No more dark days: Why Indonesia needs climate finance for its energy transition

On 4 August 2019, a major power blackout hits the greater Jakarta area and West Java, affecting approximately 21 million people.

IO – On 4 August 2019, a major power blackout hit the greater Jakarta area and West Java, affecting approximately 21 million people. Many were still without power the following day, which led state utilities company Perusahaan Listrik Negara (PLN) to offer compensation to customers totalling 1 trillion Indonesian Rupiah (US$70.5 million). The blackout, PLN’s failure to troubleshoot the crisis and the implications for one of the world’s busiest cities is a stark reminder that Indonesia needs to seriously address reforms in the energy sector.

The ongoing struggle for Indonesia is in balancing three key energy objectives: energy access, security and sustainability. The availability of cheap coal in Indonesia might make it the most affordable source of energy but it does not make it the most secure or sustainable for electricity generation. And rapidly diminishing coal reserves and declining oil production mean that there are increasing concerns over energy security in Indonesia. At the same time, Indonesia is attempting to fulfil commitments for carbon emission reductions of 29 per cent (or 41 percent with international support) in its effort to mitigate climate change.

Renewable energy technology has, for years, been the optimal avenue that could address these objectives. In 2016, the government set a target of 23 per cent renewable energy in its energy mix by 2025. Yet, to achieve this target, a recent report estimates that the country needs a total investment of approximately 2000 trillion Indonesian Rupiah (US$154 billion). The share of renewable energy in 2018 is still around 12 per cent.

Public finance and overseas development aid are significant cash sources but even if they were stepped up, there will still be a shortfall between what can be delivered and what is needed. Private climate financing is therefore crucial in achieving Indonesia’s energy goal to provide reliable and secure electricity access.

Indonesia is struggling to tap into growing opportunities for low emission investment. In 2018, investment in renewable energy was just 57 per cent of the government’s original target. Three key barriers stand in the way toward increasing private investment in renewable energy.

First, regulatory uncertainties and misaligned policies persist. The regulatory frameworks to facilitate renewable energy uptake are constantly in flux and often inconsistent. In 2017, the government introduced 20 new regulations into the energy sector, only to revoke a number after industry backlash. The introduction of MEMR Regulation 50/2017, for instance, discouraged private investment due to an 85 per cent price cap applied to renewables.

This regulatory uncertainty increases costs and risks for developers. The uncertainty has a chilling effect on private-sector investment in the renewable energy sector. Private-sector representatives have made clear that uncertainty has stalled privately-funded renewables projects and they have adopted a ‘wait and see’ strategy. The government needs to develop a comprehensive, definitive and overarching regulatory framework that they are willing to commit to and defend.

Second, the dominant role of the PLN in electricity generation, transmission and distribution has resulted in limited if any market space and has led to a predictable crowding out effect. The PLN’s monopoly over electricity generation, coupled with its commitment to non-renewable power generation and monopolistic resistance to change, has resulted in continued dependency on non-renewable power generation. The PLN should be better positioning itself with a view towards partnering with private renewable energy initiatives.

Third, there is limited access to finance for renewable energy projects. On the supply side, there is a strong appetite for investment in renewable energy projects from international financial investors, though only for substantial projects. But regulatory and institutional barriers stand in the way, hampering the transfer of international funding.

Smaller scale energy projects rely on a limited range of domestic financial sources. The Indonesian financial market is still relatively small, with a banking sector that typically relies on short-term deposits to fund lending operations. The average loan tenor of Indonesian banks also stands at only eight years long but renewable energy investments generally require funding over much longer terms. Local banks also have limited capacity and experience in projects of this nature, causing perceptions of risk and additional reluctance.

Overall, this pushes up financing costs and restricts the availability of capital for renewable energy programs. To address these issues, the government should implement price and tax reform to incentivise investment. It could also use public financial instruments to help unlock private capital and to address critical early development risks of renewable energy projects. Given the scale of Indonesia’s transition to low carbon energy, blended finance, an approach that mixes private, public, philanthropic and developmental sources of capital, is also a promising option.

The government needs to rectify these issues if the renewable energy target and Indonesia’s commitment to the Paris Agreement are to be achieved. It can play a crucial role in attracting investment not only by demonstrating a long-term commitment to a low carbon transition but also by designing policy and regulatory frameworks that are consistent with its commitments. Predictability and certainty in the regulatory environment is paramount. Action to reform misaligned policies and to address structural barriers is crucial in achieving the national renewable energy target.

If Indonesia cannot meaningfully engage with the opportunities present in renewable energy, massive blackouts may become part of an everyday reality. (Abidah B Setyowati, ANU)

Dr Abidah B Setyowati is a Research Fellow at the School of Regulation and Global Governance (RegNet), The Australian National University.