Reforming Policies for Small and Medium-Sized Enterprises in Indonesia

SUMMARY
Small and medium-sized enterprises (SMEs) are critical for emerging economies like Indonesia but simultaneously challenging for policymakers looking to support their growth. Including micro firms (companies with fewer than five employees), SMEs are responsible for more than 97 percent of total employment in Indonesia and represent 99 percent of all firms (Mourougane 2012).

Small firms tend to be labour intensive and relatively unproductive, typically using outdated or less sophisticated technologies to produce goods. As a consequence, SMEs produce only 57 percent of Indonesia’s total value-added output (Mourougane 2012). A central challenge for the Indonesian government is how to encourage SMEs to grow so that they and the industries they operate in can benefit from the dynamics of economies of scale, contribute to national economic growth and provide more employment opportunities for Indonesians. This report addresses the basic but difficult question of what limits growth for Indonesian SMEs and what role the government should play in fostering their growth.

Although we can gain many insights on SMEs from high-quality national surveys, existing data sources in Indonesia do not allow researchers and policymakers to understand in detail the reasons behind the challenges that SMEs face. Many aspects of the decisions that SMEs make, their business environment and their production functions are difficult to measure quantitatively. To provide an in-depth understanding of the constraints they face and to evaluate the effectiveness of existing policies that attempt to alleviate those constraints, we designed and fielded a new mixed-methods survey, the 2014 RAND and AKATIGA SME Survey (R+A SME survey). We administered this survey to a purposive sample of 192 Indonesian SMEs in August 2014. Our goal in designing and fielding the survey was to develop a deeper understanding of SMEs in Indonesia and how they interact with the existing policy environment. While the sample of firms was selected to cover multiple sectors and geographic regions, this survey was not designed to be nationally representative. Instead of surveying the smallest and most vulnerable firms, our focus was on the challenges faced by slightly larger SMEs that were more growth-oriented. We interviewed firms from seven different industries across four provinces.

To guide our data collection and subsequent analysis, we developed a basic analytical framework for understanding the various decisions that SMEs make. This framework borrows from the economic theory of the firm and involves a precise formulation of the objectives that SMEs are trying to achieve and the constraints they face when making decisions that affect their business operations.1 The framework is built around owners of a small firm who are trying to operate the business, maximise profits and determine how to expand. The owners combine basic inputs to production – labour, production technologies and physical capital – with their financial capacity and management ability to produce output. To be successful, they must identify intermediate or final consumers who demand their products and conduct their production and sales activities within the broader business environment, driven by rules, regulations, and institutional norms determined by the Indonesian government and the market environment.

Despite the variety of constraints that firms could face in doing business, two problems emerged as most important: (1) credit constraints and (2) access to information. Credit constraints were the most frequently cited challenge for doing business, preventing firms from expanding and investing in new technologies that would lead to growth. Many of the firms we interviewed felt that the terms of credit offered to them by banks were too expensive, with exorbitant interest rates and difficult collateral requirements, and this was why they decided not to pursue formal sources of financial capital.

The final report of this study was published by RAND.

Find out more

  • Year

    2014 – 2015

  • Activity

    Research

  • Location

    Jabodetabek, Bandung, Solo, Pekalongan, Jepara Medan, Aceh, Makassar, Toraja.

  • Coordinator

    Nicholas Burger

  • Researchers

    Charina Chazali, Arya Gaduh, Alexander D. Rothenberg, Indrasari Tjandraningsih and Sarah Weilant.

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