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New leader will be positive for Indonesian energy

Joko Widodo's improbable ascent from slum child to leader of Southeast Asia's leading oil and gas producer will be positive, at least in the short-term, for Indonesia's energy sector

The governor of Jakarta, whose common touch has made him an unlikely political phenomenon, is seen as a more progressive and pragmatic choice for president than his opponent, Prabowo Subianto, a retired army general and former son-in-law of Suharto, the authoritarian president who ruled Indonesia for 32 years.  

Energy research firm Wood Mackenzie says that Widodo's victory will be positive, at least in the short-term, for foreign companies looking to invest in the archipelago's energy sector. But the new government's ability to implement reforms remains uncertain. 

Indonesia appears now to have the reform-minded leadership needed to help its economy take off. Corruption, a shaky legal system and misguided policies have arguably squandered the country's natural advantages of energy and mineral riches, as well as a young work force. Still former Jakarta governor Widodo, or Jokowi as he is more commonly known, who entered politics in 2005 after a career as a carpenter and later furniture exporter, reassures on two counts.

First, he seems to be uncorrupt. Second, his win looks decisive. An 8 million-vote victory over Subianto could weaken Subianto's coalition. Such a decisive victory could give Widodo the impetus to push through the reforms needed to reinvigorate the investment environment and revive the economy. Still, Widodo will inherit some big headaches from his predecessor. Indonesia's crude output has fallen from over 1m barrels a day (b/d) in 2005 to just over 800,000 b/d. While the domestic fuel subsidy bill is approaching $21 billion (or 13% of the budget) in 2014, and regulatory uncertainty has stalled several major investment projects. 

But Widodo has outlined plans to cut Indonesia's reliance on oil imports by developing new gas infrastructure and accelerating the switch to gas. He aims to boost oil and gas output by enhancing fiscal terms for mature fields and exploration, as well as by removing red tape. 

Revising the oil and gas laws, as well as formalising the upstream regulator's role, would improve the investment environment. This could see several big projects sanctioned: Chevron's Indonesia deep-water development, Inpex's Abadi floating liquefied natural gas project, BP's Tangguh liquefied natural gas scheme expansion, and, potentially, exploitation of the huge East Natuna (Natuna D-Alpha) field, which could generate over $30bn of new investments.

The nationalistic tilt could have worsened under Subianto. That risk is gone - though not completely. Widodo shares founding president Sukarno's ideal of economic self-reliance, but hopefully will restrict that to plans for producing more food locally.

While analysts expect Pertamina to play a greater role in Indonesia's upstream sector under Widodo, the new president also recognises the benefits of working with international investors to secure technological know-how as well as investment. "At a time of growing domestic energy demand, declining indigenous production, and after several years of regulatory instability, the government's ability to implement Jokowi's proposed reforms will be key," Andrew Harwood, an Asian upstream specialist at Wood Mackenzie says. 

Over 2014-2020, Wood Mackenzie estimates the total fuel subsidy bill will be around $120bn, based on today's domestic pricing, which makes up around 3% of gross domestic product and is therefore unsustainable. Raden Pardede, an economic adviser to outgoing president Susilo Bambang Yudhoyono, has warned that Widodo's government will start 'broke' and will be under pressure to cut the huge fuel subsidy bill in its first 100 days, a report in the Financial Times said.

The World Bank has been urging Indonesia to eliminate fuel subsidies for years, but politicians fear upsetting middle-class car drivers (who receive the bulk of financial benefits) and the 'oil mafia' who control the import and export of fuel. Widodo has been short on specifics of how he will deal with this problem. But the government is expected to push through price reforms, which will hit near-term demand. However, the income-effect will prevail in the medium term and drive demand growth, says Sushant Gupta, an Asian downstream specialist at Wood Mackenzie. 

Still the market for unsubsidised retail fuels is very small, but there is huge upside potential if the government fully deregulates. This would provide a good market opportunity for foreign players operating in the unsubsidised retail fuels market or new players looking to invest in Indonesia's refining and retail sectors, adds Gupta. 

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