VZCZCXRO1931
RR RUEHCHI RUEHCN RUEHDT RUEHHM
DE RUEHJA #0871/01 1211117
ZNR UUUUU ZZH
R 301117Z APR 08
FM AMEMBASSY JAKARTA
TO RUEHC/SECSTATE WASHDC 8889
RUEATRS/DEPT OF TREASURY WASHDC
INFO RUEHZS/ASSOCIATION OF SOUTHEAST ASIAN NATIONS
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUEHKO/AMEMBASSY TOKYO 1916
RUEHBJ/AMEMBASSY BEIJING 5005
RUEHBY/AMEMBASSY CANBERRA 2438
RUEHUL/AMEMBASSY SEOUL 4560
RUEAIIA/CIA WASHDC
UNCLAS SECTION 01 OF 02 JAKARTA 000871
SIPDIS
SIPDIS
DEPT FOR EAP/MTS AND EB/IFD/OMA
TREASURY FOR IA-SETH SEARLS
SINGAPORE FOR SUSAN BAKER
COMMERCE FOR 4430-JEAN KELLY
DEPARTMENT PASS FEDERAL RESERVE SAN FRANCISCO FOR FINEMAN
DEPARTMENT PASS EXIM BANK
E.O. 12598: N/A
TAGS: EFIN EINV ECON PGOV ID
SUBJECT: INDONESIA TO RAISE FUEL PRICES TO SOOTH MARKETS
1. (SBU) Summary: President Yudhoyono is set to approve a 25% fuel
price increase at a Cabinet meeting next Monday, according to the
Ministry of Finance (MOF). The Government of Indonesia (GOI) wants
to demonstrate its commitment to fiscal sustainability in light of
high oil prices, a rising subsidy bill, and a flagging macroeconomic
outlook. To reduce negative domestic reactions, the GOI will
implement a cash transfer program for poor households to offset the
economic costs of the fuel price increase. The fuel price increase,
scheduled for June, is largely optics for financial markets as the
subsidy and overall budget savings are minimal. Long-term
macroeconomic challenges remain, particularly with rising inflation
projections. End Summary.
President to Approve Fuel Price Increase on May 5
--------------------------------------------- ---
2. (SBU) President Yudhoyono has informally approved a 25% fuel
price increase, but will convene a Cabinet meeting on May 5 to
officially sign off on the plan, according to MOF Fiscal Policy head
Anggito Abimanyu. The price hike will increase regular gas (called
"Premium") from Rp 4,500 ($0.50; Rp 9,000/USD) to Rp 6,000 ($0.67)
per liter, still below international market rates of Rp 8,000
($0.89) per liter. The lowest cost gas (called "Solar") will
increase from Rp 4,300 ($0.48) to Rp 5,500 ($0.61) per liter. The
higher quality, unsubsidized gas (called "Pertamax") will remain at
Rp 8,300 ($0.92) per liter. Kerosene will also increase 25%, from
Rp 2,000 ($0.23) to Rp 2,500 ($0.28) per liter.
3. (SBU) The actual budget savings based on this fuel price increase
is minimal. The fuel price increase will reduce the GOI's subsidy
bill by Rp 25 trillion ($2.78 billion), roughly 10% of the overall
subsidy bill and 2.5% of the entire budget. However, the GOI will
use about 50% (Rp 11.5 trillion; $1.28 billion) of the savings for a
cash transfer program. Beginning in June, the GOI will disburse Rp
100,000 ($11.11) to poor households every three months. The GOI
wants to present this fiscal policy decision as pro-poor to counter
potential domestic criticisms that fiscal policy improvements are
made at the expense of the poor.
Fuel Price Increase: Largely Optics for Markets
--------------------------------------------- --
4. (SBU) The GOI hopes to assuage the financial markets with the
fuel price increase, according to Abimanyu. The fuel price hike
will buy the GOI a short reprieve from market scrutiny, but will not
fundamentally alter long-term fiscal challenges and risk
assessments, according to MOF and private bank contacts. High oil
prices, a rising subsidy bill, and high inflation have led to
increasing financial market uncertainty, particularly in the past
four months. Financial markets have been waiting for this fiscal
policy move. Investor concerns have driven 10 year yields on
government bonds to 13%, up from 10% in January 2008. The fuel
price increase should improve market perceptions, but it also leaves
one large problem: inflation. The MOF estimates inflation to be
11.1% this year (6.5% core inflation; 2.5% volatile commodity
prices; 2.1% administered/fuel price increase). Financial markets
will now look to the central bank to begin raising interest rates to
reign in inflation.
Long-Term Fiscal Outlook Still in Question
------------------------------------------
5. (SBU) The GOI is still considering additional long-term fiscal
sustainability measures. GOI officials are evaluating an overall
cap on fuel subsidies that would limit the fuel subsidy bill to
three percent of GDP, roughly Rp 132 trillion ($14.67 billion).
Although MOF officials claimed that this cap was already in place,
there is no provision in the budget law yet, according to a senior
Parliament Budget Committee contact. Capping the subsidy bill would
have an even more positive effect on markets due to countering
perceptions of an unlimited subsidy bill, according to World Bank
Jakarta's lead economist Bill Wallace. Regardless, the GOI will
likely overshoot this "three percent" subsidy rule this year,
according to Abimanyu.
6. (SBU) The MOF is proposing an automatic price adjustment
mechanism for fuel as a long-term strategy to reduce subsidies.
Abimanyu suggested a monthly Rp 500 ($0.06) or Rp 1,000 ($0.11) per
JAKARTA 00000871 002 OF 002
liter increase to gradually move fuel prices to international market
rates. However, he said that this proposal was in its preliminary
stages. The MOF is also implementing a pilot project on fuel "smart
cards," which would limit fuel consumption per person. The pilot
project will be limited initially to two cities (Denpasar, Bali and
Batam); nationwide implementation is not expected in the near term.
Protests, Political Implications of Fuel Price Hike
--------------------------------------------- ------
7. (SBU) The GOI is anticipating some political economic fallout
from this fuel price hike, but is taking action to limit negative
reactions, according to our contacts. The intensity of this
reaction is uncertain. In 2003, the Megawati administration
reversed their original fuel price increase due to violent protests.
In 2005, the 125% fuel price increase led to strong, but manageable
protests. Inflation stabilized within six months of the 2005 fuel
price increase. The current cash transfer program is designed to
dampen any potential public backlash, according to Abimanyu. In
addition, the GOI is leaking the fuel price increase proposal to
test the waters for possible protests and financial market reactions
ahead of next week's Cabinet meeting to announce the fuel price
increase. Due to wide political support for the fuel price
increase, protests are likely to be minimal, according to our
contacts.
HUME