The era of free trade among South East Asian and China is begin and formally ensued in January 2010 by the ACFTA forum. Most businessmen in Indonesia are worried of this agreement, because they think Indonesian industries are not well prepared. Many industries in Indonesia, especially those in rural area, threaten to collapse because they already have a difficult situation due to the global crisis in 2009. The decreasing of demand in several outplay industries push them to close the business. And the beginning of free trade era will worsen this condition if there are no comprehensive action both in government and industries. This paper have two objectives, firstly is to analyze existing policies pertinent with small and medium enterprises. Secondly is to design policies that will significantly expedite the development Small and Medium enterprise (SMEs).

The discussion starts with analyzing current conditions and answering these questions; what are the characteristics of rural industries, what are the factors that lead them to progress and what are the threats they occur. Then what are the existing policies issued by central government and local government regarding small and medium enterprises. The analysis will use a system dynamics approach that was found by Jay W Forrester. Researcher around the world often uses this methodology to analyze complex systems due to the ability of this methodology to model causal interactions occurs in such systems. By the end of the discussion this paper will propose an action plan consist of redesigning the existing policies or propose several new policies if it is considered necessary.