New oil and gas law: Threat to government?

Parulian Sihotang and Alex Russell, Department of Accountancy and Business Finance, University of Dundee, United Kingdom

By its very nature the passing of state legislation is a process designed to bore the pants off the average Indonesian citizen; the creation of opaque and jargon-laden legal gobbledygook possesses none of the charms of an intellectual aphrodisiac and is certainly not a light read before bedtime.

But the passing of the new oil and gas law on Oct. 23 seems an exception to the rule. It has triggered deep emotions throughout society. Why? Well the power stakes which underpin the oil and gas game could not be higher. And despite the modest claims of legislator Emir Muis of the Indonesian Democratic Party of Struggle (PDI Perjuangan) that it "will become a masterpiece among the country's laws", the more objective view may be that it is a time-bomb with the potential to unseat the government.

What are the relevant issues?

First, the future well-being of the nation is dependent on the successful management of its natural resources, the exploitation of which must be under state control, according to the Constitution.

The "liberalizing" nature of the new law, leaving market forces to determine optimal exploration, development and production practices, has a hollow ring to it; especially in the light of dramatic "liberalizing" failures in the UK where the privatized railway network, for example, is now almost in terminal decline and is having to be brought back under public control.

The notion that government-controlled "steering" and "regulating" bodies will act as effective buffers against the possible anti-Indonesian excesses of market-led investment trends may well be wishful thinking. The stakes are too high for the government to get this wrong. The economic contribution of the industry to gross national product is irrefutable.

For example, a staggering US$209 billion have been stacked into the government coffers from the signing of the first Indonesian petroleum production sharing contract (PSC) in 1966 to 1999, which is an average of $6billion per year. In contrast, oil companies took $1.4 billion per year. This contribution to the economy must be maintained or improved upon.

Second, in keeping with the economic importance of the industry, the management barons who run the petroleum industry have power and influence beyond the imagination of other industry gurus. And in such circumstances it seems unremarkable that accusations of corruption, collusion and nepotism (KKN) abound. The new law fails to address specific ways to eliminate the alleged rampant KKN disease.

Third, the political aspects associated with having foreign oil companies encamped on Indonesian territory in almost colonial style must attract greater public attention in the wake of the current United States-led war on Afghanistan. Media speculation has already suggested that the "anti-terrorist" war has been partly motivated by the desire of the Western superpowers to secure Western sovereignty over vital oil pipe-line routes.

Finally, it is crucial to remember that the influence of the Indonesian citizen over the exploitation of oil and gas reserves, which arguably are their birthright, is at best minimal, and that the application of oil and gas revenues to improve society and the environment should be uppermost in the minds of those who wield power.

The main casualty of the new legislation appears to be the state oil company Pertamina, which loses its authority to sign agreements and manage the activities of foreign oil companies operating in Indonesia. Even more alarmingly it will have to compete with the international oil giants if it is to survive.

A cynic would shed few tears over the emasculation of Pertamina. After all, the World Bank has identified inefficiencies in Pertamina's management functions. In particular Pertamina's considerable discretionary powers to accept or reject a wide range of activities, transactions and business requests covering annual work programs and budgets, development plans, authorization for expenditures, tender and procurement of materials and services, and audits of contractors' personnel policies, have led to unacceptable delays in these areas (World Bank Report, June 2000).

In addition, according to the Boston Consulting Group Restructuring Report in 1998, Pertamina could save $25 billion by (a) introducing faster approval processes, shorter discovery/production cycles and increased production rates ($6 billion), (b) improving industry-wide performance through sharing facilities/equipment, lowering costs and adopting new tenders/procurement processes ($16 billion), and (c) increasing recoverable reserves ($3 billion).

Finally, Pertamina seem implicated in the failure to promote the use of local goods and services as stipulated in the production-sharing contract. The clause says "contractors shall give preference to such goods and services which are produced in Indonesia or rendered by Indonesian nationals, provided such goods and services are offered at equally advantageous conditions with regard to quality, price, availability at the time and in the quantities required".

Unfortunately, it has been difficult for the government to ensure that contractors have adhered to such a loosely and ambiguously worded provision. The spirit of this clause intended to support local needs has not been religiously enforced by Pertamina.

In mitigation, Pertamina might claim that direct inputs into the petroleum processes would be difficult to procure domestically, due to the level of technological sophistication required in their manufacture, and as insufficient skills have been available within the country to create industries for supplying such products.

Other countries do not have this problem.

For example, in the UK, 44 percent of the jobs created by the petroleum industry are located in the region surrounding the exploration and development sites (United Kingdom Offshore Operators Association Economic Report, 2000).

So, if the cynic's view is valid, is the new oil and gas law good news? The jury is still out on this one.

Who will occupy the new positions of power in the new executive? If the government wishes experienced managers, then they appear to be between a rock and a hard place. They either turn to the current managers of Pertamina (perish the thought!) or they employ foreign managers and surrender all pretense of being in control. Or, they gamble with the nation's wealth by employing untainted but inexperienced managers. These options do not present a happy prospect however you look at it.

And if Pertamina fails to compete effectively with the international oil giants, is it politically acceptable to witness the demise of the National Oil Company?

Given the current anti-Western mood here, if the new law is seen to bring about the Pertamina's destruction and the consequential strengthening of U.S. and UK interests, then this could well be political suicide for the government.

Will the desired improvements in social and environmental affairs be bought at too high a price? Will KNN continue to raise its ugly head in the new executive? We live in interesting times!