Could a resource export boom reduce workers’ earnings? The labor market channel in Indonesia

For a decade from 2000 Indonesia experienced a boom in natural resource exports. Aggregate income rose at a healthy rate. However, data from the labor market tell a strikingly dissonant story of stagnating real earnings and rising dependence on employment in sectors where skill premia are low and informal employment arrangements are prevalent. These data provoke us to ask how the gains from the resource boom might have affected the earnings of Indonesia’s wage earners and the incentives of prospective wage earners to invest in education.

We first explain broad sectoral trends in a Dutch Disease model. Then, by integrating individual and district data from several national surveys, we investigate sources of variation in labor earnings during the boom. We use instrumental variables to deal with endogeneity and selection in the earnings equations.

Opportunities for skilled jobs and formal employment (which pays more, offers greater security and benefits, and rewards additional schooling investments) fell in relative terms during the boom. Palm oil was by far the fastest-growing resource export during the boom years, with the largest labor market impacts. We find that after controlling for other individual and district features the intensity of oil palm production robustly predicts diminished access to formal employment. Lower formality is in turn a robust predictor of lower earnings. Finally, since access to formal jobs is strongly positively selected on education, the diminished promise of a formal job also reduces the expected net benefits of schooling. Our findings provide a structural dimension to ongoing debates in Indonesia over persistent poverty, rising inequality, and lack of progress in educational attainment.