Indonesia’s Accession to the OECD Could Help Institutionalise Its Fickle Reforms

If Indonesia is serious about its dreams of becoming a high-income country by 2045, it must improve the quality of institutions. Empirical evidence shows that the quality of institutions trumps geography and even economic integration in determining income levels around the world. Indonesia’s accession to the OECD may be the reform journey that fosters institutional deepening and helps sustain long-term economic growth.

Indonesia has come a long way in improving the quality of its institutions. Indonesia’s most consequential institutional reforms came after the Asian Financial Crisis of 1997-1998 which marked the beginning of Indonesia’s Reformasi era after three decades of autocratic, centralised rule. Among the reforms were the “big bang” decentralisation, national and regional direct elections, macroeconomic and financial reforms (the adoption of the Maastricht Treaty and the Basel principles), and the establishment of an independent Corruption Eradication Commission. These reforms have contributed to Indonesia’s much-vaunted political stability and economic momentum.

However, despite its progress, institutional reforms are fickle, as recently shown in Indonesia’s drastically worsened corruption perception scores and democratic backsliding, significantly due to resistance by an entrenched oligarchy. These could threaten Indonesia’s long-term growth. Poor economic and political institutions undermine economic growth and create an unequal distribution of resources and political power, which reproduces poor economic and political institutions in the next period, perpetuating a vicious cycle. Importantly, in the case of Indonesia, where politics is financed by political machines and oligarchs, productivity-seeking innovation often finds itself overshadowed by rent-seeking activities, ultimately hindering the prospects for productivity-led economic growth. 

Indonesia’s proactive efforts to join international organisations and forums provide a valuable opportunity to redirect attention towards improving institutions, most fundamentally in the judicial, anti-corruption and law enforcement bodies, as well as the key agencies addressing climate change and environmental compliance. There is ample evidence showing how accession to international organizations can “lock-in” or institutionalise difficult domestic reforms by embedding domestic policies in an international institution. Indonesia’s membership to the WTO, G20 and COP, for example, has helped Indonesia align closer to international standards and global governance. More recently, accession to the Financial Action Task Force in 2023 requires Indonesia to align its legislation, policies and practices with international standards in combating money laundering. 

Therefore, Indonesia’s decision this year to accede to the OECD is a step in the right direction as it may spur Indonesia to lock-in its nascent reforms. As announced by Indonesia’s Coordinating Minister of Economic Affairs, Airlangga Hartarto, the government’s decision, under President Joko Widodo’s administration, was based on the consideration that institutional reforms by adhering to the OECD’s high regulatory standards would be a way to achieve Grand Indonesia 2045 Vision. Indonesia’s aim to complete the accession process within two to three years signals that this accession is a priority for Indonesia.

It is too early to tell whether Prabowo will continue with OECD accession when he assumes the Presidency this October – or whether he will withdraw from the process and revert to the à la carte pattern of cooperation.

Formerly known as the Europe-North American centric, Cold War-era ‘club of the rich’, the OECD has been enlarging its membership since the early 1990s. New membership, especially from Latin America (all U.S. FTA signatory countries) and Eastern Europe (all European Union members), shows the expanding role of the OECD in the new, post-Cold-War international scene, while the OECD membership composition has been maintained to avoid imbalance in favour of Europe, or the U.S., in the organisation. Indonesia is the first from Southeast Asia to formally request for an accession discussion. 

Under the OECD standard, after a country makes the formal request to open an accession process, its candidacy will be considered against a “like-mindedness” test with reference to the OECD fundamental values as articulated in the Framework for the Consideration of Prospective Members. Should the OECD agree to open accession discussion, the prospective member presents an Initial Memorandum specifying its position with respect to the 268 OECD legal instruments and identifying policy gaps. 

Technical reviews and negotiations will follow until the final decision to membership is reached by unanimity. An accession process usually takes five to eight years although a full membership is not guaranteed for any country. Costa Rica was the last country to be accepted in 2021 while Brazil, Argentina, Bulgaria, Croatia, Peru and Romania are among the countries that have opened accession discussions besides Indonesia.

Indonesia’s application to OECD membership is ambitious as it involves aligning domestic policies to the 268 OECD legal instruments. However, it is a signal of Indonesia’s long-term fervent commitment to reforms, and follows on the country’s established engagements with the OECD. Indonesia signed its Framework of Cooperation Agreement with the OECD to institutionalise specific cooperations in 2012. This agreement, structured around a Joint Work Programme (JWP) which was developed in close consultation with key policy makers and OECD directorates, was renewed in 2017 and 2022. The latest 2022-2025 JWP has the overarching objectives of promoting a resilient, sustainable and inclusive recovery from the Covid-19 pandemic, and of supporting Indonesia’s National Medium-Term Development Plan 2020-2025. By 2020, Indonesia had already adhered to 15 OECD legal instruments, including tax compliance and digital economy, but this amounted to a rather à la carte selection.

Indonesia’s accession process, through more comprehensive technical reviews and negotiations, is where the rubber hits the road. Although the OECD provides international standards, country-specific adjustments are necessary to fit into Indonesia’s informal constraints and social norms, as well as law enforcement capacity. The challenge of alignment with OECD standards will be greatest in the areas of corruption (including bribery in international trade licencing), environmental compliance, tax crimes, transborder data flows, corporate governance in state-owned enterprises, labour standards, trade openness, as well as reinforcing democracy. These reforms will be politically costly in the short run.

Indeed, the accession process is not merely technical but is decidedly political – domestically and between countries. Past accessions show that OECD member countries may provide political backing for successful accession. Hence, Indonesia will also need to engage in strategic diplomacy. The US, the UK, and Australia are among the 33 countries that have shown support for Indonesia’s accession while Israel has raised objections.

It is too early to tell whether Prabowo will continue with OECD accession when he assumes the presidency this October – or whether he will withdraw from the process and revert to the à la carte pattern of cooperation. His administration will have to weigh the trade-offs between short-run costs and long-term benefits. Ultimately, the outcome rests on whether Prabowo has the appetite to invest political capital in the laborious work of institutional reform.

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