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www.ssoar.info Indonesia-China Energy Trade: Analyzing Global and Domestic Political Economic Significance in Indonesia-China LNG Trade Badaruddin, Muhammad Veröffentlichungsversion / Published Version Zeitschriftenartikel / journal article Empfohlene Zitierung / Suggested Citation: Badaruddin, M. (2013). Indonesia-China Energy Trade: Analyzing Global and Domestic Political Economic Significance in Indonesia-China LNG Trade. Journal of ASEAN Studies, 1(1), 25-40. https://nbn-resolving.org/urn:nbn:de:0168- ssoar-441496 Nutzungsbedingungen: Dieser Text wird unter einer CC BY-NC Lizenz (Namensnennung- Nicht-kommerziell) zur Verfügung gestellt. Nähere Auskünfte zu den CC-Lizenzen finden Sie hier: https://creativecommons.org/licenses/by-nc/4.0/deed.de Terms of use: This document is made available under a CC BY-NC Licence (Attribution-NonCommercial). For more Information see: https://creativecommons.org/licenses/by-nc/4.0
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Page 1: Indonesia-China Energy Trade: Analyzing Global ...

www.ssoar.info

Indonesia-China Energy Trade: Analyzing Globaland Domestic Political Economic Significance inIndonesia-China LNG TradeBadaruddin, Muhammad

Veröffentlichungsversion / Published VersionZeitschriftenartikel / journal article

Empfohlene Zitierung / Suggested Citation:Badaruddin, M. (2013). Indonesia-China Energy Trade: Analyzing Global and Domestic Political Economic Significancein Indonesia-China LNG Trade. Journal of ASEAN Studies, 1(1), 25-40. https://nbn-resolving.org/urn:nbn:de:0168-ssoar-441496

Nutzungsbedingungen:Dieser Text wird unter einer CC BY-NC Lizenz (Namensnennung-Nicht-kommerziell) zur Verfügung gestellt. Nähere Auskünfte zuden CC-Lizenzen finden Sie hier:https://creativecommons.org/licenses/by-nc/4.0/deed.de

Terms of use:This document is made available under a CC BY-NC Licence(Attribution-NonCommercial). For more Information see:https://creativecommons.org/licenses/by-nc/4.0

Page 2: Indonesia-China Energy Trade: Analyzing Global ...

Journal of ASEAN Studies, Vol. 1, No. 1 (2013), pp. 25–40©2013 by CBDS Bina Nusantara University and Indonesian Association for International RelationsISSN 2338-1361 print / ISSN 2338-1353 electronic

Indonesia-China Energy Trade:Analyzing Global and Domestic Political EconomicSignificance in Indonesia-China LNG Trade

Muhammad Badaruddin Universitas Bakrie, Indonesia

AbstractIndonesia had been the largest LNG exporter for almost three decades since 1977 to 2005.During 1970s and 1980s, Indonesia’s energy industry boosted its economic growth thatvalued 80% of the country’s annual exports and 70% of its annual revenues. Meanwhile,Indonesia presents an exceptional case since it decreases its LNG export while it has beendeveloping its largest LNG plant in Tangguh due to prioritizing domestic energy demand.But, since Indonesia eagerly links its economy to China, it uses LNG export as a medium tostrengthen Indonesia-China strategic partnership. Tangguh LNG export to China, althoughit is not Indonesia’s largest LNG export contract, reflects a unique case of a developingcountry’s international energy trade. Because it presents evolution of Indonesia’s LNG exportpolicy through dynamics of regional and global economic turbulences. This paper analyses theLNG export in the context of Asian economic crisis and its recovery, the peak of crude oilprice in 2008 and followed by global financial crisis as the context as well as Indonesia’sdomestic political dynamics.

Keywords: international energy trade, Indonesia-China energy cooperation, LNGexport policy

Introduction

Indonesia was an early producer of oilstarted in the 1870s. Up to the SecondWorld War, Indonesia produced 148,000barrels of oil per day (Arndt 1983; Hunter1966). Indonesian natural gas industry cameto life when it found a large natural gasfield at Arun in Aceh Province in 1971, andthen discovered gas reserves at Badak, nearBontang in East Kalimantan Province in1972, totaling about 17.5 trillion cubic feet(tcf) of reserves (Wijarso, 1985). Badak

exported its first cargo in 1977 while Arunfollowed the suit the next year. Badak andArun’s export had made East Asia theworld’s largest regional Liquefied NaturalGas (LNG) market (Nugroho, 2010).

The energy industry boostedIndonesia’s economic growth during the1970s and 1980s by accounting around 80%of the country’s annual exports and 70% ofthe central government’s annual revenues(Rosser, 2007:39). LNG is also Indonesia’smost significant energy export and has beenits largest foreign exchange earner (Stott,

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26 Indonesia-China Energy Trade

2008). Indonesia had been the largest LNGexporter for nearly three decades since 1977to 2005, and its peak export was in 1998 foraround 36.1 billion cubic meters (Nugroho,2010). Indonesia has estimated reserves ofaround 9 billion barrels of proven andpotential crude oil and 182 tcf of gas,according to energy ministry data (Reuters,22 November 2007).

Profile of Tangguh LNG Project

Tangguh LNG plant project isIndonesia’s third LNG centre after BadakLNG plant and Arun LNG plant. Tangguhplant is located in Berau Bay and fed by gasfield in Manokwari Regency. Tangguh gasproject is developed by a consortium ofBeyond Petroleum Plc., (37.16%), MI Berau(16.3%), CNOOC (13.9%), Nippon Oil(12.23%), KG Berau/KG Wiriagar (10%),LNG Japan Corporation (7.35%) andTalisman (3.06%) (the Jakarta Post [JP], 31December 2009). Tangguh LNG plant isplanned to have a production capacity of 7.6million metric tons (mmt) a year from twoproduction trains (Hudiono, 2005) The LNGproject fed natural gas from threeproduction-sharing blocks –the Berau, theMuturi, and the Wiriagar blocks inManokwari regency, which totallycontained 14.4 tcf proven reserves of naturalgas (JP, 9 August 2002). These three blocksare controlled through Production SharingContract (PSC) by BP Indonesia Plc. whichhas 37.5% of the reserves, along with byMitsubishi (16%), Nippon Oil Exploration(12%), British Gas (11%), Kanematsu Corp.(10%), LNG Japan (1%) and China NationalOffshore Oil Corporation (CNOOC) whichhas 12.5% stake in the gas fields (JP, 30September 2002).

Until 2009, The Tangguh LNG plantoperator has signed multi-year contracts tosupply LNG to several buyers, including to

CNOOC, which is serving the FujianProvince’s LNG Terminal in China for theamount of 2.6 million ton per annum (mtpa)for 25 years contract. Another one is withKorea's steel company, POSCO and Korea’sElectric company, K-Power for a total of1.15 mtpa for 20 years of tenure (Alfian,2009). The LNG export contract to Fujianwas the first contract made with Tangguhoperator. It was expected to generate a totalof USD8.5 billion revenue for 25 yearscontract period while its two trains totalproduction capacity, will generate USD 21billion in revenue over the same period.Initially, BP and its partners had planned toinstall four trains at the Tangguh plant,which will generate USD 45 billion inrevenue (JP, 30 September 2002). Therevenue will be distributed to theIndonesian central government, the Papuaprovince and BP with its consortiumpartners. Under a PSC, BP and its partnerswould keep 30% of all revenue and give theremaining 70% to the government. Thenaccording to the Intergovernmental FiscalBalance Law No. 25/1999, the centralgovernment has to hand over 30% of therevenue to the Papua province (JP, 27December 2002).

Statement of the Problem

Referring to Krasner (1976), there arefour major state interests in theinternational trade: (1) political power; (2)aggregate national income; (3) economicgrowth; (4) and social stability. Focusing ininternational energy trade, it related to‘energy security’ which has been debatedparticularly concerning the transnational oilmarkets. Moreover growing demand of gasin the global market will force consumers toput big concern of a vital gas supply.Emerging cooperation among gasproducers and major energy consumer

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countries will shape a new geopoliticalconsiderations that strongly influence thehighest levels of economic and securitypolicy.

Energy importer country like China thatcommit to fulfil its large quantity of gas, putits energy security systems partly in thehands of the exporters, which will give bothof the two parties a stake in each countries’domestic political stability. Thus, the‘geopolitics of gas’ is not simply a strugglefor global position, but also “the immenselypolitical actions of governments, investors,and other key actors who decide which gastrade projects will be built, how the gainswill be allocated, and how the risks ofdependence on international gas tradingwill be managed” (Barnes et al., 2006: 4-5).

The focus of this study is to investigateIndonesia’s LNG export from its Tangguhplant to Fujian Province in China. Theexport contract was signed in August 2002to supply 2.5 mtpa of LNG for 25 years intenure. Under the contract, the crude oilprice –as the LNG checking price—waspacked in maximum price of USD25/barrel,but the oil price had risen since early 2005and it reached above USD100/barrel during2007-2008. It means, the original contractonly valued USD2.67 per million Britishthermal unit (mBtu), although in fact in2008 Indonesia could even sell its LNG forUSD20/mBtu to South Korean companies.

The major emphasis of this study will beon the Indonesia’s interests in exporting itsLNG to China. This study will particularlyinvestigates Indonesia’s interests that droveits LNG export from Tangguh plant toChina, and the context that shaped theprocess of LNG trading tender/negotiation.Some research questions are addressedhere. What interests drove Indonesia toexport its LNG? Is there a certain politicalinterest behind the deal? How did thedomestic context shape Indonesia’s attitudeand its bargaining position during thenegotiation of Fujian LNG contract? How

did the global energy market shapeIndonesia’s assumption in accepting LNGpricing formula?

Since this research aims to reveal thedynamics of the international energy tradein depth and in detail, not shallowly andbroadly, the naturalistic approach seems tobe more suitable for this research. Inaddition, the existing data tend to bequalitative in nature as they are derivedprimarily from news in the mass media andinterview with the resource person. Thisresearch largely uses a qualitative approachbecause it focuses on the detailed criticalaspects using case study on a particularinternational energy trade. The data arecollected using qualitative method, to bediscursive and concerned with acomprehensive account of some event orunit. Although it has a small number ofcases, qualitative researchers generallydiscover abundant information from theresearch. Sometimes this research is linkedwith area or case studies that focus on aparticular event, decision, institution,location, issue, or piece of legislation (King,Keohane and Verba, 1995:4).

This research is more likely toincorporate an inductive approach and letthe data speaks for themselves. This studyis multi-method in focus, involving aninterpretive approach to its subject matter.Therefore, by deploying a wide range ofinterconnected methods this approach notonly helps in developing a more holisticview, but also facilitates explanation andprediction (Denzin and Lincoln, 1998). Themain tool for data collection in this researchis the analysis of secondary data, supportedby a qualitative interviewing as well asinternal documentation (documents of thecontracts, etc.). Data analysis is conductedtowards the news from several highlycredible English newspapers and magazinesas well as online websites, such as TheJakarta Post (most read English-languagenewspaper in Indonesia), Antara News

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(Indonesia’s biggest news services in termsof subscriptions), Tempo magazine EnglishEdition (most popular magazine inIndonesia), Bloomberg, Reuters, and PeopleDaily English Edition (Chinesegovernment’s media). An exploratoryinterview is also conducted with an energyexpert and senior policy maker in energysector in Indonesia. The interviews explorethe context surrounding Indonesia’s LNGexport to China, interests that shapedIndonesia’s policy to export its LNG, andsuggestions of Indonesia’s policy responseto gain its national interests through energycooperation with China.

Indonesian Government and LNGMarketing to China

Soon after taking over from theauthoritarian Suharto’s regime, PresidentHabibie’s administration (May 1998-October 1999) prioritized Tangguh LNGproject over other LNG projects across thecountry, including the expansion of BadakLNG plant, development of Donggi-SenoroLNG project and East Natuna LNG project(JP, 14 June 1999).

President Abdurrahman Wahidcontinued implementing the policy and wasinvolved personally in marketing theTangguh project. He was eager to offer theLNG particularly to key player states in theAsian LNG market (JP, 13 June 2000).Wahid put China’s LNG market on top ofhis list among others due to the country’sfast growing demand of energy. China isthe second largest energy importer after theUS. Wahid visited China and sent hisMinister of Energy Yudhoyono to findbuyers for the project in China. From thebeginning, efforts to sell Tangguh LNG toChina were conducted with a government-to-government approach involving a state-

owned energy company, Pertamina (JP, 30May 2000).

President Megawati Soekarnoputri, whotook office in July 2001 used any availablemeans to sell Tangguh LNG to Chinathrough a tender for Guangdong ProvinceLNG project. As the competition forGuangdong LNG contract betweenIndonesia and Australia heated up, leadersof both countries took turn to visit China towin over the preference of the Chinesegovernment.

President Megawati visited China andlobbied the Chinese leaders to secure theGuangdong LNG contract. In March 2002Megawati made a state visit to Chinaaccompanied by her husband, TaufikKiemas, a large number of her ministersand over 100 Indonesian businessmen.Australian Prime Minister John Howardalso lobbied the Chinese leaders to win theLNG project during his visit to China (JP, 9August 2002).

President Megawati and her Chinesecounterpart, President Jiang Zemin,performed a dance together for six minutesduring a state dinner. The event was widelyseen as dance diplomacy by Megawati tosell Tangguh LNG to China (JP, 25 March2002). She also hosted another summit withChinese Prime Minister Zu Rongji inJakarta. On top of that, she sent herhusband Taufik Kiemas to lead agovernment delegation that comprisedsome Cabinet members to persuade Beijingto reward Indonesia with the GuangdongLNG contract (JP, 21 August 2002).

However, on 8 August 2002, on thesame day with the 12th commemoration ofthe normalization of Sino-Indonesiandiplomatic relations, China announced adecision eagerly awaited by Megawati. TheUSD13.5 billion contract to supply 3 mtpa ofLNG for Guangdong terminal was awardedto a consortium of Australia’s energy firms(JP, 9 and 21 August 2002).

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The date was only coincidence.However, as a largest LNG exporter, thiswas Indonesia’s first failure to win thecontract. It was very disappointing becauseIndonesia was so desperate for foreignexchanges to cover its budget deficit (JP, 12August 2002). But surprisingly, China alsoannounced a ‘consolation prize’ forIndonesia without tender process. Chinaoffered Indonesia to become a sole bidderfor another LNG project in Fujian province,a smaller contract that’s expected to valueUSD10 billion to supply 2.5 mtpa of LNG toFujian Province (JP, 9 August 2002).However, the signed contract only valuedUSD8.4 billion for 25 years of long termexport (JP, 26 September 2002).

Context of Global LNG Market and theTender

During Guangdong LNG tender in 2002,the global LNG market was declining.Energy supply was abundant and theenergy commodity price was very low. Thecompetition among exporters was verytight. This situation was explained byIndonesian Minister of Energy Yusgiantorothat the arrival of new players fromMalaysia, Australia, Brunei Darussalam andQatar in the late 1980s has changed theregional LNG market's structure from a‘seller's market’ to ‘buyer's market’ (JP,12August 2002).

The ‘buyer’s market’ happened whenthe amount of supply in the energy marketwas higher than demand. The decliningmarket was formed by the scaling down ofindustrial operation in most Asia’sdeveloping countries. It was marked by theceasing of manufacturing machines that lefta big amount of energy supply in the stockpile. Although, just before the crisis, most ofLNG producers have increased their LNGproduction capacity to meet high demand

of energy triggered by Asian economicgrowth.

The decline in demand caused anoversupply condition in the LNG energymarket. The oversupply did not only scaledown the number of LNG markets, but alsoforced the contract of LNG trading to berescheduled due to the fact that most of theLNG contracts were intended for long termdeals ranging from 20 to 25 years.

They faced a totally unprecedentedcondition. All of the importing countrieshad an oversupply situation and too manycontracts. These unstable market situationshave also brought about differentcalculations on the buyers’ side. Althoughthey were favored by the ‘buyer’s market’condition, they prefer to have short termLNG contracts as they took a wait-and-seeapproach to long term contracts. In theiropinion, short term contracts offered betterflexibility in dealing with the period ofuncertainties. Therefore, the energy marketwas flooded by ‘short term’ contracts orbuyer’s preference to buy small quantities(JP, 11 April 2001). That is because thebuyers did not want to be tied with long-term contracts and therefore the buyersbecame more and more demanding and thecompetition became tighter (JP, 9 December2000).

The condition continued until thesecond half of 2004, when energy marketwas still dubbed as ‘buyer’s market’.Demand for Indonesia’s LNG from itstraditional buyers, like Japan, South Koreaand Taiwan, was still running in the lowestcurve. In fact, in order to extend the currentcontracts to supply some 12 mtpa to Japanthat will expire by 2010, Indonesia wasconsidering a request from the Japanese tolower the price, as part of a strategy tomaintain its customer loyalty (JP, 10December 2003). This marketing strategy bydecreasing the price was also applied toKorea Gas Corp. (Kogas) by discounting upto 40% should the firm agreed to extend its

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contract for another 20 years (JP, 23 June2004).

This ‘buyer’s market’ conditiondominated the global energy market fromthe peak of Asian economic crisis until thesecond half of 2004. This is the backgroundof China’s tender for the Guangdong LNGproject, which drew bidders from sixcountries –Indonesia, Malaysia, Russia,Australia, Yemen and Qatar (JP, 9 August2002). It is assumed that this energy marketcontext had influenced the China LNGtender process.

Domestic Context and the Tender

It is very important to understand thepolitical economic context in Indonesiaduring the Fujian LNG bidding process.Prior to the bidding, Indonesia was the lastcountry in Asia to recover from theeconomic crisis started in 1997. Not only didit hit hard Indonesia’s financial sector, butalso triggered a broader, systemic politicalreform. The crisis created a momentum tobring down the authoritarian regime ofPresident Soeharto and provided a periodof transition which changed anauthoritarian system into democracy.During the transition, political liberalizationalso opened a tight power competitionamong elites. Provinces outside Java Islandabundant with natural resources demandedfull autonomy and even campaigned forindependence.

One of the richest provinces but alwaysmarginalized, Papua, intended to breakaway from Indonesia. Responding to thisdemand, Indonesia should deliver a quickand concrete action to solve the unrest inPapua. The problem would bring thedomino effect to other provinces, especiallyafter East Timor was separated fromIndonesia. The main concern of theinsurgents in Papua was demand for justice

and welfare from the central government,particularly for larger shares in therevenues from the exploitation of theirnatural resources (JP, 13 June 2000).

In this domestic context, development ofthe Tangguh LNG project was expected tobe a strategic step in order to solve theproblem. It was expected, by exportingTangguh LNG, Indonesia would receivesufficient money to finance development inthe province with 2.3 million populations.Furthermore, the development wasexpected to push the economic growth andbring a multiplier effect in the developmentof various basic infrastructures.

The LNG project itself was expected toprovide at least 3,000 job opportunitiesduring the construction and 1,000 would bepermanently employed in the plant'soperations. The central government hadbeen guaranteeing a fairer share throughthe Special Autonomy Law of Papua. Thelaw guarantees the province to get 30% ofthe revenue from the LNG project and 70%will be for the central government (JP, 30September 2002).

Competition among the EnergyCompanies

Another issue that also rose during theIndonesia’s bidding of Guangdong LNGproject was the competition among themultinational companies. They were mostlythe investors of Badak LNG plant in EastKalimantan –led by French firm Total FinaElf and American firms Unocal Indonesiaand Vico Indonesia— who asked Pertaminato sell LNG from Badak to China. Theinvestors of Badak plant wanted to sell theirLNG to China since their plant was alreadydeveloped and had been servinginternational market for decades. They alsoproposed to build the ninth train in theBadak plant (JP, 25 July 2001).

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They argued that exporting LNG fromBadak would be cheaper than fromTangguh plant, because Badak LNG was anexpansion project while Tangguh was anew one. Investors of Tangguh would needto spend full investment to buildinfrastructure and other supportingconstructions, while Badak project would bemore efficient because it would only need tospend money for expansion project.

The efficiency would help Indonesia’sposition to give more competitive price forthe potential customers. Badak investor’sreason on the competitive price wasrelevant with the buyer’s market conditionat that time. Indonesia’s chance to win theChinese LNG supply contract would begreater if it proposed to supply LNG fromBadak plant (JP, 25 January 2001).Pertamina President Baihaki Hakim arguedthat Tangguh LNG could be lesscompetitive, because construction of theplant had not begun yet, which raised thecost of selling the LNG (JP, 11 April 2001).

Meanwhile, the Indonesia’s bidding ofGuangdong was also followed by thecompetition behind the screen betweenPertamina and BP. Pertamina was no longerthe sole seller for Indonesia’s LNG forinternational market and was replaced byBP, although during the Habibieadministration, Pertamina was appointed tomarket Tangguh LNG to China (JP, 14 June1999). The change of the market leader froma state owned company to a foreigncompany was allowed by the new Oil andGas Law, Number 22/2001 that stipulatesforeign contractors are allowed to markettheir production (The State Secretariat of theRepublic of Indonesia, 2001).

The appointment of BP to marketTangguh LNG to China was followed by acontroversy. BP failed to compete with theeventual winner, an Australian consortium.Analysts argued that appointing BP tospearhead Indonesia’s marketing effort wasa mistake. Pertamina should have done the

job as it had marketing experience fordecades. An analyst, Hutapea, said despitethe extensive corruption within Pertaminaover the past decades, Pertamina hadsucceed in putting Indonesia as the world'slargest LNG exporter and maintainedIndonesia's leadership in the Asian LNGmarket for decades. He said the governmenthad made a mistake by allowing BP to leadthe marketing, “The government made ablunder by distrusting Pertamina” (JP, 12August 2002).

Hutapea said the problem was thesecurity of supply. He further explainedthat since the Tangguh plant had notdeveloped yet, China doubted thecontinuity of supply from the Tangguhproject. They might fear other LNG plantscould not be responsible to ‘help’ Tangguhin case of troubles given the fact that Chinawould deal with BP, rather than Pertamina.“Had Pertamina led the marketing effort,China would not have been overly worriedabout the security of supplies becausePertamina also manages the Arun andBadak plants” Hutapea argued. Chinaprefers to be served by Pertamina as it hasbeen reliable exporter of LNG since 1970s.

Meanwhile, BP perceived as therelatively new player in Asian LNG market,and more importantly it did not has anyauthority to two other LNG plants thatalready operated for years (JP, 12 August2002). Pertamina’s position was assumedstronger in the LNG market because it hasfull authority in two other LNG plants.These authorities were very important to beable to guarantee continuity of the LNGsupply to the importer. As an example,when LNG production at Arun plant inAceh was disrupted, Pertamina could easilysecure the continuity of supply by deliverits reserve capacity from Badak plant inKalimantan. In fact, BP did not have suchability to guarantee security of LNG supplyto the importer.

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It was the first time a foreign contractorled an Indonesia’s LNG marketing team.However, after assessing the failure to winGuangdong contract and consideringChina’s special offer of Fujian LNG project,the government assigned a marketing teamled by senior Pertamina official to follow upthe offer. The team comprised threePertamina officials and president of theTangguh project, Gerald J. Preeboom fromBP. Successfully the Fujian contract wassigned in August 2002 by Pertamina, not BP(JP, 20 August 2002).

Following its ‘success’ to secure theFujian contract, Pertamina intensified acampaign to regain its previous status asthe sole seller of Indonesia’s LNG. AnIndonesian analyst argued that Pertamina’sstatus as marketing leader would improveIndonesia performance to compete in themarket because Pertamina had full controlof the other two LNG plant. It in turnwould assure the security of supply,something that BP did not have. However,other contractors were not enthusiasticabout the campaign as they argued that thesingle seller scheme would be unfair forLNG players in Indonesia, with Pertaminano longer the regulator but rather a marketplayer (JP, 19 September 2002).

In the wake of competition amongcontractor companies, the Oil and GasImplementing Body (BP Migas) hasappointed Pertamina as the sole marketingagent for Indonesia’s LNG to Japan,Indonesia's largest LNG importer. Theappointment was for scheduling BP Migas’proposal on the extension of Japan LNGimport contract that would due in 2010 (JP,10 May 2004).

Pertamina was also asked to market theLNG to South Korea and Taiwan. In lateMay 2004, Pertamina regained its status tolead Indonesia’s LNG marketing team. Thehead of BP Migas announced that they hadfinished terms and conditions for the

appointment of Pertamina as sales agentwith other LNG producers such as Total,Unocal, Vico and BP Indonesia forTangguh.” (JP, 28 May 2004).

Learning from the competition amongcontractor firms, the government hasconsidered to set up an ‘Indonesia Inc.’,which would position the authority tomarket Indonesia’s LNG. The body, whosegoal would be to help Indonesia retain itsposition as a top LNG producer, wouldconsist of BP Migas, Pertamina, theIndonesian Gas Association and contractors(19 September 2002).

However, the Tangguh LNG exportcontract for Fujian did have a problem thatwould explode in the following days. Theproblem was about pricing formula thatcaused huge lost to Indonesia, because thecontract involved a crude oil check price atUSD25/barrel as the ceiling price for theTangguh LNG for Fujian. Some economicand political issues emerged around thecontroversial Fujian contract.

Problems over the Fujian LNG contract

Market condition that has been called‘buyer’s market’ has made the competitionvery tight. It is very tough when each of theLNG exporting countries had to compete byemploying all possible means available towin LNG supplying contracts. However,various measures deployed to win theexport contracts must put a national intereston the top priority above all calculation andinterests.

Various ways to attract potential buyers,including giving a big discount for LNGprice, should be calculated in order to gainlong term interest. Pricing of energycommodity in the international marketalways fluctuates. Sometimes the pricedrops because of economic, politic orsecurity issues, but at other times the price

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can be very expensive because of thesecontextual variables. As the nature of fossil-based energy is very limited and could notbe renewable, the general trend of fossilenergy price should be higher in the future.“The negotiator team had acted against thelaw of nature by assuming the fixing price”said Kurtubi, an energy expert in Jakarta(Iswara, 2008).

Based on this reason, the Fujian LNGcontract raised some question on the‘abnormality’ of the contract. But since thecontract was won during the frustratedsituation for Indonesia, the directappointment as the sole bidder withouttender was perceived as the ‘consolationprize’. However the ‘consolation prize’ hadraised a public suspicion on the unfairtransaction since its early stage.

The suspicion was raised as theIndonesian government was nottransparent in announcing the TangguhLNG export price to Fujian Provincealthough some experts and politicians hadquestioned the issue. The Indonesiangovernment was seen to keep somethingbehind public eye while in August 2002Minister Yusgiantoro was still inpreparation to send a task force to clarifythe contract with the Chinese government.Even until second half of September 2002,the price of LNG export to Fujian was stillin question. Having failed to winGuangdong contract, also with uncleardetails of the Fujian contract, the Indonesiangovernment nevertheless speculativelydeclared that the result of the bidding wasgood enough for Indonesia (JP, 7 September2002).

Responding to that progress, manyexperts and politicians criticized themarketing team’s ability and startedquestioning whether the largest exportingcountry was still competitive in the future.“Indonesia's LNG industry is now facing adoubtful future,” Ramses Hutapea, anenergy analyst said (Simbolon et al., 2002).

Critics also questioned the involvementof the president’s husband, Taufik Kiemaswho led Indonesian delegation to ‘lobby’Chinese policy makers. The rumors inJakarta speculated that Kiemas himself hadbeen possibly taking profits from the‘marketing activities’ (JP, 21 August 2002).

Indonesian government used the‘consolation prize’ to forget the frustrationfor its failure to win the Guangdong LNGtender. The Indonesian government usedthe Fujian contract to answer various criticsfollowing the failure to win the Guangdongcontract and later other failure to winrespectively Korea and Taiwan contracts.Therefore, the suspicion on the ‘unusual’terms and conditions in the Fujian contractcould be ignored. Moreover, the price ofenergy commodity was very cheap, so theformula of the contract could seem normal(Simbolon et al., 2002).

The suspicion was justified three yearslater when the market shifted to ‘seller’smarket’ and energy commodity price hikedin 2005. Again, in answering the suspicionon the Fujian contract detail, the thenMinister Yusgiantoro said that it was a‘consolation prize’ after Indonesia failed towin Guangdong LNG contract and extendexport contract to its traditional LNGimporter such as Japan, Korea and Taiwan(Simbolon, et al., 2002).

Minister Yusgiantoro explained that theoffer for Indonesia to act as a sole bidder forFujian LNG project was already tied withthe specific terms and conditions. One ofthe terms was to put the maximum crudeoil check price of USD25/barrel as theceiling price, which meant that the highestLNG price to be exported to Fujian wouldbe only USD2.67/mBtu for a period of 25years. It meant that the negotiators assumedthe crude oil price would always be belowUSD25 for period of 25 years.

The ceiling price has limited thefluctuation of the LNG price. If the currentcrude oil price is around USD75 to

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USD80/barrel, then the LNG price should bearound USD12 to USD15/mBtu. Let uscompare this with the price in the Fujiancontract. The contract that involves 2.6 mtpaof Tangguh LNG for Fujian puts Indonesiain a huge lost (Kurtubi, 2007).

The use of price ceiling has beenperceived as a big problem because it willcause a massive lost for Indonesia, almostUSD8 billion in a period of 25 years ofexport to Fujian. This reality is very hard toswallow. Since Indonesia’s current status asa net oil importing country, it has to importcrude oil at expensive price, but at the sametime sells LNG at very low price. Importingcrude oil is quite costly as Indonesia alwayssubsidizes oil price for its domestic market.

The reactivation was followed by theincrease of energy demand in the globalmarket. However, the oil price hike in theglobal market did not affect significantly theIndonesia’s exported LNG price for Fujian,China. It caused Indonesia to suffer a hugelost in its foreign currency since its LNG hasbeen exported to Fujian far below themarket price.

The lost was caused by the imposedpricing formula that restricted LNG pricewith maximum equivalent to oil price ofUSD25/barrel. Indonesia’s LNG price forFujian could not climb in line with the oilprice in the market and ultimatelyIndonesia as an LNG exporter could notbenefit from the momentum. This wasfrustrating since the oil price could not pushIndonesia to raise LNG price for Fujian.

The situation raised reaction amongIndonesian political elites. Variousdiscourses on the issue surfaced such as‘resource nationalism’, demand to cancelthe Fujian LNG contract at all cost, and ideato do more rational measure byrenegotiating the contract. A visionary ideathat gained strong support was the demandto review the energy export policy and tochange it into one that prioritizes the

natural resources to meet domestic energydemand.

The ‘rising oil price’ and the irony ofpricing formulation in LNG export contractto Fujian have raised a discourse on‘resource nationalism’. However it did notforce the Indonesian government tonationalize foreign energy companies as inVenezuela and Bolivia. This is despite thefact that the idea is based on the vision touse the natural resources for the full benefitof the people (Soesastro, 2007).

In the practical terms, the idea is aboutto prioritize the Indonesia’s national energyand mineral companies, to explore, toproduct, to refine and to distribute or tomarket the resources as long as thecompanies can do them by themselves.Then the national companies are allowed toinvite other international companies tomanage the resources that the nationalcompanies are unable to manage. But, thebasic rhetoric is about to free Indonesiafrom the exploitation of the so called ‘newcolonialism’.

Another disappointment from theFujian contract was the demand to cancelthe contract and find other potential LNGimporters who could give more benefit forIndonesia. This is because some analystshave argued that the contract could becancelled and this scenario was actuallyaccommodated by the agreement. As themaximum penalty for such eventuality isUSD300 million, cancellation makesfinancial sense, rather than suffering lost foraround USD75 billion in 25 years (Iswara etal., 2008).

Following the situation, Indonesiangovernment preferred to renegotiate theFujian contract and to conduct more activeeffort to pull China’s investments and loansto Indonesia. The investments and loansbecome highly important since Indonesia isin deep concern to build its energy andinfrastructure projects. Another measure

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that was conducted at the same time is toreview the policy of raw material export sothat commodities will be for domesticconsumption or the process of the materialwill be inside the country.

The demand for renegotiation was veryrational since the LNG pricing formulationnormally reflected the progressive price ofcrude oil in the global energy market (Stott,2009). There must be no certain limitation tothe oil price that serves as the standard orchecking price to formulate Tangguh LNGprice. The maximum fixed price of the oilprice was unusual in the global LNGtrading and this price fixing also neverhappened before.

Ironically, considering the hike of crudeoil price in the global market during July2008, when it reached its top position inUSD147/barrel, the price of LNG in theglobal market should be mirrored aroundUSD20/mBtu. At that time, an energyanalyst, Kurtubi, estimated that suchpricing difference would cost IndonesiaUSD3 billion annually (Iswara et al., 2008).Meanwhile, when the crude oil price in themarket is moving around USD100/barrel,therefore the normal price of LNG in theglobal market should be four times higherthan the Indonesia’s LNG price for Fujian.

While the renegotiations could cause arift in China-Indonesia relations, it isundeniable that Indonesia has what Chinaneeds, large deposits of natural resources(Stott, 2009). Meanwhile, PresidentYudhoyono changed Indonesia’s strategyby pushing for enhanced energycooperation with China, especially in theconstruction of power plants andinfrastructure under the concessionary loanscheme. Indeed, energy cooperation is animportant part of the Sino-Indonesiarelations, similar to Beijing’s growing ties toother resource-rich developing countries inAfrica.

Having suffered a huge lost from theFujian contract; Indonesia now has learnt to

control its tendency to easily export itsnatural resources. On the other hand, tomeet domestic energy demand, thegovernment should change its policy byprioritizing the gas for domestic demandthan exporting it. Since Indonesia is a net oilimporter, it has been importing oil that ismore expensive than the gas price.

Moreover, the government stillsubsidizes oil retail price that costs morethan 10% of Indonesia’s national budget. Aprominent energy expert and member ofNational Energy Council, the late WidjajonoPartowidagdo, in an interview with theauthor, said “It is very stupid to export thecheaper one –LNG—and importing theexpensive one –oil, that is simple”(Partowidagdo, 2010).

That logical way of thinking influencedsome of the top policy makers, and thevictory of the duet of Susilo BambangYudhoyono and Jusuf Kalla, in the firstdirect Indonesian presidential election inSeptember 2004, has “altered the politicallandscape with regard to LNG export”(Stott, 2008). That is right what Stott hasmentioned, since Indonesia restores its post-crisis economy and increases itscompetitiveness in the global market;Indonesia must seriously increase theadded value by processing its naturalresources inside the country.

That was one of the priority programs ofthe Yudhoyono-Kalla administration, whoprefer to push development of resources-based industry and to minimize export ofraw materials commodity. Actually, bytracing Indonesia’s energy policy throughhistory, the policy to prioritize domesticenergy demand had risen since 1977 whenSoeharto administration (1967-1998)handled Indonesia’s early industrializationin 1970s that needed a big amount of energysupply.

In the mining sector, new legislationwas passed in 2009 which required miningfirms to process all mining products into

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metal locally instead of just exporting theraw materials abroad. These policies affectChina because, besides its energy needs,China’s economic growth needs Indonesia’sraw materials. To meet its industrydemand, China will continue itsdependence on Indonesia’s material supplyfrom large bauxite field in Kalimantan.However, the Indonesian parliamentdiscussed banning future bauxite exports infavour of refining its own bauxite toalumina domestically (Stott, 2008).

After being widely questioned andrenegotiated in 2006, the Fujian contractissue was raised again. In domestic context,politicians was also used this controversialissue as a ‘political weapon’ to attack theirpolitical opponents. Competition among thepoliticians intensified when the election wasaround the corner. In order to get popularsupport they launched a political attackagainst their rivals. This section willparticularly discuss the domestic politicalcontext and its dynamics regarding thecontroversial LNG export contract to Fujianthat was signed when Megawati acted asPresident of the Republic of Indonesia fromJuly 2001 to October 2004.

The political structure in 2008 alreadychanged, compared to the time when theFujian contract was signed. At that time,Megawati, who failed to stay in power afterthe 2004 election, brought her party as anopposition power to the government. Onthe other side, both Yudhoyono and Kalla,who were the cabinet members of Megawatiadministration, was in power afterdefeating Megawati in 2004 presidentialelection.

In 2008, one year before the legislativeelection in April and presidential election inJuly 2009, Indonesia’s political tension washigh. The opposition leader, Megawati, andher party (PDI-P, Indonesian DemocraticParty of Struggle) aggressively pushed aparliamentary enquiry to investigate the

government decision to cut subsidy for fuelprice in the domestic market. To balance thepower exercise, the Golkar Party that had amajority of seats in the parliament and wasled by the then Vice President Jusuf Kalla,was very eager to criticise Megawati’sdecision to export Tangguh LNG to Fujianat a very low price. The aim of the Golkar’smanoeuvre was to raise public awarenessthat Megawati had bequeathed a bigproblem by deciding an export contract.

In countering this political attack,Pramono Anung, Secretary General of PDIPwarned Yudhoyono and Kalla that sinceboth of them were members of theMegawati administration from 2001 to 2004,Yudhoyono and Kalla could also beresponsible for formulating the policy.Politicians in the parliament also confirmedthat the Fujian LNG contract could bepoliticised and “become an effectivebargaining position” said Alvin Lie, apolitician outside the two confrontinggroups who posted in Commission onEnergy (Iswara, 2008).

Beside the political issue, Tangguh LNGproblem also had a big magnitude and wasdiscussed by various segments of people.This issue could also be an entry point forthe businessmen to require sufficient energysupply to operate their industry machines.Meanwhile, it also touched the publicsensitivity since they suffer from periodicalblack-out as the state-owned powercompany did not receive sufficient energyto produce electricity. Moreover, thegovernment was unable to buildinfrastructure and other public facilitiesbecause a large amount of its budget mustbe allocated to subsidize fuel price indomestic market. In the 2010-2011 budget,the subsidy is allocated for around 150trillion of Indonesian Rupiah (USD18billion), or more than 10% of the totalnational budget (Partowidagdo, 2010).

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In August 2008, Kalla claimed that theFujian’s present formula would totallysuffer Indonesia of USD75 billion. He thenasked the House of Representatives (DPR)to review the Fujian contract and theSupreme Audit Agency (BPK) wouldsupposedly investigate the country’s lost onit. Kalla saw the formula was the worst inthe history of Indonesia’s energy industry(Iswara et al., 2008). Kalla urged, "So, theHouse has to investigate the Tangguh LNGcontract because this contract is the mostdangerous. This contract is the worst so far."(JP, 24 August 2008).

Conclusion

Revisiting the Research Question

As a form of international trade,Indonesia’s LNG export to China has a setof interests, as mentioned by Krasner (1976),namely, economic growth, aggregatenational income, social stability, andpolitical power. These interests have beenreached through a set of measuresconducted by the government as discussedabove. Discussion and analysis areprovided in order to show Indonesia’sinterests and how the government managesthem through answering the researchquestions.

What interests drove Indonesia toexport its LNG? Is there a certain politicalinterest behind the deal? This paperexplains that the development of theTangguh LNG project was expected to be astrategic step in order to solve the social andpolitical stability in Papua Province. It wasalso expected, by exporting Tangguh LNG,that Indonesia would receive sufficientmoney to finance development in theprovince with 2.3 million populations.Furthermore, the development wasexpected to push the economic growth andbring a multiplier effect in the development

of various basic infrastructures. The LNGproject itself was expected to provide atleast 3,000 job opportunities during theconstruction and 1,000 would bepermanently employed in the plant'soperations.

How did the global energy marketshape Indonesia’s assumption in acceptingLNG pricing formula? How did thedomestic context shape Indonesia’s attitudeand its bargaining position during the LNGcontract was negotiated? This paper alsodiscusses Indonesian Minister of EnergyYusgiantoro’s explanation about thechanging LNG market's structure from a‘seller's market’ to ‘buyer's market’ thatdominated the global energy market sincethe peak of Asian economic crisis until thesecond half of 2004. As the background ofChina’s tender for the Guangdong LNGproject, it is assumed that the global energymarket had influenced the China LNGtender process.

As mentioned above, Indonesia’sinterests had shaped its LNG export toChina. This paper also discusses that theFujian LNG contract was received duringthe frustrated situation for Indonesiafollowing the failure in the Guangdong,Korea, Taiwan, and Japan. Hence, thecontract was perceived as the ‘consolationprize’. This part later discusses suspicion onthe involvement of Indonesian president’shusband, Taufik Kiemas who ledIndonesian delegation to ‘lobby’ Chinesepolicy makers and possibly taking profitsfrom the ‘marketing activities’.

Lesson learned

There are several things that can belearned from Indonesia’s LNG export toChina. First, in pursuing state’s intereststhrough international trade, the governmentshould also consider the global marketcondition in the future. This is because theglobal market is always dynamics,

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particularly energy commodity prices thatalways fluctuates and is influenced by theeconomic, politic and security situations,besides speculation in the future market.

The negotiators in international trade,particularly in exporting LNG, should becareful in formulating the export price,since LNG prices are not internationallystandardized. There are differences in everysingle trader and they vary by region ofdestinations, although the LNG pricemostly refers to the crude oil price in thespot market (Girianna, 2009). Learning fromthe Fujian pricing formula that restrictedIndonesia’s LNG price to a very cheapprice, it would be better to use a progressivepricing formula instead of using ceilingprice or putting an upper limit for the LNGprice.

Second, before releasing energy exportpolicy, the government should consider itsown country’s domestic demand first. Thegovernment should give priority togenerating its own economic developmentby allocating the energy for domestic need.It is an irony that while Indonesia wasexporting most of its LNG, its local industrywas suffering because of its lack of energysupply. Moreover, the government has toimport oil and subsidize the oil retail pricethat costs more than 10% of Indonesia’snational budget. Concerning this situation,a member of Indonesia’s National EnergyCouncil said “It is very stupid to export thecheaper one –LNG—and importing theexpensive one –oil” (Partowidagdo, 2010).

The policy to prioritize domestic energydemand will strengthen the country’sindustrial capability. In turn, this conditionwill create more job opportunities, giveadded value to its manufactured products,and offer further value from its export in abetter form rather than in raw materials.Third, in managing state’s interests, thegovernment should be consistent toward itsbigger mission, not being trapped in such

temporary circumstances. The compass forgovernment is neither a particular politicalinterest nor a short-term domestic politicalcompetition. Instead it should be to pursuea state’s political power, aggregate nationalincome, economic growth, and socialstability. It is also required to maintainstronger cooperation with its partners ininternational trade, in this case Indonesiaand China. Moreover, the partner is theemerging economic and military power thatwill strategically influence the regionalstability where Indonesia is also situated.

About Author

Muhammad Badar is the Head ofDepartment of Political Science, BakrieUniversity. His research interest is inthe political economy of energysecurity. He can be contacted [email protected].

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