INDONESIA

INDONESIA AND CLIMATE CHANGE: RECENT

DEVELOPMENTS AND CHALLENGES1
Indonesia is exposed to climate change related risks, notably more frequent and more damaging
natural disasters and rising sea levels. It also likely faces transition risks from global moves away from
fossil fuels, given its production, consumption and exports of carbon resources, especially coal.
Indonesia has been proactively tackling climate change issues but could consider further reforms
toward a greener economy. This would require additional mitigation and adaptation measures. This
short note overviews recent developments and challenges ahead regarding climate change issues in
Indonesia and offers recommendations for policy frameworks.

A. Background and Recent Development

1. Indonesia is one of the countries’ most vulnerable to climate change related risks,
especially with regard to extreme weather and sea level rise. The 2021 INFORM Global Risk
Index2 ranks Indonesia as the sixth most susceptible country to high-impact natural hazards
(Table 1). The 2020 World Risk Index3 rates the disaster risk of Indonesia as high. In fact, after 2000,
natural disasters have occurred more frequently, especially flooding (chart below). Wildfire due to

Table 1. Natural Hazard Risk Index

1
Prepared by Koki Harada (APD).
2
INFORM is a collaboration of the Inter-Agency Standing Committee Reference Group and the European
Commission; it publishes natural hazard risk based on a country’s hazards and exposure, vulnerability and lack of
coping capacity dimension.
3
Bündnis Entwicklung Hilft and Ruhr University Bochum, Institute for International Law of Peace and Armed Conflict
(IFHV) publishes the World Risk Index based on countries’ exposure, vulnerability, susceptibility, lack of coping
capacities and lack of adaptive capacities.

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extreme drought remains a major risk factor to the country’s tropical forest4—the third largest in the
world— which plays a significant role in the mitigation of greenhouse gases (GHG) at the national
and global level. Extreme weather importantly affects the agriculture, fishery and forestry sector,
which accounts for 35 million workers (around 30 percent of total workers). Part of the high
exposure to climate change reflects the geography of Indonesia: it is the world’s largest archipelago
country and has extensive coast lines. A large part of Indonesia's population5 lives in low-lying
coastal areas, including the capital Jakarta, the most populous city in South East Asia and the
fastest-sinking city in the world. These areas would be significantly affected by rising sea levels.

2. Indonesia is a large producer of fossil fuels and palm oil. The oil, gas and coal related
sector accounts for 7.2 percent of total GDP.6 Over 1.4 million workers (1.1 percent of total) are
employed in the mining and quarrying sector. Indonesia is the world largest coal exporter7 (left chart
below). Coal exports account for around 10 percent of total exports. In terms of oil and gas,
Indonesia is a net importer of oil and a net exporter of gas. The government receives royalties from
oil, gas and coal mining equivalent to 7.5 percent of total government revenue.8 The share of
commercial loans to the mining and quarrying sector is around 2.5 percent. The plantation sector
accounts for 3.3 percent of total GDP. The share of palm oil exports in total exports is around
10 percent, which makes it the most important export good together with coal. Indonesia is the
world’s largest palm oil exporter with a 55 percent share in total global exports (right chart below).

3. Indonesia could face early transition risk with the expected acceleration in global
decarbonization, especially coal producers. Both the number of signatories of the Principle for
Responsible Investment (PRI) and the asset value of the Environmental, Social and Governance (ESG)

4
The forest contains 50 percent of tropical peat swamps in the world. Peatland contains rich carbon and highly
flammable. Wildfire would be difficult to extinguish, and greenhouse gas emission level would intensify.
5
According to the First Nationally Determined Contribution of Indonesia, 42 million people may be affected.
6
The oil, gas and geothermal mining sector, the coal and lignite coal mining sector, and the coal and gas refining
sector account for 2.8 percent, 2.3 percent and 2.1 percent of total GDP, respectively, in 2019.
7
Over 60 percent of the total coal production in Indonesia was exported in 2019.
8
Oil, gas, and coal mining royalties were 4.3 percent, 1.9 percent, and 1.3 percent of total revenue, respectively,
in 2019.

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investment have been rapidly growing (charts below). Over 100 banks, including global financial
institutions, have announced coal divestment, and Indonesian coal companies could increasingly
face external financial constraints. Considering the global aspirations for moving toward greener
economies, demand for Indonesian coal might not fully recover to pre-pandemic levels in the post-
COVID-19 era, and coal prices could be subdued in the medium and long term. The possible
deterioration of the financial health of coal companies could have broader economic and financial
spillovers.

B. Indonesia’s GHG Emission Patterns and Paris Agreement Commitment

4. Indonesia has grown into being a large emitter of Greenhouse Gases (GHG), but its
emissions on a per capita basis are still lagging those of advanced economies. In 2017,
Indonesia ranked as the eighth largest GHG emitter in the world.9 However, its emissions on a per

capita basis remain low (charts below). Given the stage of its economic development and
vulnerability to climate change, Indonesia could be one of the leading countries actively seeking to
balance policy requirements to foster development with those to reduce GHG emissions.

9
Based on the total emission excluding Land Use Change and Forestry (LUCF).

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5. Land Use Change and Forestry (LUCF)

have accounted for a substantial share of the
increase in GHG emissions over the past three
decades. The increase in Indonesia’s GHG
emissions reflects two broader sources (chart).
LUCF, which accounts for more than half of the
emissions, have been one main source, although
the estimates of the related emissions are subject
to significant uncertainty.10 Moreover, this source
of emission is less controllable, as it includes
emissions from wildfires. The other main source
are emissions from energy use in the economy (see below).

6. Apart from LUCF, increase in energy use

accounts for much of the rise in Indonesia’s
GHG emissions. Carbon dioxide (CO₂) emissions
have been rapidly increasing, while methane (CH₄)
has been decreasing (chart). This pattern reflects
divergences in GHG emissions by sector. While the
emission levels of the waste and agriculture
sectors have been reduced or maintained,
emissions from energy use, reflected primarily in
the emissions of the electricity and transportation
sectors, have been increasing. These increases in
turn mirror the country’s rapid economic growth (left chart below). In terms of fuel sources for
electricity, coal-based power generation has been growing rapidly and reached a share of about
57 percent in 2018 (right chart below).

7. Indonesia set an unconditional GHG reduction target of 29 percent and a conditional

reduction target up to 41 percent as Nationally Determined Contribution (NDC) in the Paris

10
According to the World Resources Institute, this data is useful as reference. More generally, users should note that
the errors and uncertainties associated with these (and other LUCF) estimates may be significant (See World
Resources Institute, 2015, CAIT Country Greenhouse Gas Emissions: Source & Methods, June).
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Agreement (Table 2). In the NDC, the forestry and energy sectors are key sectors for policy
measures. The main policy assumptions for the forestry sector include measures to control
deforestation, support reforestation and promote sustainable forest management.11 The main policy
assumptions for the reductions of GHG emissions from energy use include the use of carbon
capture technology in power plants in addition to greater use of renewable energy and of biofuel.

Table 2. Indonesia's Nationally Determined Contribution (NDC) 1/

(Projected BAU and emission reduction from each sector category)

8. Indonesia is also a member of the Coalition of Finance Ministers for Climate Action
and has been proactively tackling climate change issues. Climate change is incorporated into
Indonesia’s planning and budgeting system. Since 2016, the government has implemented a
Climate Budget Tagging (CBT) process to monitor and track expenditures on climate change actions
in the budget system—focusing first on mitigation and since 2018 extending the scope also to
adaptation expenses. The CBT data underpinned the issuance of green sukuks, a Shari'ah-compliant
green bond, that exclusively finances or refinances sustainable and climate friendly investment
projects. Three rounds of issuance have already taken place at the international level—raising
US$1.25 billion in 2018, US$0.75 billion in 2019, and US$0.75 billion in June 2020.12 These funds are
used in mitigation areas such as sustainable transport, waste management, waste to energy

11
It includes social forestry program, which offers farmers the opportunity to use designated forest plots legally for
up to 35 years.
12
A retail issuance also took place for local investors in November 2019, for a total of IDR 1.46 trillion, approximately
US$0.10 billion.

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management, and renewable energy, and adaptation areas such as resilience to climate change for
highly vulnerable areas and sectors. The government has also developed a Disaster Risk Financing
and Insurance strategy.13

9. Bank Indonesia (BI) and Financial Services Authority of Indonesia (OJK) have also been
supporting green investment through their policy tools. BI has adopted environmentally sound
policies, including the adoption of Sustainable and Responsible Investment in foreign exchange
management. OJK developed a regulation, effective as of 2020, specifying that financial services
institutions shall apply sustainable finance principles to their business activities and shall submit
their sustainable finance action plan to OJK on annual basis.

10. Indonesia is projected to overachieve on its commitment under the Paris Agreement,
but could consider upgrading its mitigation commitments. The expected overachievement
excludes LUCF and is projected on the basis of
currently implemented policies (chart).14 However,
given the inevitable risk of wildfires, which is not
perfectly controllable, Indonesia would need to
make further efforts to reduce GHG emissions
beyond the targets in order to reduce the risk of
missing the overall target. As elsewhere, the NDC is
supposed to be updated ahead of the United
Nations Framework Convention on Climate Change
Conference of Parties (COP 26) in November 2021.
Major large emitters have recently made carbon
neutrality pledges for 2050 (European Union,
Japan, Korea, United Kingdom) or for 2060 (China).
Indonesia, as a large emitter of GHG and G-20 member, could also consider such a pledge, which
could show solid commitment toward a greener economy, thereby boosting further green
investments.

C. Policy Options for Climate Change Mitigation

11. When transitioning toward a greener economy, Indonesia would need to strike a
balance between promoting development and lowering GHG emissions. In this regard, a
comprehensive transition plan toward a greener economy would facilitate policy design, especially
regarding energy use. Given the policy impacts on people’s livelihood, it would be appropriate to
discuss the plan in a national level conference consisting of all interest groups in a transparent
manner and to communicate well with the public to achieve a nation-wide consensus. The plan

13
The strategy aims at protecting state-owned asset (national and subnational), key public infrastructure, households
and communities, recovering social aspect of communities, supporting the development of domestic insurance
industry. Its financing schemes such as pooling fund and insurance are tailored to fit to respective disaster risk.
14
The source of the estimates is the Climate Action Tracker (CAT). It also states that Indonesia’s climate commitments
are not consistent with either limiting global temperature increase to 2°C or the Paris Agreement goal of 1.5°C. The
CAT is an independent scientific analysis under a collaboration of two organizations, Climate Analytics and New
Climate Institute.

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could include incentives and disincentives, using expenditure, tax and regulatory measures. It would
be also important to provide the necessary compensatory support for households and other parties
negatively affected by the measures. At the same time, the authorities should consider transition
risks from the move toward a greener economy, which would likely affect the coal sector in
particular. Measures to facilitate employment in other sectors and reduce financial sectors risks
through financial regulations including additional bank capital buffer requirement would help in
reducing the costs from such risks.

12. Forest and land use management can contribute to climate change mitigation in
Indonesia. Indonesia has taken policy actions aimed at reducing deforestation and forest
degradation as well as reinforcing wildfire monitoring. These actions include regulatory measures
such as a moratorium on the development of peatland15 and the social forestry programs.16
Recently, Indonesia has shifted the emphasis toward restoration of its mangrove and peatland to
enhance the GHG absorption capacity of its tropical forest. In order to enhance favorable cycles of
deforestation and reforestation, it would be worth considering a feebate scheme consisting of levies
imposed on landowners for reducing carbon storage and of subsidies to landowners who increase
carbon storage. Alternatively, a tax on commodities from plantations could be another option to
support reforestation. These measures could help reduce GHG emissions without adding a fiscal
burden.

13. Achieving Indonesia’s NDC target for the energy sector could be challenging. The
National Energy Policy (KEN) was adopted in 2017, aiming to increase renewable energy in its
electricity to 23 percent in 2025.17 However, given the need to increase electric generation capacity
to meet the needs of a growing economy, it seems uncertain that this target can be reached under
current plans. Much of the planned increase in capacity is based on coal-based generation. The
National Energy Policy might have to be complemented with policies to support renewable energy.
A feebate scheme—e.g., levies imposed on power generators with above average emissions per
kWh and rebates for generators with below average emissions per kWh—could be an instrument to
foster change in the electricity mix. The scheme could be designed in a revenue-neutral manner. It
could complement other measures for a greener recovery. The 2020 fiscal stimulus mostly consists
of climate neutral expenditure. Nevertheless, it also includes some climate-negative measures,
notably fossil fuel subsidies, that dominate climate-positive measures, including biofuel subsidies
(charts below).

15
Following the disastrous fire of 2015, the government issued regulations suspending the development of
peatlands and rezoning conservatory lands to prevent future outbreaks of fire.
16
In 2014, Indonesia announced a project allowing forest-dependent communities access to 12.7 million hectares of
forest through social forestry permits, which give local communities control of some parts of the forest. The
permitted communities use the land to establish forest enterprises like ecotourism ventures or sustainable
production of goods such as bamboo or rattan. As of June 2020, Indonesia has distributed around 4.2 million
hectares of land.
17
As of 2018, power plant installed capacity of new renewable energy is 14 percent of total and power production of
new renewable energy is 17.1 percent.

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14. The proposed energy subsidy reform in

the 2021 budget would be an important step
forward. While energy subsidies significantly
decreased in 2015 due to a successful reform, they
still amount to over 10 percent of total government
expenditure. In the 2021 budget, the authorities
proposed an energy subsidy reform with the goal
of transforming energy subsidies into social
assistance (Box 1). While this is encouraging,
unfortunately, the reform has been postponed,
given the current COVID-19 crisis. As a result,
expenditures on climate change remain below
those on energy subsidies (chart).

15. Energy subsidy reforms would be beneficial for several reasons. Generalized energy
subsidies tend to be regressive—richer households
tend to consume more energy than poor
household. They are thus not a cost-effective way
to support the poorest and most vulnerable
households. Targeted social assistance programs
would be more effective. They would also help
avoid leakages, by explicitly excluding more well-
off households (e.g., through means-testing), and
allow to increase the support to households in
greater need. More broadly, a comparison of
household spending on electricity, gas and
gasoline suggests a lower share in Indonesia
compared to other ASEAN countries (chart). More
targeted subsidies with clear policy purposes would also enable reallocation of scarce budget for
other policy purposes.

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16. A broader reform of energy price control mechanisms would also be beneficial. With a
move to targeted social assistance, the government could also consider more frequent adjustments
in domestic retail prices with global market prices (Box 1). It could also consider a relaxation of price
controls to promote competitiveness in fuel retail sales and power generation. While price controls
can be justifiable in the case of a monopoly situation, private companies are permitted to enter the
markets for retail fuels and power generation in Indonesia. Ex post regulation such as a price
notification system would be superior to ex-ante regulation from the perspective of economic
efficiency. The ex post regulation could ensure the regional pricing equality that the current ex ante
regulation is required to achieve. More granular and targeted support to regions with high energy
costs amid functioning market mechanism could be also an option.

17. Regulatory frameworks to promote investment should aim toward a greener economy.
In 2019, Indonesia formulated a new regulation to accelerate the battery electric vehicle (EV)
program for road transportation, to support the goal of becoming an EV hub for Asia and beyond
with a 20 percent target share in total car production by 2025. Indonesia has natural resources such
as nickel, that are important raw materials for batteries. This EV policy could be a solution to
reconcile both development and green strategy and could contribute to absorbing labor from fossil
related industries.18 The policy could be complemented by a feebate scheme imposing sliding scale
of fees on cars with above average emissions rates and giving a sliding scale of rebates to vehicles
with below average emission rates. On the other hand, the recent omnibus bill on job creation has
relaxed the regulation on environmental assessment and included royalty incentives to promote
investment in the mining sector, which might include coal mining. In formulating the implementing
regulation, the government should ensure that it incentivizes green investment and disincentivizes
fossil fuel investment.

18. Looking ahead, the introduction of a carbon tax could be also an effective mitigation
measure. The estimated reduction in CO₂ emission from a carbon tax indicates that this instrument
could help Indonesia further in achieving emission targets (Table 3, IMF (2021)). Even in the case of a
moderate rate of US$25 per ton CO₂, the carbon tax could cut emissions by 13.0 percent. The
domestic environmental benefits from reduced pollution, traffic congestion, and accident casualties,
would likely outweigh the domestic economic costs. On the revenue side, a carbon tax with the rate
of US$25 per ton CO₂ could raise 0.7 percent of GDP, which could be used in part for compensation
payments.

18
Regarding its related spending, investment support should be temporary in nature. This should be clearly and
transparently communicated in the budget and accompanied by cost-effectiveness assessment.

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Table 3. Indonesia: Impact of Carbon Tax, 2030 1/

19. The carbon tax impact on cost varies among industry sectors (Table 4). In the case of
US$25 tax per ton CO₂, overall jobs at risk are limited in the medium term. By sector, the mining and
quarrying sector and the electric and gas sector could not absorb the carbon tax impact in the short
term. This suggests that labor reallocation from the mining and quarrying sector would be
inevitable. In the case of a US$50 or US$75 tax per ton CO₂, the cost increase and jobs-at-risk are
higher. However, gradual implementation over several years could spread out the jobs-at-risk. New
jobs related to green technology could smooth the movement of labor into other sectors. The
introduction of a carbon tax could help raise budgetary resources to support and accelerate job
reallocation and finance workers retraining programs.

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Table 4. Indonesia: Effects of Carbon Tax on Cost and Employment 1/

D. Policies for Climate Change Adaptation

20. The National Action Plan for Climate Change Adaptation (RAN-API) developed in 2014
includes comprehensive strategies for adaptation. The plan identified areas affected by the rise in
land and sea surface temperature and sea level, change in rainfall patterns, and the occurrence of
extreme weather events. The objective of the plan is to build the resilience of (i) economy with
emphasis of food security and energy independence aspects; (ii) living systems with emphasis of
public health, housing and infrastructure; (iii) environmental ecosystems of forest and biodiversity;
and (iv) urban areas, coastal areas and small islands.

21. The adaptation plan should include fiscal costs to facilitate its implementation. The
plan should have fiscal backing for its implementation, but currently lacks such resources. In order to
make the plan feasible, it would be crucial to determine the necessary medium-term expenditure,
given Indonesia’s limited tax base.

22. The progress in advancing the plan should be monitored and reviewed regularly. It
would be crucial to ensure nationwide capacity development for adaptation given the broad impacts
of climate change on Indonesia. The government should strengthen the monitoring and review

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process for the plan to enhance the Indonesia’s adaptation capacity. The capital movement plan,
including its fiscal aspects, should be integrated into the adaptation plan to allow for a holistic
perspective on adaptation policies.

E. Conclusion and Recommended Policy Frameworks

23. Indonesia's climate change related risks, including transition risk, have been
increasing, given more frequent natural disasters and the economy’s reliance on coal.
Preparations for managing these risks should continue.

24. To this end, additional climate change mitigation and adaptation measures should be
initiated.19 Particularly, Indonesian people could instantly benefit from energy subsidy reforms and
from restructuring of energy pricing mechanism since some fuel retail prices are estimated to be
higher than cost of supply due to market price drop. The paper suggests that the following policy
steps should be considered:

• A comprehensive transition plan toward a greener economy: It should be formulated as early

as possible to allow for gradual transition. The plan should include steps to facilitate the
reallocation of labor to other sectors, including capacity building, a road map of alternative
revenue mobilization, such as carbon tax, and additional financial regulation for bank capital
buffers, given risks from stranded assets.

• Reforestation incentive scheme: In order to facilitate a cycle of deforestation and subsequent

reforestation, it would be worthwhile considering a feebate scheme consisting of levies imposed
on landowners for reducing carbon storage and subsidies for landowners who increase carbon
storage. Alternatively, a tax on commodities from plantations could be an option of revenue
resources for reforestation.

• Renewable energy generation incentive scheme: A feebate scheme—e.g., levies imposed on

power generators with above average emissions per kWh and rebates for generators with below
average emissions per kWh—could be an option. Updating the National Energy Policy including
policy support for renewable energy generation could reinforce its commitment toward a
greener economy and attract international support as well as the ESG investment.

• Reforms of energy subsidies and energy pricing mechanisms: The 2021 energy subsidy
reform should be implemented as soon as possible. A functioning, market-based price
adjustment for fuels and electricity, which would allow for full cost recovery in the related
sectors, would be an important structural reform for greener economic development in
Indonesia. At the same time, the direct support of low-income households should be
strengthened.

19
See also IMF (2021). The paper analyzes how fiscal policy can address challenges from climate change in Asia and
the Pacific. It aims to answer how policymakers can best promote mitigation, adaptation, and the transition to a
low-carbon economy, emphasizing the economic and social implications of reforms, potential policy trade-offs, and
country circumstances.

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• Vehicle incentive scheme: A feebate scheme—imposes sliding scale of fees on cars with above
average emissions rates and gives a sliding scale of rebates to vehicles with below average
emission rates—could support a greater market share for electric vehicles.

• Harmonizing implementing rules for the Omnibus Bill on Job Creation with green
investment: The regulation could include incentives for green investment and disincentives for
fossil investment.

• Introduction of a carbon tax: It could be an effective mitigation measure for the Indonesian
economy, given its reliance on coal and limited revenue base. A coal tax could be an alternative;

• Strengthening the monitoring and reviewing process of adaptation measures: The

government should ensure the progress of the adaptation action plan, including the capital
movement plan. Its fiscal costs and financing should be integrated into the plan.

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Box 1. Indonesia’s Energy Subsidies and the 2021 Reform Proposed by the Government
The government uses energy subsidies and price controls to support low-income household and to
ensure price equality across provinces. Indonesia has two types of energy subsides, namely ex ante and
ex post subsidies. An ex ante subsidy aims to lower costs for mainly supporting low-income households. An
ex post subsidy, called as a compensation subsidy, fills the gap between the unit costs of supply and the
retail prices for a unit of energy determined by the government. In other words, the need for compensation
subsidies arises from the energy price controls imposed on energy distributors.

The subsidized fuels are premium gasoline, diesel, kerosene, and 3 kg LPG cylinders (LPG), all fuels
that are widely used by households. Among the subsidized fuels, only diesel enjoys a fixed rate subsidy
(IDR 1,000 per liter). Due to the price controls, all authorized retailers receive compensatory subsidies for
kerosene and LPG. Similarly, Pertamina receives compensation subsidies for premium gasoline and diesel
since the prices of these fuels sold by Pertamina are determined by the government. However, there is no
effective monitoring system in place, and all users benefit from these subsidized fuels despite the policy
intentions.

The Ministry of Energy and Mineral Resources determines all fuel retail price settings of Pertamina,
the state-owned oil company. Other retailers also need to adhere to the government’s pricing guidelines
for fuels. Retail prices of fuels should, in principle, be adjusted in line with international market prices at least
every three months. In practice, however, adjustments are infrequent. The price of LPG, for example, has
been constant since 2008. Retail prices of other fuels have also been unchanged in recent years (charts 1−4).

Electricity is also partly subsidized. PLN, the state-owned electricity company, has a monopoly for
electricity distribution. The subsidy targets customers purchasing 450VA and 900VA, assuming that they are
poor households. The government controls all retail prices and provides compensation to PLN for the price
difference between cost of supply and retail prices. According to the Ministry of Finance, however, the
subsidies and compensation are not well targeted to low-income household. Like fuels, retail prices of
electricity should, in principle, be adjusted to fluctuation of cost of supply at least every three months, but
real price adjustments are infrequent in practice (chart 5−6).

The measures used in the 2021 energy subsidy reform plan will make subsidies more targeted and
effective, and they should be implemented as early as possible. The reform involves a paradigm change,
shifting from commodity-based subsidies to people-based subsidies, with the latter being part of the Social
Protection Program. The plan intends to take advantage of the market price mechanism given the
momentum of falling oil prices. The plan includes the following measures: reduction of the fixed diesel
subsidy from IDR 1,000 to IDR 500 per liter; application of market price adjustments to premium gasoline
and electricity for non-subsidized customers, leading to elimination of the relevant compensation subsidy;
gradual price adjustment of LPG, accompanied by integrating related subsidies into social assistance
transfers.

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Box 1. Indonesia’s Energy Subsidies and the 2021 Reform Proposed by the Government
(Concluded)

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