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The Petroleum Industry and the Economic Development of Indonesia: Technical Progress and Long-Run Output Growth

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The Petroleum Industry and the Economic Development of Indonesia: Technical Progress and Long-Run Output Growth THE PETROLEUM INDUSTRY AND THE ECONOMIC DEVELOPMENT OF INDONESIA: TECHNICAL PROGRESS AND LONG-RUN OUTPUT GROWTH HERU ISWAHYUDI Bachelor of Applied Science Master of Management This thesis is submitted for the degree of Doctor of Business Administration of Murdoch University 2016 Declaration I declare that this thesis is my own account of my research and contains as its main content work which has not previously been submitted for a degree at any tertiary education institution. ……………………………. Heru Iswahyudi i Abstract The purpose of this thesis is to estimate the total factor productivity (TFP) growth of the Indonesian petroleum industry utilising the growth accounting framework pioneered by Solow (1956, 1957) and Swan (1956). To broaden the scope of this study, the productivity growth of the non-petroleum industries, together with estimates for the aggregate economy, will also be conducted. Utilising data from Indonesia‟s Central Board of Statistics and the Executive Agency for Upstream Oil and Gas Activity, this study explores the period between 1991 and 2010. The study found that during the period of 1991-2003, the growth rate of petroleum TFP was negative. This negative trend was reversed during the period of 2004-2010 where petroleum TFP showed significant positive growth. The reforms of the early 2000s appeared to have resulted in this acceleration of TFP growth. On the other hand, the growth of TFP in the non- petroleum industries and the aggregate economy showed a declining trend after the Asian financial crisis of 1997/1998. This decline in TFP growth was likely to be linked to three possible circumstances that could make productivity improvements in the economy very challenging: low institutional quality, declining investment in infrastructure and creeping economic protectionism. The examination of Indonesia‟s various production structures begins with a historical perspective not only because the counterfactual cannot be tested, but it would also set a background for productivity analysis carried out in the following chapters. In doing so, a much broader and deeper analysis of the evolution of technological progress (as captured by TFP growth) in Indonesia is provided. As Nelson (1996, p. 6) once wrote “…economists doing formal growth theory have, for the most part, paid far too little attention to the qualitative historical record”. ii Table of Contents Chapter 1 Introduction ...................................................................................................... 1 1.1 Introduction ........................................................................................................ 1 1.2 Gap in the literature ............................................................................................ 1 1.2.1 Studies within the framework of the neoclassical model of growth ........... 1 1.2.2 The petroleum industry and economic growth............................................ 3 1.3 Scope and aims of research ................................................................................ 5 1.4 Methodology ...................................................................................................... 6 1.5 Structure of the thesis ......................................................................................... 6 Chapter 2 Theoretical Framework .................................................................................... 8 2.1 Introduction ........................................................................................................ 8 2.2 The neoclassical growth model of Solow-Swan ................................................ 8 2.3 Capital controversy ........................................................................................... 12 2.4 Total factor productivity ................................................................................... 15 2.5 Resources depletion, growth and technological progress................................. 21 2.6 Summary .......................................................................................................... 24 Chapter 3 Development of the Petroleum Industry and the Economy of Indonesia ....... 26 3.1 Introduction ...................................................................................................... 26 3.2 Pre-independence: A historical sketch ............................................................. 26 3.3 Early years of independence and the Soekarno era .......................................... 28 3.4 Soeharto era: Free from oil? ............................................................................. 31 3.4.1 Consolidation of national oil companies ................................................... 31 3.4.2 Oil boom ................................................................................................... 32 3.4.3 Oil bust, deregulation and the crisis of 1997/1998 ................................... 35 3.5 Reformation era: Net oil importer and unfavourable investment climate ........ 39 3.6 Policy development in Indonesia‟s petroleum industry ................................... 42 iii 3.6.1 Soekarno era .............................................................................................. 43 3.6.2 Soeharto era ............................................................................................... 44 3.6.3 Reformation era ......................................................................................... 47 3.7 Development of the Indonesian production sharing contract ........................... 47 3.8 Indonesian economic development policy, 1990-2010 .................................... 49 3.8.1 1991-1997: Soeharto era ........................................................................... 50 3.8.2 1998-2003: Transition and adjustment period .......................................... 54 3.8.3 2004-2010: Stabilisation period ................................................................ 57 3.9 Summary .......................................................................................................... 59 Chapter 4 The Variables for Growth Accounting ........................................................... 60 4.1 Introduction ...................................................................................................... 60 4.2 Output ............................................................................................................... 60 4.2.1 Output in the petroleum sector .................................................................. 60 4.2.2 Output in the non-petroleum sectors ......................................................... 65 4.3 Capital stock ..................................................................................................... 84 4.3.1 Capital stock in the petroleum sector ........................................................ 84 4.3.2 Capital stock in the non-petroleum sectors ............................................... 91 4.4 Labour .............................................................................................................. 98 4.4.1 Labour in the petroleum sector ................................................................. 98 4.4.2 Labour in the non-petroleum sectors....................................................... 100 4.5 Indonesian labour market ............................................................................... 108 4.5.1 Brief overview of the Indonesian labour market..................................... 108 4.5.2 Development of labour market policies in Indonesia ............................. 114 4.5.3 Severance pay.......................................................................................... 116 4.5.4 Fixed-term contract and sub-contracting ................................................ 117 4.5.5 Minimum wages ...................................................................................... 118 4.6 Summary ........................................................................................................ 119 Chapter 5 TFP Growth in the Aggregate Economy ...................................................... 120 iv 5.1 Introduction .................................................................................................... 120 5.2 The model ....................................................................................................... 120 5.2.1 Data sources ............................................................................................ 120 5.2.2 Model specifications: Discussions of variables ...................................... 121 5.2.3 Estimation of α (capital‟s share) in the aggregate economy ................... 122 5.3 Estimation of aggregate TFP growth .............................................................. 124 5.4 Summary ........................................................................................................ 131 Chapter 6 TFP Growth in the Petroleum Sector ........................................................... 133 6.1 Introduction .................................................................................................... 133 6.2 Data sources ................................................................................................... 133 6.3 Model specifications ....................................................................................... 136 6.3.1 Estimation of α (capital‟s share) in the petroleum sector........................ 137 6.4 Estimation of TFP in the petroleum sector ....................................................
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