Indonesian petroleum industry caught in confusing web of rules

John Mcbeth, The Straits Times, Asia News Network, Singapore

The recent oil strike by Australian-owned Santos off the coast of East Java and major untapped oil and gas deposits in ExxonMobil's disputed Cepu field will not be enough to head off what appears to be a pending Indonesian decision to end its 43- year membership of the Organization of Petroleum Exporting Countries (OPEC).

Slumping crude production over the past decade has undermined Indonesia's status as a net oil producer -- and thus its right to remain in OPEC -- after years of refusing to provide the incentives or the business climate to compete for global exploration dollars.

Senior Jakarta-based oil executives say the over-regulated oil and gas industry is in more disarray than it has ever been. Exploration is at its lowest level since 1968 -- and Indonesia's nationalist legislators are seemingly cheering from the sidelines.

"Without further exploration success and investment in production optimization, production from existing discoveries will decline by 50 percent in the next decade," Indonesian Petroleum Association chairman Chris Newton has warned in an unusually hard-hitting annual report.

Mines and Energy Minister Purnomo Yusgiantoro told a recent parliamentary commission hearing that the government was establishing a panel to look into Indonesia's possible exit from the 11-nation OPEC, which it first joined in 1962 -- two years after Iraq, Kuwait, Saudi Arabia and Venezuela formed the cartel.

The sharp decline in output has been exacerbated by surging domestic demand, mostly the result of fixed prices and heavy subsidies that have provided Indonesian consumers with some of the cheapest gasoline in the world.

With exports last year plunging from 100,000 to 30,000 barrels a day -- now roughly in balance with imports -- and domestic prices capped at about US$25 (S$41) a barrel, the fuel subsidy bill has blown out to a record $7 billion, close to the country's total budget for development spending.

In his most difficult decision since taking office last October, President Susilo Bambang Yudhoyono is expected to announce an average 30-percent increase in fuel prices early next month. The government is bracing for widespread protests, but without real civil society leadership, these are unlikely to spin out of control.

Yusgiantoro has said that withdrawal from OPEC is a political decision because of the importance Indonesia attaches to its diplomatic relations with the other OPEC members, particularly those in the Persian Gulf. House energy commission members want the country out of OPEC, saying the $2 million annual membership fee outweighs the benefits it brings.

But oil experts worry about the impact that may have on new spending by foreign production sharing contractors; development investment added up to only $1.1 billion last year and exploration investment is at a 36-year low of $400 million.

Indonesia has been unable to meet its OPEC quota of 1.4 million barrels a day for some years. Production of oil and condensate fell last year from 1.1 million barrels to 1.08 million barrels, while consumption of petroleum products grew by 5 percent, leaving the country a net oil importer for much of the final half of last year.

Analysts blame the decline on the fact that 70 percent of mature fields contribute to 88 percent of production. Only 45 new wells were drilled last year, compared to the 400 which experts in the 1980s said were needed annually to maintain production at existing levels. The United States Department of Energy expects Indonesia to have an oil trade deficit of $1.2 billion this year, and $1.6 billion next year.

Seattle-based energy consultant Al Troner says Santos' recent find, estimated at 500 million to 700 million barrels, will be "a drop in the bucket" against future demand growth, which will escalate only if Yudhoyono can put new life into the country's long-dawdling economy.

And for all its drive to boost foreign investment, the new administration has been reluctant to intervene in an ongoing dispute between the state-owned Pertamina oil company and ExxonMobil over the fate of Java's onshore Cepu field, with its estimated one billion barrels of oil and 85 billion to 140 billion cubic metres of gas. Leaving the oil in the ground until ExxonMobil's contract runs out in 2010 makes little sense.

"Everything is based on nationalism, but no one really knows what to do," says former mines and energy minister Kuntoro Mangkusubroto.

Some Pertamina officials think Indonesia can develop the field on its own. Oil analysts say it will still need a foreign partner with deep pockets to pay for the $2.5 billion development cost. That may turn out to be PetroChina, the state-owned Chinese company which already owns a small part of the Cepu reservoir and may be ready to pay for a whole lot more.

Overall, however, it is a plethora of legal, regulatory and fiscal risks and uncertainties that is weighing on an industry which still contributes massively to Indonesia's balance of payments. "The government has to recognize that the best way to increase investment is to look after existing investors," says Newton, also the chief executive officer of Energi Meda Mersada, a newly-listed company owned by Economic Coordinating Minister Aburizal Bakrie. "Executives are sitting in boardrooms and making global capital decisions. Indonesia is struggling to compete."

In one sign that it recognizes things must change, the government last month finally abolished tariffs on drilling and other equipment imported for oil exploration. But it failed to address what Newton calls the "nightmare" of reimbursable value- added taxation (VAT). Under the old regime, oil companies were responsible only for income tax, while Pertamina paid for VAT and import duties. But when Oil and Gas Upstream Regulatory Agency (BP Migas) took over from Pertamina as industry regulator under the 2001 Oil and Gas Law, the entire tax burden fell on the companies.

That is not the only complaint. Oil executives say a stifling procurement process, which forces companies to clear all purchases with BP Migas, has brought efficiency down by 50 to 60 percent. "The biggest change they could make is eliminating regulations," says one frustrated Western oilman. "Low level bureaucrats have taken hold of the Oil and Gas Law and made it worse. They can stop us in our tracks just using their own interpretation of contracts. We have no idea what goes on behind the scenes and what the reasoning is."

The writer is the former Jakarta correspondent for the now defunct Far Eastern Economic Review.