Some studies in developing countries took place in Latin America and Africa, with fewer studies in East and Southeast Asia. Unlike the controversies in the West, the general conclusion is that minimum wage increases in developing countries have had
8 Indonesia's OEI development in 1 980s and 1 990s was centred on TGF manufacturing which depended on low wages. The focus of the minimum wage policy was improving conditions for workers in these sectors (See Chapters IV and V for details).
detrimental effects on employment and wages. Results of these studies confirm and strengthen the detrimental effects of minimum wage increases. A study by Freeman and Freeman ( 1 99 1 ) in Puerto Rico shows that applying a U.S. minimum wage in Puerto Rico resulted in substantial losses in employment and altered the allocation of labour across industries. The reason for this highly significant effect was that a high proportion of workers in Puerto Rico earn less than the minimum wage.
Bell ( 1 995) conducted a comparative study on the impact of minimum wage in Mexico and Columbia. Based on a cross-section and time series evidence of manufacturing firms in both countries, she found contrasting results. In Mexico, minimum wages had a negligible impact on employment and wages, whereas in Columbia the impact was significantly negative. In Mexico, she contends that the minimum wage policy is not effective because there is considerable non-compliance, especially for part-time and female workers in the informal sector. Many workers, especially in the informal sector, were paid wages below the minimum wage. In Colombia, on the other hand, the minimum wage has a much stronger impact on wages, even though the majority of the sample for the panel data analysis were in large cities, where firms were relatively large and more stable (Bell, 1 995, p. 1 4).
Another study by Maloney and Nunez (200 1 ), on the impact of minimum wage in Colombia, concurs with Bell's findings and suggests a more severe distortionary effect of minimum wage on wage distribution and employment. They found that in Latin American countries, in which they use Colombia as an example, a trade-off between poverty and reduced flexibility of the labour market is likely to be more severe in Latin America than in The United States. A rise in minimum wages had a highly significant impact on employment. In addition, they also argue that there is likely to be an adverse impact of the minimum wage on the informal sector.
A study by Livingstone ( 1 995), on minimum wage policy in Malawi, concludes that minimum wage policy is not the answer to increasing the wage of workers. He argues that the minimum wage policy creates a widening wage gap between the wages in large scale and small-scale enterprises. The reason is that large enterprises tend to pay workers minimum wages, whereas smaller enterprises generally did not. He suggests instead that a more effective way was to raise the supply price of labour by improving
the fann and non-farm mcomes of the rural households, through agricultural intensification and other measures (Livingstone, p. 75 1 ). Another study on the minimum wage effect in Africa by Jones ( 1 997) also concludes that there is a detrimental effect of minimum wage increases on formal sector employees in Ghanian manufacturing. She adds that there was also some evidence that displaced workers from the fonnal sector ended up working in the informal sector.
WaIT (2004) entertains the prospect of raising the minimum wages as a poverty reduction strategy in Thailand. Like Indonesia, Thailand has been undergoing a decentralisation process and one of these aims is poverty reduction. Although he did not perfonn any empirical analysis, he concludes that increasing minimum wages would have two effects on the incomes of workers who receive minimum wages. Firstly, the incomes of those who retain their jobs and actually receive the minimum wages will increase. Secondly, the incomes of those who lose their jobs, because their labour becomes more costly to employers, will decrease. Since the recipients of minimum wages tend to be non-poor, he concludes that the minimum wage policy in Thailand is not a good instrument for poverty reduction.
Table 3.1 Selected Empirical Studies on the Employment Impact of the Minimum Wage Policy in Developing Countries
STUDIES Country Method Used Results
BY
Freeman and Puerto Rico Time series and Significant loss of employment due to appl ication of United States minimum wages
Freeman ( 1 99 1 ) cross industry in Puerto Rico.
analysis
Livingstone Malawi Descriptive M in imum wage creates a widening wage gap between the formal sector and an
( 1 995) Statistics equi l ibrium wage rate.
Bel l ( 1 996) Mexico and Panel Data Insignificant employment impact of minimum wage increases in Mexico, but
Colombia Analysis significant disemployment impact in Colombia.
Lustig and Developing Cross country M inimum wage i ncrease associated with short term poverty reduction, but this causes McLeod ( 1 996) countries (Latin analysis unemployment.
America, Asia and
Africa)
Jones ( 1 997) Ghana Time series and Increase in minimum wages causes reduction in formal sector jobs and increases in
cross-sectional informal sector jobs. There was evidence of displaced workers joining the informal
analysis sector.
Maloney and Latin American Panel data Adverse impact of min imum wage increases on formal sector employment and the
N unez (200 1 ) Countries - Analysis informal sector. Negative impact from increases in minimum wages is h igher than
Colombia those in industrialized countries.
Saget (200 1 ) Developing Cross country The effect of minimum wage levels on employment appears to be insignificant and
countries (Asia, analysis decent minimum wages might help poverty.
Latin America and
Africa)
Warr (2004) Thai land None Minimum wage increases are not a good pol icy for poverty reduction because
An albeit more positive outcome of the minimum wage policy came from studies which combined data from developing countries in Latin America, Asia and Africa. A study by Lustig and McLeod ( 1 996) reveals that increasing minimum wages is associated with poverty reduction. However, the study also concludes that increases in minimum wages also causes unemployment and cautions on the use of the minimum wage policy as an instrument for poverty reduction. On the other hand, a study by Saget (200 l ), using similar cross-country analysis of comparable developing countries, supports the application of minimum wage policy for poverty reduction and a guarantee of decent work. She concludes that higher minimum wage is associated with lower levels of poverty in developing countries and provides unskilled workers with a decent living.
Summary
The minimum wage debate clearly shows that the minimum wage policy can be beneficial and also detrimental to employment, depending on the conditions and empirical evidence. The traditional economic theory suggests that, under perfect competition, an increase in minimum wage can create disemployment in the formal sector and increase employment and depress wages in the informal sector. A counter argument, pioneered by the studies of Card and Krueger, suggests that the minimum wage need not have a detrimental impact on employment. Nonetheless, results of minimum wage studies from developing countries appear to lean towards a negative effect.
In addition, there are other reasons why the minimum wage policy should be imposed. Firstly, the minimum wage is consistent with the notion of human rights where a person has the right to work and receive fair wages. The minimum wage provides fair wages to workers. By setting the minimum wage level at the basic cost of living, the minimum wage ensures basic necessities to workers. Secondly, the minimum wage does not have direct budgetary consequences to a government. Thus, development funds can be diverted to other uses. Above all, minimum wages are not just a symbol but also represent a genuine effort on the part of the government to pay more attention to workers.
More importantly, the minimum wage policy is a political commodity. It was political pressure that allowed the minimum wage to be vigorously pursued by the Indonesian government in the 1 990s. This government would not want a repeat of the labour riots in the past, which had the potential to destabilise the economy, particularly when it is still recovering from this crisis. It has also been suggested that politics were involved in recent high minimum wage increases in 200 1 and 2002. The imposition of the minimum wage policy and the levels set are likely to be dependent on political as well as economic factors. Therefore, the continuous debate on minimum wage policy, and other non-economic factors that affect the setting of minimum wages justify the holistic approach taken by this thesis.
The ambiguity of empirical studies, on the effect of the minimum wage policy, also justifies the need to apply a holistic approach. The main contention of the debate is that empirical studies, in developed and developing countries, often contradict each other. Studies in developed countries generally agree with the neo-classical view of the negative employment impact of minimum wage policy. However, recent studies challenge that perception and some even argue that, under certain conditions, minimum wage increases need not have a detrimental impact on employment. With regards to developing countries, there are also studies that exonerate the negative perception of the minimum wage policy. However, most argue that the minimum wage policy is ineffective in addressing the problem of poverty because most of the poor work in the informal sector and are therefore not covered by the policy.
Despite its shortcomings, especially in relation to its impact on employment, the minimum wage policy, i.e. its overall process under the local government authority, could encourage and promote social dialogue. If one only considers the economic view of the minimum wage effect, then perhaps the minimum wage policy should not have been installed in the first place. Nonetheless, the ambiguity of much empirical evidence provides an impetus to at least argue on the merit of minimum wages. Even if the minimum wage policy does have a small negative impact on employment, its benefits in terms of improving industrial relations far outweighs its perceived negative impact on employment.
In any case, the advent of the newly found political strength of trade unions, make it difficult to abolish the minimum wage policy. Any such attempt could politically destabilise a country which is still trying to recover from its last crisis. As explained earlier in the chapter, trade unions are supporters of the minimum wage policy and can act as enforcement agents for its implementation. In addition, the minimum wage fixing process in Indonesia has now been transferred to local governments, who know the economic and labour market conditions of their respective regions. Thus, the development of independent trade unions and localisation of the minimum wage fixing are key ingredients to meet the challenges of decent work. The minimum wage fixing process could be used, as Watanabe ( 1 976) argues, as a tool for restraining possible excessive wage increases by trade unions.
Chapter IV
Profile of Indonesian Economic Development and the Labour Market
Introduction
The Indonesian economy has been experiencing a transformation from an agrarian state to an industrial economy. The economy has experienced different phases since independence, from economic stagnation in the 1 960s, to import substitution, financed by the oil boom in the 1 980s, to accelerated growth in 1 990s through export-oriented industrialisation. The process was interrupted by the economic crisis of 1 998 and the economy has been recovering ever since . Recently, the economy was transformed again by a political decentralisation process that started in 2000. Regional governments have greater autonomy in their own regions to implement economic reform to generate their own income. Those regions with a concentration of industries would surely focus their attention on expanding these industries by attracting investment from outside the region. Thus, solving their labour problems would be crucial in attracting these investments to the regions. This chapter discusses the state of the economic development and the labour market that affected workers' conditions in Indonesia, as well as the employment dilemma facing the country. It addresses the problem of unemployment and under employment, as well as industrial conflicts due to the violations of labour standards, especially the lack of minimum wage compliance. It also explains the major reasons for choosing the fieldwork area as well as the relevance of studying the minimum wage policy within the context of Indonesia's development agenda.
Overview of Indonesian Economic Development
The Indonesian medium and long-term development trajectory followed the so-called "Development Trilogy": an equitable distribution of development and its outputs to create social justice, achieving significant economic growth, and ensuring a healthy and dynamic national stability (cited in ILO Jakarta, 1 999). Prior to the economic crisis, Indonesia's economic development in the last quarter century had been considered a success (Liddle, 1996, p. 236). A large part of that success was the modernisation drive from an agrarian state to a predominantly industrial state. One of the stated objectives of
the current long term development plan that runs from 1 994 to 20 1 9 is improving the welfare of workers through "Pallcasila IndustriaL ReLations " such as improvements in working conditions and labour protection, including the situation of women workers by eliminating gender discrimination, and better protection will be provided to women as well as to overseas workers and working children (cited in lLO, 1 999, p. 2).