While China’s decision to reduce coal production has pushed up prices more quickly than expected, local demand for coal in Indonesia continues to rise on the back of ambitious power generation targets. While the coal mining sector still holds much promise for the nation, a lack of coordination between the central and regional governments has created a fragmented playing field of thousands of smallholders who owe millions of dollars in taxes. As such, the Ministry of Energy and Mineral Resources (MEMR) was tasked with cleaning up the segment through the Clean and Clear Certificate (CnC) process. COAL OUTPUT: As the world’s leading thermal coal exporter, the production and export of the commodity has long been an engine of growth for the Indonesian economy. Following a five-year slump, coal prices staged a sturdy revival in the second half of 2016 on the back of China’s decision to limit production, thus slowing down growth in excess supply.

As a result, Indonesia – South-east Asia’s largest economy – has faced a difficult balancing act, trying to preserve its coal resources while fossil fuel producers try to maximise output at existing mines in an attempt to capture growing demand and compensate for the losses of recent years.

In addition, state investment in coal-fired power plants is set to bolster domestic consumption, as the administration of President Joko Widodo ramps up efforts to close the nation’s electrification gap. The government has been committed to adding 35 GW of power to existing capacity, an increase of Indonesia, South-east Asia’s largest economy, has faced a difficult balancing act, trying to preserve its coal resources while fossil fuel producers are eager to maximise output around 75% from an installed capacity of 47 GW as of late 2014, when the plan was revealed.

While many onlookers have predicted this goal will not be met by the target date of 2019, with as much as 60% of the 35 GW expected to come from coal-fired plants, the trend of growing domestic consumption will continue for the foreseeable future.

PRICE TRENDS: Prior to China’s shift in production policy, the price of coal on the Global Coal Index NEWC – the benchmark for seaborne thermal coal in the Asia Pacific region – declined by around 62% from a high of $130 per tonne in January 2011 to $49 per tonne as of January 2016.

During this period, local coal mining companies suffered a severe reduction in revenue. According to a 2016 report from the Indonesian Coal Mining Association, capital expenditure of publicly listed coal mining firms fell by 80% between 2012 and 2016, with total accumulated spending for the period reaching approximately $5.6bn. As a result, most of these producers had to cut back on expansion and exploration, and there has been a severe lack of new reserve discoveries.

PAYING DUES: Despite the significant role that coal mining is playing in the development of the country, structural shortages continue to hinder the progress of the segment.

Local press reported in May 2017 that the sector’s actual contribution to the Treasury in the form of royalties and taxes is falling short of its potential based on existing mining activity, with MEMR data revealing Rp5.07trn ($382.2m) in royalties and taxes was still unpaid. The conversion from contracts to licences in 2009 (see overview), as well as the decentralisation of the approval process, led to a dramatic increase in the number of mining business licences (IUPs) handed over to coal miners.

Since the government began introducing reforms in 2009, thousands of IUPs have been issued, particularly in the coal-rich areas of Kalimantan and Sumatra, many of which were approved without the necessary legislative reviews.

In addition, as a result of poor regulatory enforcement, a significant amount of coal royalties and taxes have not been collected. This has been further exacerbated by systemic corruption and poor coordination between local and regional authorities and the central government.

CLEAN UP: In order to restore order within the coal industry, the Corruption Eradication Commission (KPK) initiated a major investigation in 2011. Following an initial inquiry, the commission found that many IUP holders within the coal industry had failed to pay taxes, with the government missing out on much needed revenue to the tune of millions of dollars, with estimates as high as $380m.

Other issues included a failure to meet basic environmental standards, with a number of mines operating without the required permits, and several with overlapping concessions.

Stemming from the KPK’s findings, the government introduced mandatory CnC status in 2014, with a grace period extending until December 31, 2016. Failure to meet CnC requirements has resulted in many IUPs being revoked.

According to a report from Netherlands-based research firm Indonesia Investments, 9433 IUPs were issued by local authorities by the first quarter of 2017, with 3203 mining companies yet to obtain CnC status by the second quarter of the same year. The report went on to emphasise that firms that had yet to obtain CnC status were not necessarily guilty of tax evasion or other misconduct, but may have simply been unable to meet the December 2016 deadline due to bureaucratic delays.

In some cases, miners have even come forward to state that they were not aware of the proper channels to request a recommendation for CnC status.

Regardless, the MEMR revoked a total of 238 IUPs between January and March 2017. It is also worth noting that if a CnC certificate was acquired three or more years ago, it does not mean that the miner meets the current requirements.

Also, if a producer fails to meet the current requirements for CnC status, it means its mining operation may still have outstanding fiscal payments in the form of royalty or tax obligations.

Other shortfalls that can result in a failed CnC status include failure to meet exploration and environmental commitments. For example, if the mine is within a forested area, the firm must obtain a forest permit before it can apply for CnC status.

While the CnC initiative has managed to recoup some unpaid taxes, collecting outstanding funds is still proving to be a challenge. In many cases the basic details about mining companies are incorrect or outdated, including even office addresses.

At the same time, a number of firms that have had their CnC status revoked, and thus their IUP application denied, have threatened to pursue legal action against the government.

LOCAL PRODUCTION: The year 2017 marked the third year in a row that coal production exceeded government targets as a result of rising prices. According to MEMR estimates, Indonesia is expected to produce 489m tonnes of coal by the end of 2017, 18% more than government targets and a 12.7% increase over 2016, when total output reached 434m tonnes. These numbers are clear examples of the difficult challenges the government faces in preserving resources for years to come.

However, there are encouraging signs. While the government struggles to keep a lid on output figures, the increase in the price of coal has accelerated the growth of the industry and bolstered local coal mining balance sheets. According to the MEMR, in 2017 Indonesia is expected to consume 25% of its coal output, or 121m tonnes, up 4% from 2016 when consumption equalled 21%, or 91m tonnes.

While coal production has reached new heights in Indonesia, the price of the commodity is unlikely to reach the same levels of late 2016, at least not anytime in the near future.

In November 2016 China relaxed its 276-day production policy and returned to allowing coal mines to produce on a 330-day basis over the year. As a result coal prices rebalanced to around $80 per tonne in early 2017, compared to late 2016 when prices surpassed the $100 mark. As has been the case in recent years, China’s coal policies will likely go a long way in dictating market prices.

In the medium term, the 35-GW power initiative will drive local demand. Somewhat less predictable is the role of India, which has surpassed China as the dominant consumer of Indonesian coal. However, according to a May 2017 PwC report, a significant drop in coal prices could reduce India’s appetite for Indonesian coal as higher-calorific-value coal from other mining nations becomes more affordable.