Indonesia's Fuel Subsidy Quandary

Although Indonesian President Susilo Bambang Yudhoyono announced yesterday that his government would introduce new measures to cut the country's ballooning fuels subsidy it is unclear what can be done without raising prices to customers, a political third rail with elections little more than a year away.

The government, faced with rising deficits, attempted to raise the price of gasoline by 33.3 percent at the pump in March 2012, only to face thousands of protesters who blocked the main route to Sukarno-Hatta International Airport and closed two lanes of the Jakarta inner city toll road, turning over cars and setting them afire.

Resistance to doing away with the fuel subsidies, targeted in the 2013 state budget to cost Rp193.8 trillion (US$20.84 billion) for a quota of 46 million kiloliters, is as much about politics as about expensive fuel. Last year, an amalgam of angry labor unions, student groups, protest movements of various kinds and the opposition Indonesian Democratic Party of Struggle (PDI-P) all came together to take to the streets and deal Yudhoyono one of the biggest defeats of his presidency.

At that point the economy was robust and the country was largely peaceful, with the president's popularity still high. With Yudhoyono's Democrat Party crippled by scandal, with annual inflation running at 5.31 percent in January and the government well into the lame duck period of the presidency, raising fuel prices today is a political impossibility.

Any price rise is certain to be met with opportunistic political parties who see their path to increased representation in Indonesia's legislature by bringing people into the street again to protest rising prices. The cause of trouble for the March 2012 demonstrations wasn't just the opposition. Golkar and PKS, both of which occupy key cabinet posts in Yudhoyono's administration, ran out on him as well.

"There are already some options on the table on how to deal with the subsidy that we think are realistic, but I cannot disclose them right now because we will be finalizing everything over the next one or two weeks," Yudhoyono told a press conference yesterday after meeting with economists. If such measures would be introduced, he said, the subsidy could would be significantly reduced within the next two years so that more government revenue could be used to finance development.

In recognition of the political volatility of the problem, Yudhoyono told reporters that "We want our subsidy in the future to help households or poor and almost poor individuals so we must help with the right subsidy. We know the positive and negative points of the options we take, what are the impacts for the poor if we increase the fuel price. The point is the subsidy must be reduced. The policy must be well executed so that the fuel subsidy won't explode to maintain our fiscal integrity."

In another indication of the volatility, the government has sent mixed message for the past several weeks, with Jero Wacik, the Minister of Energy and Natural Resources saying in December that the government didn't intend to raise prices this year, to be followed by Rudio Rubiandini, the deputy minister, saying he believed that subsidized prices would be raised by Rp1,500 (US16¢) per liter, saving the equivalent of US$6.45 billion to fund infrastructure, schools and health clinics. The vice governor of greater Jakarta weighed in, saying the government should cut subsidies and steer the money into developing a mass transit system for Jakarta, which is plagued with some of Asia's worst traffic jams. Jero Wacik then reversed himself, saying he supported the Jakarta initiative although he said it had to be planned carefully.

Indonesia isn't alone in the quandary over how to deal with subsidies. A 2010 study of sustainable energy by the World Bank said that fuel subsidies across the East Asian region amounted to US$70 billion in 2007. They have risen significantly since as global fuel prices have been driven up by tensions in the Middle East and other problems. Crude has largely stabilized at around US$91 per barrel today. Malaysia, like Indonesia, tried to do away with fuel subsidies under Prime Minister Abdullah Ahmad Badawi in 2007, which played a role with angry voters who rewarded the Barisan Nasional with its biggest election defeat in the 50-year history of the country in 2008.

Each of the east Asian countries have learned to their sorrow that subsidies, once put in place, are impossible to remove without daring the wrath of those who receive them. The US$70 billion in subsidies paid by governments in 2007 would have been nearly enough to finance a sustainable energy path for the region of US$80 billion, according to the World Bank report.

In the meantime, the Indonesian government has been nibbling at the edges of the problem, prohibiting government vehicles in the Jakarta conurbation from using subsidized fuel in June last year, then expanding the prohibition to Java and Bali last August. Government vehicles in Jakarta will be barred from using subsidized diesel as well, and sea vessels except for small fishing boats and remote ferries will be weaned off.

Transport vehicles used in the country's vast plantation industry were no longer to have access to subsidized fuel as of this month as well and government vehicles in Kalimantan and other regions are also to be barred from using subsidized fuel.

BPH Migas, the downstream energy regulator, is also working to collect data on public transport and fishermen to see where the fuel is going, and implement a tagging technology to distinguish subsidized fuel from unsubsidized fuel.

"Price is a driving force to stimulate energy efficiency improvements, discourage energy waste, mitigate rebound effects, and encourage clean energy technologies," the report said. "Energy prices should remove fossil fuel subsidies; (2) internalize environmental costs through appropriate use of a fuel tax and/or a carbon tax; and (3) provide incentives to invest in end-use energy efficiencies such as investment subsides, soft loans, consumer rebates, and tax credits."