Indonesia
The costs of self-sufficiency
Indonesian petrochemical company PT Petro Oxo Nusantara, henceforth PT PON, sources some of its raw materials from the state-owned national energy company, Pertamina, but it would rather import cheaper upstream products. As the country’s only producer of 2-ethyl hexanol (2-EH) and affiliate products like Iso-Butyl Alcohol (IBA) and Normal-Butyl Alcohol NBA), PT PON became of national interest and it is now government-owned, Pertamina owning 68% of shares and the Ministry of Finance 32%.
To produce the important 2-EH, which goes to supply 90% of Indonesia’s domestic requirement, PT PON needs propylene and natural gas; whereas the natural gas provided through PT Pertamina Gas Negara (PGN) comes at a discount, propylene from Pertamina’s crackers is more expensive compared to that produced by other refineries: "Our products use raw materials originating from Indonesia, which are propylene (C2H6) supplied by Pertamina’s cracker as part of our contractual obligations; however, we also import propylene from companies like Sabic, Petronas, PTT Chemicals, or Shell, at more competitive prices, and natural gas (CH4) which we get a discount on the price of natural gas from PGN, the state-owned natural gas company, which makes the CH4 raw material supply efficient," said Jaya Martapa, the CEO of PT PON.
Indonesia has been pushing to reduce the petrochemical industry’s high dependence on imports by producing more at home; this year, the country has taken its ambition further, proclaiming that Indonesia will become completely self-sufficient and no longer import petrochemicals from 2027 onward, when the construction of Tanah Kuning Kalimantan Industrial Park Indonesia (KIPI) is completed. KIPI is envisioned to become the largest petrochemical hub in Southeast Asia and the world’s biggest integrated industrial area.
The Indonesian petroleum and petrochemical sector is, to a large extent, nationalized, the government controlling refinery production since 1968, while foreign companies operate under a production-sharing model, essentially as contractors. Created in 1957, Pertamina acts as the umbrella company for a network of subsidiaries and interests; besides PT PON, it owns TPPI (Trans-Pacific Petrochemical Indotama), the country’s main paraxylene (PX) producer, as well as Polytama Propindo, the main polypropylene (PP) producer, among others.
Following the government’s directives, many projects are underway to boost national production. At the upstream level, Pertamina aims to increase its refining capacity from the current 1 million barrels per day (bpd) to 1.5 million bpd by building two new refineries and upgrading its Dumai, Plaju, and Cilacap refineries. The upgrades would amount to US$6.2 billion CAPEX, according to Reuters. The national company already completed the first phase of its Balongan refinery upgrade in 2022, expanding capacity from 125,000 bpd to 150,000 bpd. The Balikpapan refinery upgrade will soon add another 100,000 bpd to its current 260,000 bpd capacity. At a 1.5 million bpd refinery capacity, Indonesia would satisfy its current domestic needs.
Downstream, various projects are underway to reduce the current deficit in the olefins and aromatics value chains. PTTI’s Tuban PP Plant is expected to start operations next year, while its ISBL aromatic revamping project to increase PX output should be finalized this year. Alongside domestic investments, Indonesia’s President Joko Widodo, popularly known as Jokowi, has also been working to attract foreign investment, in somewhat of a contradiction with his parallel nationalistic ambitions. South Korean Lotte Chemical Corporation, in a JV with its subsidiary, Lotte Chemical Titan (LCT), has committed a whooping US$3.95 billion investment in an integrated 1 million t/y naphtha cracker and downstream ethylene and propylene project in Cilegon, in the Banten province. The project is slated for completion in 2025.
In total, 22 petrochemical projects are bound to start operations between 2021 and 2025 in Indonesia, according to GlobalData.
Fears of protectionism
The localization drive is easily justifiable from a structural viewpoint: Indonesia’s manufacturing sector is the largest contributor to the country’s GDP, and, within it, the petrochemicals sector is its main constituent. The chemical, pharmaceutical, and traditional medicine industries contributed over US$22 billion to the economy at the end of 2021, according to Statista, a figure that has grown steadily year after year. However, Indonesia’s large domestic consumption, driven by its over 273 million population, has resulted in a sizeable deficit between exports and imports of petrochemicals.
Based on data from the Ministry of Industry (Kementerian), exports of processed chemicals reached US$20.01 billion whereas imports amounted to US$27.85 billion at the end of 2022. In product volume terms, Indonesia can only source 2.45 million t/y of raw materials domestically, half of what it needs (approximated at 5.60 million t/y), according to YCP Solidiance, a consulting firm. Also, despite being the third largest oil producer in Asia Pacific, Indonesia is a net importer of crude. In fact, its largest yearly imports are refined petroleum worth US$14.5 billion, crude petroleum (US$6.03 billion), and LPG (US$4.27 billion).
The surge in oil prices in 2022 further stretched the national budget because Indonesia subsidizes fuel, gas, and electricity. East Asia Forum reported that Indonesia paid four times more in January 2022 compared to January 2021 on energy prices. Energy bills become even more concerning during a period of weaker rupiah (local currency), which augments the size of external debt. The country has had to balance economic arguments with welfare arguments in deciding between a technocratically sound reformist policy of removing subsidies or a politically sound policy of maintaining subsidies, especially at a time when poverty levels increased after the pandemic. As of July 2021, Indonesia was retrograded from an upper-middle income to a lower-middle income status by the World Bank.
“DKSH Indonesia has just launched its newly renovated Performance Materials office in Jakarta, housing a new Food and Beverage Ingredients Innovation Center specialized in confectionery, bakery, dairy and savory products.”
Victor Liew, Director, DKSH Performance Materials (Indonesia, Malaysia and Singapore)
The petrochemical industry has been targeted as a priority for the country not only on account of its direct weight on the current account, but also its centrality as a supplier of raw materials for other manufacturing industries, including textiles, pharmaceuticals, food, electronics, and electric vehicles, which the government also wants localized. In 2022, the government requires local governments to spend a minimum of 40% of their expenditure budget on local products. Similar local content policies required electronics and pharmaceutical manufacturers to obtain certificates that indicate the percentage of domestic content within their products, informed an article in the East Asia Forum.
At the end of last year, the President announced that Indonesia will stop exporting bauxite starting June 2023. KIPI, the large industrial area hosting the newly planned petrochemical complex, will also be the home of new bauxite smelters, to be ready in the next two years. Seeking synergies between the chemical and EV industry, Indonesia won the attention of German multinational BASF, the largest specialty chemicals player in the world, as well as Eramet, a French-based mining company, to invest US$2.6 billion in a facility to produce battery-grade nickel (hydroxide precipitate or MHP). The final investment decision is still pending.
In an article published by the Lowy Institute, author Ben Bland calls President Jokowi a man of contradictions due to his both liberal and nationalistic policies. On the one hand, the President has been a vocal supporter of free trade agreements, including the 2022 ratified Regional Comprehensive Free Trade Agreement (RCEP), and the also recent Indonesia-Australia Comprehensive Economic Partnership Agreement (IA-CEPA), which came into effect in 2020 after a decade of negotiations. Other trade deals with the EU and the US are in the making. At the last G20 gathering, which was hosted by Indonesia in Bali, President Jokowi together with the sherpas of the 19 most powerful economies in the world, agreed to reinforce international trade and cooperation. At home, however, “Jokowi leans the other way, talking of the need for Indonesia to stand on its own feet and reduce reliance on imports,” suggested the author.
While restricting imports, repatriating supply chains, subsidizing local goods, and encouraging local procurement are all symptoms of classic inward-looking protectionism, Indonesia is also looking outward by liberalizing trade and promoting foreign investment. For example, since 2015, the government offers up to 100% income tax reduction for the first five to 10 years to eligible chemical companies that invest in the country, even if, according to some reports, including a study done by the think-thank Development of Economic and Finance, none of the three major projects with a large foreign investment received the tax holiday in 2017, when the analysis was done.
Indonesia clearly wants to benefit from the tariff reductions within the ASEAN Economic Community and those granted by multilateral and bilateral agreements. What it does not want is to become the export destination of other ASEAN producers, as President Jokowi has reportedly said, according to the Jakarta Post. In other words, Indonesia seeks to limit inbound trade, not outbound. As the country enters the last leg of its 20-year development plan between 2005 and 2025, its policies have turned autarkic in nature, focusing on self-sufficiency, especially vis-à-vis strategic industries like petrochemicals. This is different from traditional protectionism - the weaponization of trade as a measure or pretext in the context of a geopolitical spat, as seen in the US-China trade war, but it does fall under what some authors called “scarcity nationalism” - a protective, sometimes paranoid, sometimes justifiable reaction to the hiatus in global trade caused by the pandemic.
The pandemic led to isolation, not just for individuals, but also for nations, as each country sought to contain contamination from abroad while holding tight to scarce medical supplies and regretting their dependencies on other countries when supply for everything from toilet paper to oxygen masks ran short. The invasion in Ukraine made matters worse. As such, autarky, a Greek term for self-sufficiency, has resurfaced in recent discourse as the world’s biggest powers have declared plans to become more independent. The US passed new “buy national” regulation, China has been advocating “zili gengsheng” (self-reliance), a slogan also predominant in India (“atma nirbhar bharat"), while the European Union has been doing everything in its power to abstain from Russian gas. This rhetoric has materialized in trade volumes. A report by Boston Consulting Group found that global trade has indeed slowed down. But, another report by consulting firm EY argues that the pandemic and the war in Ukraine only intensified a pre-existing protectionist tendency, which can be traced back to the 2008 financial crisis and the ensuing disappointment with globalization, concomitant with a rise in populism in politics.
With nationalism coloring global politics, it would be wrong to single out Indonesia as protectionist.
Will it work?
Globalized trade is underwritten by a principle of specialization, which suggests that it is more productive to specialize and exchange goods rather than attempt to produce everything. It is usually ill-advised to produce goods that are readily available at cheaper prices in other countries; in Indonesia’s case, it is unlikely to beat the pricing of China, which accounts for the largest share of imports. But the cost calculations must also include logistics expenditures, the volatility of the rupiah which can make imports costlier, and taxes.
Indonesia nevertheless has one of the largest populations in the world, as well as the second fastest-growing middle-class in the world, which will secure steady, long-term growth in petrochemical demand. Allied Market Research estimates that the Indonesian chemical market could grow at a CAGR of 7.2% between 2020 and 2030, above the global average. Another factor that will determine the success of the localization of the petrochemical industry in Indonesia is the level of upstream-to-downstream integration. Other countries in the region have mostly focused on downstream investments in higher-value products, but Indonesia looks both ways, seeking to secure more domestic raw materials through backward integration, while also trying to attract more investments into intermediate and performance chemicals to serve its diverse manufacturing sector. The country aims to stop all imports by 2027, but securing every component of the value chain will become more difficult the more the industry moves into more complex areas. Thus, it will be important to ensure logical links between the demands of the downstream with the availability of the upstream.
Finally, the origin of the energy input is becoming more important in the localization debate. Even strong-headed opponents of self-sufficiency or populist retrenchment policies admit that local production tends to have a better carbon footprint, especially relevant in the areas of food production and energy generation. But what happens when the main domestic energy source comes from fossil fuels? Today, coal represents more than 37% of Indonesia’s energy mix. With new regulations like the EU’s Carbon Border Adjustment Mechanism (CBAM) requiring exporters into Europe to pay a carbon border fee, Indonesian exporters of fertilizers can either pay the costs of their carbon footprint or reorientate to other, more carbon-lenient exporting destinations.
“The US$3.95 billion Lotte Chemical Indonesia New Ethylene Project (LINE Project) will increase the production capacity of the Group by 65%. The additional supply will most likely be targeted for import substitution in the domestic market. Indonesia is a net importer of petrochemical products, so the expansion will enable us to capitalize on the anticipated increase in demand.”
Park Hyun Chul, President and CEO, Lotte Chemical Titan
The distancing from coal recently cost Indonesia a US$2.3 billion investment promised by Air Products in coal-gasification plants in East Kalimantan and South Sumatra provinces. The American gas company announced in March that it will withdraw from the project, signed in 2021, to focus more on energy transition opportunities, including blue and green hydrogen projects. The Indonesian government suggested a Chinese investor is interested in the project, but there have been no more announcements since.
At the same time as it is looking for investors to make methanol from coal, Indonesia has also strengthened its pledges towards the energy transition. President Jokowi vowed that the country will reach net zero by 2060 or sooner, and the national utilities company, PLN, for the first time included more renewable power plants than fossil fuels in its 10-year business plan. A profitable takeaway from the G20 Summit in Bali last year is the US$20 billion obtained by Indonesia towards its energy transition through the US and Japanese Just Energy Transition Partnership (JETP), a new mechanism whereby rich nations are helping fund coal-dependent developing nations to phase out coal.
Growing an independent, import-free petrochemical industry is capital and energy-intensive, but Indonesia seems keen to make it happen at all costs. There are three sensitive considerations that it will need to pay attention to: The first is to make sure its resources are well allocated towards producing at a better value compared to what can be imported cheaply; The second is to avoid, while bolstered by its assured self-appraisal, becoming overconfident in its own powers and closing the door to external trade – or worse, to be perceived as such. Lastly, Indonesia should use the opportunity of billions going into greenfield and brownfield petrochemical projects to link these facilities to green energy sources.
Article header image by Daxiao Productions at Adobe Stock