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25 March 2020
On 12 February 2020 the government submitted the Bill on Job Creation(1) to the National Legislative Assembly (DPR). Both foreign direct investment (FDI) and domestic investment are governed by the Investment Law 2007.(2) However, as the bill proposes few major changes to the domestic investment regime, this article focuses on the bill's proposed changes to Indonesia's FDI regime.
Indonesia's restrictive FDI regime, alongside its highly regulated workforce, has proved one of the most difficult areas of the economy to reform.
Notably, the rules contained in the Investment Law do not apply to equity investments in publicly listed companies, as they are expressly exempted from foreign ownership restrictions.
Before discussing the changes proposed by the bill, this article briefly describes a key feature of the current FDI regime (and the one that will likely be the most affected should the bill be passed by the DPR) – namely, the Negative Investment List (DNI).
The DNI, which is mandated by Article 12 of the Investment Law, constitutes a fundamental aspect of Indonesia's investment regime (both domestic and FDI). From an FDI perspective, the DNI sets out a long list of business lines that are either 100% closed to FDI or open to FDI subject to conditions (most significantly, foreign ownership caps, particularly business lines).
The current iteration of the DNI is incorporated in Presidential Regulation 44 of 2016,(3) which entered into force on 18 May 2016.
There was a flurry of media reports in mid-February 2020 to the effect that the government was in the process of revising the prevailing DNI and would release a new list (to be renamed the Positive Investment List) sometime in March 2020. However, the reports were rather muddled and provided little in the way of concrete information on likely changes. As there have been no follow-up reports on the issue since mid-February 2020, the following discussion is confined to the bill's proposed changes to the FDI regime.
DNI restrictions on FDI: foreign ownership caps
While the bill envisages relatively few changes to the Investment Law overall, the proposed changes to its provisions on the DNI could be significant.
In particular, the bill envisages what could be an important change to Article 12(1) of the Investment Law's, which currently reads as follows: "All lines or types of business are open to direct investment, save for those that are designated as closed to investment or open subject to conditions."
By contrast, the (amended) Article 12(1) will read as follows: "All business lines are open to direct investment, save for those that are designated as closed to investment or which constitute activities that are reserved to the central government."
Thus, the (amended) Article 12(1) will no longer incorporate the phrase "open subject to conditions".
Building on this envisaged change to Article 12(1), the bill proposes the amendment of Article 12(2) (and the elucidation thereon) to incorporate a list of the business lines that will be closed to investment(4) and a list of the activities that will be reserved to central government,(5) as envisaged by the amended Article 12(1).
Further, Article 12(3) will be amended to allow further requirements for the implementation of (the amended) Articles 12(1) and 12(2) to be provided for by presidential regulation.
Based on these proposed amendments, two conflicting interpretations of their likely implications are possible.
The first (admittedly rather optimistic) interpretation focuses on the text of the proposed amendment of Article 12(1), particularly the deletion of the crucial phrase "open subject to conditions". As this is the phrase that affords the government the authority to impose conditions on FDI ventures (eg, ownership caps), the proposed amendment of Article 12(1) could be interpreted as meaning that FDI ventures would no longer be subject to foreign ownership caps should the bill be passed. If this interpretation is correct, FDI restrictions would be confined to the prohibition of FDI in those business lines or activities that are expressly listed as closed or as reserved to central government in the (amended) Article 12(2).
Should this be the case, all investments and activities, other than those specifically designated as closed to investment or reserved to central government, would be 100% open to foreign ownership. If so, it will mark a dramatic liberalisation of Indonesia's FDI regime.
The second possible interpretation is more conservative, and perhaps more realistic, as it takes into consideration Indonesia's history of tightly regulating investment, as well the powerful vested interests that will be lined up against any wholesale liberalisation of the FDI rules. According to this interpretation, while the government will most likely relax FDI ownership restrictions, it will avail of the freedom afforded by (the amended) Article 12(3) of the Investment Law to continue to impose foreign ownership restrictions on FDI ventures through a presidential regulation in order to protect local business interests and micro, small and medium enterprises and cooperatives (MSME&Cs).
As to which of the above possible interpretations is correct, the answer will ultimately depend on the contents of a presidential regulation mandated by (the amended) Article 12(3) of the Investment Law.
DNI restrictions on FDI: role of MSME&Cs
Under Article 13(1) of the Investment Law the government must reserve particular business lines for MSME&Cs and designate other business lines where investment by large enterprises may be made only in collaboration with MSME&Cs. At present, these requirements are frequently reflected in the conditions stipulated in the DNI for investments in particular business lines. However, none of them are included in the bill's proposed amendments to the Investment Law. Instead, they are replaced by a rather woolly commitment on the part of central government to "provide facilities, empowerment and protection to [MSME&Cs] in the direct investment context". This commitment includes promoting partnerships, training, innovation and market expansion, and greater access to financing and information.
On the question of foreign ownership caps (as discussed above), the likely impact of the proposed changes on Article 13 are open to interpretation. On the one hand, the elimination of the requirements imposed by Article 13(1) of the Investment Law could be taken as a signal of the government's intention to completely remove MSME&C rules from the DNI. However, on the other hand, the government could possibly continue to impose such requirements by way of a presidential regulation under (the amended) Article 12(3) of the Investment Law. As such, the situation will become clear only after such presidential regulation has been issued.
The bill envisages the amendment of Article 25 of the Investment Law to place all relevant licensing authority in the direct investment arena in the hands of central government. Further, the bill proposes the amendment of Article 251 of the Regional Government Law 2015(6) to give the president the power to overturn regional regulations that conflict with national legislation (including as regards investment licensing).
These changes are clearly designed to eliminate longstanding problems caused by overlapping and conflicting central and regional government regulations on investment licensing. Further, the bill envisages that much of the power reclaimed from regional governments will be vested in the central government and president rather than individual line ministries. This is no doubt intended to ensure greater focus and harmonisation and to address the longstanding problems of 'siloism' and particular ministers pursuing their own agendas to the detriment of the economy as a whole.
From an investor's perspective, anything that would help reduce the current level of legal uncertainty should be welcomed.
However, the clawback of authority from the regions could have implications as regards Articles 18 and 18A of the 1945 Constitution. While these articles expressly state that the division of authority between central and regional government is to be determined by national law (ie, legislation passed by the DPR), Article 18A(2) also provides that the division of authority in the field of public services must be "just and appropriate". This would appear to afford a potential ground for a constitutional challenge to the proposed reduction in the powers of regional government licensing authority.
The Investment Law's restrictions on FDI contribute to a variety of structural problems in Indonesia's economy. Rather than promoting fair competition, the transfer of technology, the dissemination of modern management techniques and new ways of doing things, the caps on foreign ownership and the other statutory restrictions actually serve to hamper the achievement of these laudable objectives in many incidences.
Then there is the character of much FDI into Indonesia to date. As the government readily admits, a significant portion of inward investment over the years has been focused on the primary resources and commodities sector or has been motivated solely by a desire to exploit the country's enormous market of some 270 million people. As a consequence, Indonesia continues to be relatively isolated from international supply chains, unlike (for example) Thailand, Malaysia and Vietnam. Given that FDI has had far from the desired effect on the country's overall economic development, reform of the FDI regime is now seen as essential by the government.
The big question now is the extent of the reform envisaged by the government. Will they opt for a 'big bang' approach by eliminating all restrictions on FDI, as the text of (the amended) Article 12(1) of the Investment Law could be interpreted as suggesting, or will they adopt a more conservative approach by continuing to impose at least some restrictions on FDI? Only time will tell.
For further information on this topic please contact Giffy Pardede or Gustaaf Reerink at Ali Budiardjo, Nugroho, Reksodiputro by telephone (+62 21 250 5125) or email (firstname.lastname@example.org or email@example.com). The Ali Budiardjo, Nugroho, Reksodiputro website can be accessed at www.abnrlaw.com.
(3) Presidential Regulation 44 of 2016 on Business Sectors that are Closed or Conditionally Open to Investment (Peraturan Presiden 44 Tahun 2016 Tentang Daftar Bidang Usaha Yang Tertutup dan Bidang Usaha Yang Terbuk Dengan Persyaratan di Bidang Penanaman Modal).
(4) The cultivation or production of Class I narcotic substances, gambling and casinos, the capture of prohibited species of fish (as listed in the Convention on International Trade in Endangered Species of Wild Fauna and Flora), the removal or use of natural coral, chemical weapons and chemicals and materials that damage the ozone layer.
(5) Provision of (government) services, defence and security, including armaments (currently 100% open to domestic private-sector investment), government museums, the management of historic sites, air navigation and telecoms and auxiliary services relating to vessel navigation.
(6) Law 9 of 2015 on the Second Amendment of Law 23 of 2014 on Regional Government (Undang-Undang Nomor 9 Tahun 2015 tentang Perubahan Kedua atas Undang-Undang Nomor 23 Tahun 2014 tentang Pemerintahan Daerah).
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