mandate of interconnection among networks

in 1993 eroded the dominance of PLDT and created nine new, privately owned

telecommunications companies. The country was recognized to be among the first

11 countries to allow competition in the local facilities and among the first 14 to de-‐

monopolize the provision of international telephone services. (Abrenica & Llanto,

2003) The result was an increase in telephone density of 8.07 percent in 1997 and

in absolute growth in mainlines from 3.2 percent before deregulation to 18.2

percent after policy reforms. (Mercado-‐Albada, 2000)

The emergence of mobile technology was also instrumental in breaking the barriers

inherent in telecommunications, especially in archipelagic countries like the

Philippines and Indonesia. Since the digital technology does not require land-‐based

infrastructure (i.e. networks of copper wires) for connection, it is able to reach the

far-‐flung islands and highlands, thus addressing the age-‐old issue of access to

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services in the country. Aside from the absence of physical barriers in digital

technology, the carrying capacity of mobile transmission towers is several times

larger than that of fixed lines so that the service fees come out very cheap, thus

addressing the problem of affordability. Finally, the short message service (SMS or

“texting”) feature of the mobile technology—which has gone way too low with the

unlimited packages offered by the mobile companies—combined with the

affordable mobile handsets—again, a product of technological innovation—has

redefined the way people communicate. Whatever problems there still are in the

fixed line segment in the Philippines, they seem to have been addressed by the

presence of other means of communication, thanks to mobile technology. Today,

there are many available fixed lines that remained unsubscribed because of the

presence of mobile services.

However, this technological innovation has regulatory implications as well. With the

process becoming more complex with the fast-‐developing technology, regulators

also need to up their technical skills to catch up with it. Since mobile technology

quickly became popular in the Philippine market, “regulators faced a unique

challenge in addressing interconnection problems of mobile carriers—prior to this,

no other market in the world had drafted and enforced rules on private mobile

carriers (previous experience involve fixed line carriers).” (Mirandilla, 2007)

Further, mobile technology is now used in banking services in the Philippines,

involving transfers of electronic money—something that required a new set of

competence from the regulators. The National Telecommunication Commission

(NTC) is tasked to regulate the mobile companies while the Bangko Sentral ng

Pilipinas (BSP), the banking sector. The two agencies agreed that the BSP would

take the forefront in regulating mobile banking, which necessitated the agency to

train its examiners in handling mobile-‐based transactions and processes. In this

aspect, the Philippines showed competence in its (banking sector-‐wise) regulatory

functions.

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However, the same cannot be said of the NTC. The success of the mobile sector is not

in any way indication that regulation (or the lack of it) that created the problem in

the first place prior to policy reforms has improved. Today, the number of mobile

players has declined from six firms in 2003 to only two in 2012 as a result of merger

and acquisition. The mobile industry maybe a win for the Philippines because of the

access and affordable services the people now enjoy but unless regulation is

strengthened, the dominant player PLDT will always try to prevent competition

either by squeezing the smaller players out of the market or buying them out. As

pointed out by Abrenica and Llanto (2003), past experience shows that NTC leaves

critical issues such as interconnection points and charges to contracting parties that

do not necessarily have equal bargaining powers. Therefore, unless level playing

field is ensured, the dominant player will always protect its turf.

In Indonesia, on the other hand, although the government started loosening its grip

on the telecommunications industry as early as 1989, mobile phone players did not

enter the market until 19991 and duopoly in fixed line was mandated until 2005. In

the early nineties, the country engaged in build-‐operate-‐transfer (BOT) schemes

with overseas telecommunications companies that later either exited the deal or

went to court. The failure of BOT was attributed to different factors: bureaucracy in

the partly state-‐owned network Telkom, political instability, Asian financial crisis,

and corruption. (Zita)

Indonesia’s second attempt to liberalize its telecommunications industry was

through privatization in 2002—something inconsistent with the country’s dominant

strategy of deregulation under Suharto’s regime—with the shares of the two state-‐

owned companied being bought by Singaporean government’s investment arm and

a Malaysian firm. Meanwhile, the Indonesian Telecommunications Regulatory

Agency became operational only in 2004. (Zita)

1 Other source indicated various timelines between 1994 and 1996.

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The result: fixed line density was estimated at 4 percent while the mobile density

was at 8.1 percent in 2003. These figures earned for the country the reputation as

“the least developed (telecommunications) in Asia”. (Zita) These figures pale in

comparison with the Philippines, where mobile subscribers grew from 66,000 in

1991 to 22 million in 2003 (Sebastian, 2005) reaching a density of 35 percent; by

2009 mobile density was already 100 percent. (Commission on Information and

Communications Technology , 2010) Perhaps Indonesia joined the

telecommunications bandwagon a bit too late—either that or the changing of guards

after Suharto’s resignation in 1998 was too frequent that the state was unable to

create an environment conducive to new investments.

The countries’ experience in telecommunications industry highlighted the role of

technological innovations in changing the rules of the games and the need of

regulators to build their capacity in terms of technical competence and facilities. It

can also be hypothesized that whatever NTC lacked in regulatory capacity,

technological innovations in the mobile market have made up for it, so that the

industry deregulation resulted in both economic and social benefits, even to the

disadvantaged groups. Further, the case proves that the implementation issues

related to regulation should be examined at the agency/industry level because of

the varying levels of preparedness and competence of the regulators, as exemplified

by the BSP and the NTC.

Electric Power Generation

In the height of power failures in the Philippines, the Ramos administration in the

early nineties opened the electric power market to privately owned independent

power producers (IPPs). In its intent to attract investors, the Ramos administration

entered into contracts where the government-‐run National Power Corporation

absorbed the risks inherent in such investment to protect the private producers—

market risk (government assured purchases of all energy produced by the power

generators), supply risk (government assured purchases all inputs such as coal and

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oil), and even foreign exchange risk. The Philippine Center for Investigative

Journalism also pointed out that the Ramos administration “pushed for the speedy

approval of some of the most expensive deals and justified signing more contracts.”

(Malaluan, 2002)

The 35 IPPs that entered the market reported to have built an additional capacity of

8,000 megawatts, supplying more than 50 percent of the country’s need. (Bello,

2009) However, because of lower installation costs, most producers preferred

petroleum-‐based facilities even if they would entail high risks in terms of price and

environmental management. The high costs of power were then passed on to the

consumers. Hence unsurprisingly, the cost of electricity in Manila (USD0.181 per

kilowatt hour) is much higher than in the industrialized Japan (USD0.179 per

kilowatt hour) and the highest in Asia. (Main Business, 2011)

On hindsight, Llanto (in Bello, 2009) concluded that “no government guarantee

should be given to shield private investors from commercial risks…(and that) the

government forgot to deal with the need to have an independent regulatory

capacity, leaving regulatory institutions open to opportunistic political

interventions.” (This is the same reason for the failure in the privatization of the

water sector: lack of regulation.)

Indonesia, on the other hand, realized during the 1997 Asian financial crisis that the

IPP model entails high price of electricity for the end-‐users and thus introduced

policy reforms. This move caused the geothermal power sector to slow down such

that by 2005, it only had 807-‐megawatt (MW) capacity from geothermal plants

when its potential was estimated at 27 gigawatt electrical (GWe). By 2003, the

country enacted the Geothermal Law, which stated that the government would

engage in exploration and production, taking on the field development risk, to lower

the power rates. At the same time, the government deregulated the downstream

energy sector, allowing multiple buyers and sellers in power generation and

distribution and prioritizing the renewable energy for domestic needs. Despite

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these deregulation policies, the government still maintained control over the use of

energy sources in the country (Suryantoro, Dwipa, Ariati, & Darma, 2005), which

stood in stark contrast with the Philippines’s weak regulation.

In terms of geothermal capacity, the Philippines has outdone Indonesia with its

2,000-‐MW power capacity. Indonesia expected to install 2,445-‐MW geothermal

capacity by 2012. (Suryantoro, Dwipa, Ariati, & Darma, 2005)

Due to heavy government subsidy, however, Indonesia has managed to keep its

rates lower than that of the Philippines. Thus, price cannot be used as basis for

comparison of the two countries’ performance.

As of 2002, the total energy supply in Indonesia that stood at 663 million barrels of

oil equivalent (BOE) exceeded the demand at 430 million BOE. (Suryantoro, Dwipa,

Ariati, & Darma, 2005) Beginning 2010 though, Indonesia had started experiencing

power shortages and suffered from low electrification rate and uneven distribution

of electricity.

On the other hand, the Philippines was expected to have experienced power

shortages beginning 2008 escalating until 2014 unless investments in additional

capacity would be made during the said period. (Department of Energy, 2004)

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Hence, one country is not necessarily better than the other as far as electric power

generation is concerned. The Philippines’s loosely regulated energy market and IPP-‐

based model, and Indonesia’s heavily regulated and subsidized sector with

reformed policies (veering away from the IPPs) both resulted in shortage and high-‐

cost of electric power supply. As to what could the explanatory variables for this

phenomenon would be another research question that neither state capacity or

technological innovation could account for.

Conclusion

In general, Indonesia has been more successful than the Philippines in using

deregulation as a strategy to achieve both its economic goal (i.e. development of the

non-‐oil export) and social goal (i.e. wide and even distribution of benefits of

deregulation and economic growth). The country was able to do so because of its

strong state capacity, i.e. organizational design and management, manifested in the

following:

Clear developmental priorities such as promoting regional growth (in the

eastern part of the archipelago) through deregulation, the air transport

policies for example

Pragmatic and selective adoption of the SAP

Market-‐oriented policies that aimed at deepening the country’s industrial

structure and that did not make open economy as an end in itself

Conscious promotion of wide and even distribution of benefits of

deregulation and economic growth and initiatives to at least not aggravate

the wealth discrepancies between the conglomerates and the disadvantaged

group

Recognition of the need to assess deregulation’s impact at the industry or

sectoral level, especially in the non-‐tradable markets

Control over key sectors

Promotion of the development of state enterprises and indigenous

entrepreneurs that justified the country’s protectionist policies

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Strong regulatory functions despite market-‐oriented policies

Indonesia proves that ownership—private is efficient and public is inefficient—does

not matter any more. There are successful state-‐run or state-‐owned enterprises that

are able to employ effective management, high corporate autonomy, and

technological innovations. (Bello, 2009)

Indonesia’s performance also challenges Williamson’s argument that structural

adjustment should not be done during crisis. The country did exactly that and bad

times came to mean good policies in its case.

The industry examples in this paper—air transportation, automobile,

telecommunications, and electric power generation, all of which used to be natural

monopolies—also prove that aside from state capacity, technological innovation is

indeed key in successful deregulation. In the case of the Philippines, technology

must have even compensated the weak regulators in the telecommunications

industry. Deregulation in the banking sector, although beyond the scope of this

paper, would not have been successful either without advance information and

communication technology.

It would be interesting to know how the Philippines could strengthen its state

capacity, particularly in the area of regulation. Except for the likes of the BSP,

regulatory agencies in the country in general are criticized for lack of focus,

expertise, and accountability, and for their too close a relationship with the industry

players that they tend to become beholden to them. However, if state officials

remain advocates of neoliberal ideas—taking the concept of deregulation as leaving

everything to market forces and reducing the state role to a minimum, among other

things—then building state capacity would be futile cause.

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