Raising Indonesian labor productivity - Emma Allen

The Asian Development Bank
Allen, Emma R

A May Day rally in Indonesia © AP

Indonesia boasts the fourth-largest workforce in the world and by far the largest in Southeast Asia. The country's dynamic, youthful labor force has made it a magnet for foreign investment and been a driver of economic growth over the past two decades.

But Indonesia is now at the end of a resources boom, requiring adjustments for tougher times. The economy has not been creating jobs and there is an urgent need for businesses and government to work together to ensure that Indonesia remains Southeast Asia's engine of growth and opportunity.

According to a review of Indonesia's labor market by the Asian Development Bank, there are several constraints that need to be addressed. One in every two workers can be classified as under-qualified for their job. A majority of people work on temporary or informal contracts and are unlikely to have had certified training to improve their skills.

Average wage growth has been slow, rising at less than 2% a year in real terms over the last five years. Though minimum wages have increased rapidly, statutory non-compliance is high, with one in every two regular employees earning below the legal threshold.

Breaking from these trends is crucial and has been a major focus of Joko Widodo's administration which in 2014 introduced a new development agenda known as Nawa Cita, or "nine goals." It places a strong emphasis on improving living standards and increasing productivity and competitiveness. Progress towards this policy agenda will require more and better jobs and a more productive workforce.

There has been some progress over the last five years. Regular wage employment has expanded to 46 million from 35 million five years ago. Recent trends in labor productivity also seem quite encouraging, with data showing an average rise of 4.3% a year in real terms between 2010 and 2015. However, digging a little deeper, it is apparent that recent increases in labor productivity are more related to slow job growth than efficiency gains. More people are working as regular employees, but their contracts are mostly short term.

More improvements are needed in at least three key areas: a better linking of wages and productivity; an improved combination of flexibility for enterprises and security for workers; and the strengthening of systems and incentives for skills formation.

First, gains in labor productivity are essential for the economy as a whole to maintain competitiveness. A necessary ingredient for inclusive growth is the maintenance of linkages between wages and productivity. Workers in high-productivity sectors such as manufacturing have seen significant increases in real wages. Unfortunately, this link has been broken in many other sectors.

There are clear benefits for ensuring that wages move in line with productivity. For employers, linking real wage growth to productivity implies stable real unit labor costs and profit growth in line with productivity growth. For workers, alignment can provide a more direct link between their skills, efforts and remuneration. Productive dialogue between employers and labor around gain-sharing can translate into better-quality jobs for workers while enhancing the sustainability of enterprises.

In addition, a productive dialogue on wages and productivity is important at a broader level, as trends indicate that pay gains won through the raising of the minimum wage have not filtered through to all workers. Compliance is low, average wages have stagnated and job growth has slowed.