SBY Re-Elected: Implications for Indonesia's Energy Sector

The Return of Bambang

Incumbent President Susilo Bambang Yudhoyono (SBY) has been re-elected in Indonesia’s presidential elections, according to official results announced by Indonesia’s General Election Commission (KPU). Yudhoyono won a considerable 60.8% of votes cast compared to 26.8% for former president Megawati Sukarnoputri and 12.4% for Vice-President Yusuf Kalla. Although the results are being challenged by other candidates given allegations of irregularities on voting day, the size of Yudhoyono’s victory suggests he will likely become Indonesia’s first president to be re-elected through a democratic process. What are the implications for Indonesia’s energy sector of another five more years of Yudhoyono?

At first glance Yudhoyono's track record in the oil and gas sector has not been particularly positive. Over the past five years of his presidency Indonesia’s crude oil production has continued its steady decline, forcing the country to suspend membership in the Organisation of Petroleum Exporting Nations (OPEC) in mid-2008 (see Indonesia: 10 September 2008: Indonesian Government Officially Suspends OPEC Membership Following Vienna Meeting). However, Yudhoyono and Energy and Mineral Resources Minister Purnomo Yusgiantoro have been keen to increase E&P activity and in the last few years the number of blocks awarded to investors has increased significantly, from an average of 20—25 blocks during 2006/07 to more than 30 in 2008. On 26 June 2009 a further 24 oil and gas blocks were formally opened for bidding, suggesting that Yudhoyono remains committed to increasing E&P activity to help boost domestic output and revenues. The Energy Ministry’s moves to buy back pre-1965 exploration documents from Shell, ExxonMobil, and Chevron suggest that it is looking for new potential oil and gas blocks to award in future. The Energy Ministry under Yudhoyono has also been trying to reassure potential upstream investors worried by revisions to the cost recovery base that operating costs would continue to be defined by work programmes and budgets. The government has also promised to provide more flexible plans of development (POD) for coalbed methane (CBM) blocks, indicating its aim of attracting more investment into the sector. In his opening speech at the Indonesian Petroleum Association (IPA) conference in May 2009, Yudhoyono explicitly stated that the government wanted to create incentives for investment in the sector by improving fiscal terms, given ongoing uncertainties over contract regulations that remain obstacles to investor interest in Indonesia, despite the country's favourable oil and gas reserve base (see Indonesia: 18 May 2009: Tax Disputes with Oil and Gas Contractors Reveal Indonesia's Fiscal Term Problems).

However, at the same time Indonesia's Energy Ministry has heightened scrutiny over oil and gas investments in order to reduce pressure on the state budget. Much of the pressure for revising tightening contract terms has come from the House of Representatives Commission VII on energy policy, although Yudhoyono appears to have responded to this pressure on some occasions. Plans to revise the cost recovery base for oil and gas projects in order to cut government expenses are likely to go ahead. Indeed, following the 2008 Regulation No.22 on Types of Costs not Subject to Reimbursement, which reduced the number of items eligible for cost recovery by seventeen, the energy and finance ministries are now drafting a new regulation to manage cost recovery spending that is likely to further extend the number of items not eligible for recovery. This could prove a further deterrent to investors in the upstream sector, building on concern over current disputes between oil and gas contractors like ExxonMobil and Kodeco over income tax payments and Pertamina's aggressive farm-in moves into upstream acreage. Greater oversight of spending on investment credit for oil and gas contractors can also be expected in order to reduce losses to state revenues. However, the government has hinted that the new regulation on cost recovery will not impact on existing production sharing contracts (PSCs), which hints at the government's concern to reassure investors.

In the gas sector Yudhoyono’s first term has been characterised by a growing emphasis on serving the needs of the domestic market. However, the main proponent of this policy appears to have been Vice-President Yusuf Kalla, who during the election period declared that output from the proposed 2-million-t/y Donggi-Senoro LNG project should be re-orientated towards the domestic market. Although Kalla claimed that Yudhoyono supported his decision, the president did not give an opinion on the project, perhaps not wanting to undermine his election chances by countering the populist ring of resource nationalism with the electorate, many of whom are suspicious of the activities of IOCs. Privately, Yudhoyono (who will have the final say over the allocation of output from the project) is known to be more moderate than Kalla and is likely to favour a compromise solution over output. Indeed, redirecting all of the gas to the domestic market would likely lead Japanese consortium partners to pull out of the LNG project, causing investor uncertainty during a period when Yudhoyono is trying to attract investor interest into oil and gas blocks. While the government has shown that it is prepared to dramatically reduce gas exports, as demonstrated by the downgrading of export contracts for Japanese consumers from the Bontang LNG terminal earlier this year, these decisions were ultimately taken on a negotiated non-unilateral basis. Moreover, during a speech to the Indonesian Petroleum Association (IPA) in May the president reiterated to investors the country’s commitment to continue exporting gas and to uphold contract stability, which suggests that Yudhoyono is likely to favour at least the export of initial gas output from the Donggi-Senoro terminal. However, in the short term investor uncertainty in the gas sector is likely to remain. Vice-President Kalla will continue in his position until October, and although the president makes the final decision on the matter, Kalla will in the meantime have to be won over in cabinet discussions on what proportion of gas from Donggi-Senoro should be exported or directed towards the domestic market.

There are also indications that Yudhoyono may start to consider reducing fuel subsidies during his second term, given that between 2005 and 2008 they have become an increasing strain on the state budget, rising on average by 37% per annum, according to the 2009 budget document of the Ministry of Finance. Beginning in 2006 Yudhoyono helped steer the kerosene-to-LPG conversion programme in order to reduce Indonesia's reliance on kerosene, which is one of the most heavily subsidised fuels. Yudhoyono is likely to continue with this programme, which is due to be completed in 2010. In addition the fall in crude oil prices has created opportunities for a limited scale-back of fuel subsidies without too much of an increase to retail fuel prices, which would be a sensitive political issue. Sources near to the government suggest that Yudhoyono may now start to reduce subsidies for gasoline and gasoil, given that the market price and the subsidised price are currently not too far apart. With public transportation in major cities unable to support a growing population, fuel demand is also rising steadily across the country, increasing the urgency of taking this opportunity to tackle the subsidy burden. Proposals to revise fuel subsidies could be taken together with the final adjusted fuel subsidy for 2009 due to be decided at a plenary meeting later this year, or following the formation of the new administration from October. Finally, Yudhoyono has also been a leading proponent of the plans to expand refining capacity in order to reduce fuel imports. He already issued a decree giving income-tax incentives for investments in refineries in October 2008 and in February 2009 urged Pertamina to reach conclusive agreements with government ministries so a timeline for building new refineries could be established. Yudhoyono's fury at fuel shortages during the election period reflected the political sensitivity of the issue and how strongly he felt about meeting Indonesia's fuel supply needs. To this end the president is likely to continue propelling measures to boost refinery investments, which may well lead to improved rates-of-return on refinery investments and further tax relief to new projects in order to attract foreign investors into the sector.

Outlook and Implications

Overall, the re-election of Yudhoyono is likely to be positive for foreign investors in Indonesia's oil and gas sector. Compared to Yusuf Kalla, who is more prone to taking a nationalist position with regard to Indonesia's oil and gas resources, Yudhoyono is broadly in favour of free-market reform and opening up Indonesia's oil and gas sector to foreign investment in order to boost performance and capacity. This has been demonstrated in the president's support for incentives to open up the refining sector and increase domestic E&P activity. The government has also demonstrated its commitment to improving regulatory terms and even measures that appear to increase costs for investors may be beneficial in the sense that they will provide more clarity to future contracts. Critics point to the fact that Yudhoyono has struggled to bring corruption and excessive bureaucracy in the oil and gas sector under control. Indeed, a typical investor in Indonesia's energy sector has to apply to a myriad of government agencies, which are often extremely slow in approving projects or issuing licences, while the ongoing corruption allegations levelled at Pertamina suggest the corruption is still prevalent in the sector. Nevertheless, Yudhoyono is viewed as a relatively honest and moderate figure in a country emerging from decades of political instability, rampant corruption, and military rule. The very fact that the state is now launching investigations into corruption is a positive sign.