Indonesia's Automotive Industry: Recent Trends and Challenges.

• Author: Negara, Siwage Dharma

1. Introduction

   The Indonesian automotive industry has witnessed rapid development, especially during the commodity boom period (2006-15). A decade of high and stable growth has resulted in a significant increase in the demand for automotive goods, particularly cars. The growing demand for private vehicles is associated with the rise in the number of middle-income consumers in the country. According to the World Bank (2019), the size of the middle-class base in Indonesia has increased sharply, from 7 per cent of the total population in 2002 to 30 per cent in 2018. The segment is expected to reach 143 million people (or more than half of the total population) by 2050, indicating a large potential market for cars. Consequently, two of the world's biggest Japanese car manufacturers, Toyota and Honda, have planned to expand their respective investments to tap the projected rising car demand in Indonesia. (1) The expanding domestic market has also attracted Chinese car manufacturer Wuling (2) and Korean carmaker Hyundai to increase their investments in the country. (3)

   While the size of the domestic market is an important determinant of foreign direct investment (FDI) in the auto sector, another important pull factor is government policy. Under its Making Indonesia 4.0 roadmap, the Ministry of Industry has selected the auto sector as one of the five priority sectors to lead the implementation of the Fourth Industrial Revolution (Industry 4.0) in the country (Ministry of Industry 201S). (4) The five sectors were selected from sixteen industries, which were evaluated against ten criteria covering their impact and attractiveness, as well as the feasibility of implementing Industry 4.0. (5) With regard to the auto industry, Indonesia is the largest market in the Association of Southeast Asian Nations (ASEAN). The government foresees the potential to expand its scale, given that Indonesia's auto industry is also the second largest in ASEAN in terms of production capacity. Moreover, the industry is expected to generate more skilled employment and improve the nation's overall export competitiveness. In line with the industrial roadmap, the government has provided some tax and fiscal incentives, including a super tax deduction for companies that relocate their R&D units to Indonesia. (6) Concurrently, the government has been developing complementary infrastructure throughout the nation. For example, a new port was built to ease and streamline the export process of automotive goods. The Patimban Port in Subang West Java is funded by a loan from Japan and will be equipped with Industry 4.0 technologies, including the use of Artificial Intelligence (AI) for export procedures such as registration, pre-inspection at the entry gate, warehousing, custom clearance, shipping, inter alia. (7)

   This paper looks at the recent development of the Indonesian automotive sector, particularly focusing on the car industry. It examines the policies that have been introduced to promote the industry in response to global trends and the COVID-19 outbreak. It analyses how trade and industrial policies affect the development of the auto sector, including the response of private players. The paper is organized as follows. The next section provides an overview of the car industry in Indonesia. It discusses some of the general trends in the production, sales, exports and imports of vehicles and the country's participation in global value chains (GVCs). The subsequent section discusses key government policies in promoting the automotive sector in response to global trends like the growing popularity of electric vehicles (EVs). The fourth section highlights the industry's reception of various government incentives. The final section concludes with a discussion on the challenges faced by the sector

2. Overview of Indonesia's Car Industry

   2.1 Car Production and Sales

   Indonesia's automotive sector has slowly recovered from the economic downturn induced by the Asian Financial Crisis of 1997/98 (Natsuda, Otsuka and Thoburn 2015; Soejachmoen 2016). The turning point occurred during the commodity boom period (2006-15). Car production increased dramatically, from around 290,000 units in 2006 to almost 1.3 million units in 2014 (Figure 1). Indonesia's rank in global car production improved from the twenty-fifth spot in 2000 (with a production of 292,710 cars) to the seventeenth place in 2018 (1,343,714 cars) (OICA 2019).

   Car sales and production are associated with the economic growth of a country. Hence, when Indonesia's commodity boom ended, car sales and production fell rapidly in 2015. The industry then gradually rebounded, increasing its production and sales from 2016 until 2019, displaying a promising upturn before the advent of the COVID-19 crisis in 2020. Figure 1 shows that, since 2014, car production had started to surpass domestic sales, indicating an increase in export capacity. Unfortunately, the ongoing pandemic has sent the industry into its deepest slump in a decade. Car production dropped by more than half, from around 1.3 million units in 2019 to only 530,000 units in 2020.

   With respect to industrial structure, the automotive industry in Indonesia is controlled by several big global car manufacturers, mostly from Japan, such as Toyota and Daihatsu. These global carmakers regulate the production, location, procurement of parts and components as well as distribution (Natsuda, Otsuka and Thoburn 2015; Natsuda and Thoburn 2021). The domination of Japanese brands has influenced car market in the country. Toyota leads the industry with around 40 per cent of total car production. Daihatsu and Suzuki are in the second and third place, with 15 per cent and 12 per cent, respectively. Figure 2 shows that Toyota has been maintaining an average production of 500,000 units per year. In 2020, however, its production fell below 300,000 units.

   Non-Japanese manufacturers have been trying to establish and expand their production base in Indonesia. BMW and Mercedes Benz, for instance, maintain their presence by focusing on the premium vehicle segment. Korean and Chinese car manufacturers have also entered the car market, but face a huge challenge in finding a niche. South Korea's Hyundai has seen its market share fluctuate a lot in recent years (Figure 3). Wuling from China started production in 2018, expanded massively in 2019, before contracting sharply in 2020.

   2.2 Suppliers. Participation in Global Value Chains and External Trade

   In Indonesia's auto industry, there is a clear division of labour between foreign carmakers and local firms. Government regulation requires assembly and distribution operations to be separated and organized by different entities. For example, PT Toyota Motor Manufacturing Indonesia (a joint venture between Japan's Toyota and local company Astra International) assembles cars, whereas distribution and sales operations are conducted by a different entity, PT Toyota Astra Motor (with 51 per cent of capital from Astra International and 49 per cent from Toyota) (Natsuda, Otsuka and Thoburn 2015). It is important to note that, as a sole agent, Astra International also carries out sales and distribution operations for other brands such as Daihatsu, Isuzu, Nissan Diesel and BMW.

   According to the Ministry of Industry, as of 2020, there are twenty-two original equipment manufacturers (OEMs) in the auto industry. These OEMs are supported by around 550 Tier-1 companies and around 1,000 Tier-2 and Tier-3 firms that produce OEM components. (8) According to GAIKINDO data, Java is the main location of the country's auto industry. Most, if not all, OEMs are located in Greater Jakarta and the province of West Java, which also happen to be the main car market. Around 70 per cent of SMEs that produce auto parts and components are located in Central Java, mainly because the minimum wages there are lower compared to Jakarta and West Java. It is estimated that the industry value chain affiliated with OEMs employs around 1.5 million workers, (9) including thousands indirect employment in related sectors like vehicle repairs and accessories (GAIKINDO). (10)

   According to the Indonesian Automotive Parts and Components Industries Association (GIAMM), as of 2019, there are 240 member firms, of which 155 are joint-ventures and eighty-five are local companies. Additionally, of the joint-venture firms, 85 are Japanese. (11) Typically, Japanese carmakers establish a triple-layer subcontracting system. Within this framework, the car assemblers directly source only finished components from their Tier-1 suppliers. They then subcontract lower value manufacturing activities to lower tier suppliers (Natsuda, Otsuka and Thoburn 2015). Indonesia's automotive parts industry is also under Japanese keiretsu (business group) control, a system based on long-term business relationships. Natsuda, Otsuka and Thoburn (2015), however, found that parts-sourcing practice in Indonesia differs somewhat from the traditional keiretsu system in Japan in that the former employs a more flexible system of procurement. See Figure 4.

   In the case of GVC participation, the decision on the type of cars produced in and exported from Indonesia is made by the principal OEM, taking into consideration the domestic market size and capacity of supporting industries. For example, Toyota Indonesia specializes in the production of Kijang Innova, Fortuner, Avanza, Rush and Lite Ace/Town Ace. (12) These brands are popular Toyota cars in the domestic market. These popular models determine the type of auto parts and components manufactured in and exported from the country.

   Another indicator of Indonesia's growing participation in auto GVCs are its exports and imports of auto parts and components. The parts and components industry requires a significant amount of imported raw materials. In many companies, around 70 per cent of the production costs are for raw materials such as steel and plastic...