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OECD Economics Department Working Papers No. 1236Making the Most of NaturalResources in IndonesiaRichard Dutuhttps://dx.doi.org/10.1787/5js0cqqk42ls-en

UnclassifiedECO/WKP(2015)54Organisation de Coopération et de Développement ÉconomiquesOrganisation for Economic Co-operation and Development28-May-2015English - Or. EnglishECONOMICS DEPARTMENTECO/WKP(2015)54UnclassifiedMAKING THE MOST OF NATURAL RESOURCES IN INDONESIAECONOMICS DEPARTMENT WORKING PAPERS No. 1236By Richard DutuOECD Working Papers should not be reported as representing the official views of the OECD or of its membercountries. The opinions expressed and arguments employed are those of the author(s).Authorised for publication by Robert Ford, Deputy Director, Country Studies Branch, Economics Department.All Economics Department Working Papers are available at www.oecd.org/eco/workingpapersEnglish - Or. EnglishJT03377338Complete document available on OLIS in its original formatThis document and any map included herein are without prejudice to the status of or sovereignty over any territory, to the delimitation ofinternational frontiers and boundaries and to the name of any territory, city or area.

ECO/WKP(2015)54OECD Working Papers should not be reported as representing the official views of the OECD or of itsmember countries. The opinions expressed and arguments employed are those of the author(s).Working Papers describe preliminary results or research in progress by the author(s) and are published tostimulate discussion on a broad range of issues on which the OECD works.Comments on Working Papers are welcomed, and may be sent to the Economics Department, OECD, 2rue André-Pascal, 75775 Paris Cedex 16, France, or by e-mail to eco.contact@oecd.org.This document and any map included herein are without prejudice to the status of or sovereignty over anyterritory, to the delimitation of international frontiers and boundaries and to the name of any territory, city orarea.The statistical data for Israel are supplied by and under the responsibility of the relevant Israeli authorities.The use of such data by the OECD is without prejudice to the status of the Golan Heights, East Jerusalemand Israeli settlements in the West Bank under the terms of international law. OECD (2015)You can copy, download or print OECD content for your own use, and you can include excerpts from OECDpublications, databases and multimedia products in your own documents, presentations, blogs, websites andteaching materials, provided that suitable acknowledgment of OECD as source and copyright owner is given. Allrequests for commercial use and translation rights should be submitted to rights@oecd.org2

ECO/WKP(2015)54ABSTRACT/RÉSUMÉMaking the Most of Natural Resources in IndonesiaIndonesia abounds with natural resources. But the unique nature of its geography, coupled with the lack of transportinfrastructure, makes their exploitation challenging. Moreover, a lack of investment, protectionism and an unwieldyregulatory environment are all inhibiting the sector from reaching its full potential. Agriculture has been held back by lowproductivity, under-investment, unclear property rights on land, ill-advised trade regulations, misplaced support for staplesand restrictions on foreign ownership. By pursuing crop diversification, encouraging co-operation between smallholders andlarge estates and easing constraints on foreign investment, Indonesia could raise its farmers’ productivity. Fossil fuels havebecome central to Indonesia’s energy policy and its main source of export revenues. Growing environmental concerns, bothdomestically and internationally, combined with subsiding coal prices and the on-going shale gas revolution, call intoquestion the sustainability of such a strategy. Indonesia should increase its energy efficiency and further develop gas to plugthe gap until sufficient renewable energy, especially geothermal, comes on line. Government control over the oil industryvia state-owned Pertamina should be gradually reduced. Clarifying, streamlining and publicising simple regulations inenergy and minerals, especially regarding land rights and on-shore processing, and removing foreign-ownership restrictionswill help bring much needed investment. The pressure on the environment that natural resource exploitation is creatingshould be addressed by increasing the share of gas and renewables in the energy mix, properly defining property rights andregulations regarding forest land, and implementing a positive implicit carbon price. More resources should be devoted tocombating widespread illegal mining and deforestation.This Working Paper relates to the 2015 OECD Economic Survey of -indonesia.htm)JEL classification: O13 ; O53 ; Q01.Keywords: Indonesia, natural resources, agriculture, energy, coal, oil, gas, minerals, environment*****Exploiter au mieux les ressources naturelles en IndonésieL’Indonésie dispose de ressources naturelles abondantes, mais leur exploitation est rendue difficile par lagéographique particulière du pays qui se conjugue au manque d’infrastructures de transport. De plus, l’absenced’investissement, le protectionnisme et la complexité de l’environnement réglementaire sont autant de facteurs quiempêchent ce secteur d’atteindre son plein potentiel. L’agriculture pâtit de la faiblesse de la productivité, du sousinvestissement, des incertitudes entourant les droits de propriété des terres, de réglementations commerciales peujudicieuses, de mesures inadéquates de soutien aux produits de première nécessité et de restrictions sur les participationsétrangères. La productivité des agriculteurs indonésiens pourrait être stimulée par différentes mesures visant à encourager ladiversification des cultures, favoriser la coopération entre les petits propriétaires et les grandes exploitations et alléger lescontraintes pesant sur l’investissement étranger. Les combustibles fossiles ont pris une place centrale dans la politiqueénergétique de l’Indonésie et représentent aujourd’hui sa principale source de revenus d’exportation. La montée despréoccupations environnementales, au plan intérieur comme international, qui vient s’ajouter à la diminution des prix ducharbon et à la révolution en cours liée au gaz de schiste, appellent à s’interroger sur la viabilité d’une telle stratégie.L’Indonésie pourrait accroître son efficacité énergétique et continuer à développer le gaz pour combler le déficit jusqu’àpouvoir disposer de suffisamment d’énergies renouvelables, notamment géothermique. Le contrôle de l’industrie pétrolièreexercé par l’État via l’entreprise publique Pertamina devrait être progressivement réduit. Clarifier, rationaliser et simplifierla réglementation dans les secteurs de l’énergie et des minéraux, en particulier du point de vue des droits fonciers et dutraitement terrestre, et lever les restrictions pesant sur les participations étrangères contribueront à attirer les investissementssi nécessaires. Les pressions exercées sur l’environnement par l’exploitation des ressources naturelles devraient êtreallégées par une augmentation de la part du gaz et des énergies renouvelables dans le bouquet énergétique, par unedéfinition adéquate des droits de propriété et des réglementations relatives aux terrains boisés et par la mise en place d’unprix implicite du carbone positif. Il conviendrait de consacrer des ressources plus importantes à la lutte contre lesexploitations minières et la déforestation illégales.Ce Document de travail se rapporte à l’Étude économique de l’OCDE de l’Indonésie, ndonesie.htm)Classification JEL : O13 ; O53 ; Q01Mots clefs: Indonésie, ressources naturelles, agriculture, énergie, charbon, pétrole, gaz, minerais, environnement.3

ECO/WKP(2015)54TABLE OF CONTENTSMAKING THE MOST OF NATURAL RESOURCES IN INDONESIA .7Natural resources in the Indonesian economy .9A richly endowed country .9The benefits and risks of natural resource exploitation .12Assessing the role of natural resources in Indonesian growth.14Increasing productivity and crop diversification in agriculture .15Increasing productivity in agriculture .16Encourage further diversification .19Reducing trade restrictions .21Indonesia’s reliance on fossil fuels poses policy dilemmas .23The expansion of coal production is reaching its limits .23Indonesia’s coal bias harms its environment .26Revitalising the oil sector .27Using gas to bridge the gap until more renewable energy comes on line .29Restoring a favourable environment for mineral extraction and processing .31Protecting the environment through regulations and control of illegal extraction .34Indonesia’s record regarding GHG emissions and pollution is poor .34Deforestation should be reversed .36Indonesia should tap its unique renewable energy potential .37BIBLIOGRAPHY .38Tables1. Agriculture productivity growth decomposition.162. FDI restrictions in renewable energy .37Figures1.2.3.4.5.6.7.8.9.10.11.Natural resources in the Indonesian economy .7Top exports and commodity prices.8Harvested area, 1990 and 2012 .10Natural resources and regional economies .11Domestic value added in gross exports of agricultural and mining products, 2009 .13Growth accounting with natural capital for Indonesia.15Agriculture TFP growth in selected Asian countries .16Selected crop output per hectare .17Indonesia and the world coal market.23Coal import sources, selected countries, 2012 .24Main coal producers and exporters, 2013 .244

fired heat and electricity generation efficiency, 2011 .25Indonesia's future energy mix .26Sources of electricity production, selected countries, 2011 .26Indonesia's oil balance .27Indonesia and the world oil market .28Energy subsidies as a percentage of government expenditure and GDP .28Prices for oil and petrol .28Indonesia and the world gas market .30Pollution indicators .35Change in forest coverage .36BoxesBox 1. The Master Plan for the Acceleration and Expansion of Indonesia’s Economic Development .11Box 2. Avoiding the “Resource Curse”: the Case of Botswana .13Box 3. Fishing in Indonesia .15Box 4. Land rights in Indonesia .18Box 5. Government financial support to agriculture.21Box 6. Palm oil in Indonesia .22Box 7. Types and uses of coal .25Box 8. Taxing mineral rents.33Box 9. Illegal mining in Indonesia .335

ECO/WKP(2015)546

ECO/WKP(2015)54MAKING THE MOST OF NATURAL RESOURCES IN INDONESIABy Richard Dutu1Indonesia abounds with natural resources. It is the world’s largest exporter of steam coal, refined tinand (until the enforcement of the export ban earlier this year) nickel ore. It is also a leading exporter ofgold, bauxite, lead, zinc and copper. Its potential in renewable resources is also huge. It has become theworld’s number one palm oil producer and exporter. In addition, it is the second-largest producer of rubber,robusta coffee and fisheries products, and holds 40% of the world’s geothermal energy reserves(IEA, 2008). Indonesia’s top five exports are all commodities.Commodities have served Indonesia well in the past decade and now represent more than half of itsexports (Figure 1, Panel A). Natural resources still represents some 25% of .GDP (Panel B).Figure 1. Natural resources in the Indonesian economyB. Share of natural resources,manufacturing and services in GDPA. Export decomposition1%bn USDCommodityshare ofexports (rightscale)16Oil & gas12Mining1.35303025100ServicesManufacturing & constructionNatural iculture80605020142020151012-month moving averages.Source: CEIC.1.Richard Dutu is an economist in the Country Studies Branch of the Economics Department of the OECD;e-mail: richard.dutu@oecd.org. This paper is based on Chapter 2 of the 2015 OECD Economic Survey of Indonesiapublished in March 2015 under the authority of the Economic and Development Review Committee. The author isthankful to colleagues at the OECD; Bert Brys (Centre for Tax Policy and Administration), Nicola Brandt,Robert Ford, Peter Jarrett, Annabelle Mourougane Álvaro Pereira, Mauro Pisu and Petar Vujanovic (EconomicsDepartment), Nils-Axel Braathen, Simon Upton, Ryan Parmenter, Mikaela Rambali and Frédérique Zegel(Environment Directorate), Florian Kitt (International Energy Agency), James Sheppard (Public Governance andTerritorial Development Directorate), Sun Joo Ahn, Ken Ash, Jared Greenville, Andrzej Kwiecinski andJehan Sauvage (Trade and Agriculture Directorate) and Indonesian government officials for their valuable commentsand suggestions. The author is also thankful to Olivier Durand-Lassure, Sofia Anggita Hasty, Britta Labahn,Jeon Shinyoung, Kadek Sutrisna and Vera Zipperer. Special thanks are due to Anne Legendre for excellent statisticalassistance and Mee-Lan Frank and Krystel Rakotoarisoa for technical preparation.7

ECO/WKP(2015)54Despite those achievements, the natural resources sector faces several challenges. First, the risingshare of commodities in Indonesian exports coincides with the rapid increase in commodity prices thattook place between 2003 and 2011 (Figure 2). Now that prices have fallen significantly, the sustainabilityof the expansion is in question. As prices rose, the supply of many commodities rose (e.g. steam coaloutput more than quadrupled between 2002 and 2012), but production of others, such as oil, fell. For somecommodities, especially palm oil and coal, expansion raised environmental concerns. Finally, the effect ofrising commodity exports on employment is limited. Being highly capital-intensive, the employmentcontent of the mining and energy sectors is traditionally low (1.9 million people work in these sectors inIndonesia, about 1.5% of the labour force). As for agriculture, it still employs a massive 42 million people(in part due to modest job creation in industry), and productivity is low. These numbers are to be comparedwith the 15.4 million people employed in manufacturing, for instance.A second challenge is that Indonesia’s natural resources are spread over a vast scattered country,making their exploitation and marketing difficult. Indonesia is an enormous archipelago, made up of about17 500 islands, 6 000 of which are inhabited, extending over 5 120 kilometres from east to west and1 760 kilometres from north to south, and covering a land area three times larger than France. It ispopulated by 242 million people, speaking 742 languages and dialects.Figure 2. Top exports and commodity pricesA. Top 7 Indonesian exports, USDmn USD2500CoalGasPalm oilCrude oilRubber productsGarmentsElectrical 0620072008200920102011201220132014B. Price index15004003002001001.20002001Unweighted price index (2000 100) of Indonesia’s top 5 exports in value in 2012 (cf. Panel A).Source: CEIC.820142015

ECO/WKP(2015)54Third, Indonesia’s natural resources sector faces a number of regulatory challenges. After years ofstable mining legislation, Indonesia overhauled the legal framework with Law 4/2009 on Minerals andCoal Mining, replacing Law 11/1967 and its widely used Contract of Work (CoW) scheme. Among themost controversial aspects of this new mining law were divestment requirements for foreign firms, thereplacement of CoWs with a dual exploration and exploit

Keywords: Indonesia, natural resources, agriculture, energy, coal, oil, gas, minerals, environment ***** Exploiter au mieux les ressources naturelles en Indonésie . L’Indonésie dispose de ressources naturelles abond

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