Indonesia says ''stop'' to fossil fuel subsidies

Indonesia says ''stop'' to fossil fuel subsidies

Serena Sabino
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According to an IEA report, over the last two years, state subsidies have declined from 3% to 1% of the country's GDP, but the journey is not yet over

The wave of liberalization, referred to in history as a ''big bang'', which, as of 2015, has affected the Indonesian economy, is yielding a return also on the front of the removal of state subsidies from fossil fuels. The estimated expenditure on subsidies for traditional fuels in 2016 amounted to 1% of the Indonesian GDP, versus 3% of the state's GDP just two years earlier, in 2014. The data emerge from an International Energy Agency (IEA) report, which records the progress made by Indonesia on the subsidies issue, while emphasizing how the removal process is not yet over. Fossil fuel subsidies have been used by many countries at various times to support high energy-intensive industries, to subsidize the transport of goods and people, to encourage access to electricity by families, especially poor families. Many studies have, however, reached the conclusion that the economic and environmental costs of subsidies far outweigh the social benefits they bring: in particular, they drain many resources from the state budget and they are an obstacle on the path towards the decarbonization of the electricity sector.

Repercussions on the environment and state budget

Indonesia lowers its #subsidies on fossil fuels. Expenditure in 2016 amounted to 1% of the GDP versus 3% in 2014 @IEA

Indonesia has long suffered the consequences of the sale of underpriced energy, both in terms of the state budget and of the environment. Thanks to low fuel prices and low interest rates for the purchase of vehicles in installments, the country’s stock of cars and motorcycles has more than doubled in five years. Almost all subsidies are in fact absorbed by the transport industry. One of the consequences - immediately visible in the capital, Jakarta - is chronic traffic on the roads. The external costs of traffic and the effects associated with it, above all pollution, have not been accurately calculated, but are significant, in terms of lost productivity, energy waste and negative effects on health. Included in the costs is also the high level of CO2 emissions and the consequent implications in terms of reaching the country’s goals for the fight against climate change. Underpriced energy, combined with the structure of Indonesia’s energy market, has also had negative repercussions on the financial performance of the country’s main public players, i.e., the national oil company, Pertamina, and the state-owned electrical utility company, PLN.

A story that began long ago

Fossil fuel subsidies are not new to Indonesia. The first grants were introduced at the time of the country’s declaration of independence from Holland and, within a decade, in the 1960s, accounted for almost 20% of public spending. The heavy currency depreciation recorded during the Asian crisis in the late 1990s boosted their cost. In 2014, the economic value of fossil fuel subsidies in Indonesia amounted to $27.7 billion.

The hope is to entrust the fixing of energy prices to an independent government agency that will follow rules to attempt to reduce its volatility

The Indonesian government therefore ran for cover, by launching, as of 2015, a gradual reduction in the amount of fossil fuel subsidies, focusing resources on the neediest families. However, the journey is not yet over: Indonesia, as the IEA explains in its report, now needs to move on to a credible system for fixing energy prices to narrow the difference between the domestic price and international prices, therefore not allowing for subsidies to increase again in the future. The experience of other countries shows that market-based energy prices are the best choice, but that, currently, this is not politically feasible in the Indonesian context. The hope, therefore, is to entrust the fixing of the price to an independent government agency, based on rules that reduce its volatility. At the same time, a review of the market structure and increased competition in the fuel and electricity sectors would be valuable.