Economic Dynamics and Forest Clearing: A Spatial Econometric Analysis for Indonesia- Working Paper 280

This paper uses a large panel database to investigate the determinants of forest clearing in Indonesian kabupatens since 2005. Our study incorporates short-run changes in prices and demand for palm oil and wood products, as well as the exchange rate, the real interest rate, land-use zoning, forest protection, the estimated opportunity cost of forested land, the quality of local governance, the poverty rate, population density, the availability of communications infrastructure, transport cost, and local rainfall and terrain slope. Our econometric results highlight the role of dynamic economic factors in forest clearing. We find significant roles for lagged changes in all the short-run economic variables—product prices, demands, the exchange rate and the real interest rate—as well as communications infrastructure, some types of commercial zoning, rainfall, and terrain slope. We find no significance for the other variables, and the absence of impact for protected-area status is particularly notable. Our results strongly support the model of forest clearing as an investment that is highly sensitive to expectations about future forest product prices and demands, as well as changes in the cost of capital (indexed by the real interest rate), the relative cost of local inputs (indexed by the exchange rate), and the cost of land clearing (indexed by local precipitation). By implication, the opportunity cost of forested land fluctuates widely with changes in international markets and decisions by Indonesia’s financial authorities about the exchange and interest rates. Our results suggest that forest conservation programs are unlikely to succeed if they ignore such powerful force.