New Mining Regulations

Indonesia

Economic News

22 Jul 2010
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In recent years, Indonesia has enjoyed healthy returns in the mining sector as prices of metals have peaked, but the unanimous consensus is that more could be done.



Over the past decade, foreign investment into the sector has stagnated, as investors have been put off by an ambiguous regulatory environment that came about as a result of the country's move towards political decentralisation.



Industry participants have eagerly awaited a new mining policy that could revamp the poor mining investment climate, which the Fraser Institute has ranked 62nd out of 68 surveyed countries. After three years of deliberation and discussions in parliament, on December 16, Indonesia's House of Representatives finally approved the terms and conditions of a new regime that the government hopes will offer greater certainty for investors while at the same time boosting state revenue from the sector.



According to the Ministry of Energy and Mineral Resources, investment into Indonesia's mining sector reached $1.6bn in 2008, up from the $1.25bn posted in 2007. Given Indonesia's vast reserves and the rising global appetite for minerals in recent years, many in the industry believe that this achievement is far below its potential.



While Indonesia is currently home to large mining operations from some of the world's mining giants, including US-based Newmont and Freeport as well as UK-based Rio Tinto, the majority of these originate from Contracts of Works (COW) deals inked between 1967 and 1998, during which time the country was under the authoritative regime of then President Suharto. Since then, Indonesia has moved towards a policy of decentralisation, with powers transitioned from the central to provincial and district governments. This has led to legal uncertainty due to overlapping authority between local and regional governments. As a result, the past decade saw only one new COW issued to an international mining company, while some international investors, such as Australian firm BHP Billiton, have chosen to abandon their large-scale commitments.



The new regime will take the form of a licensing and permits scheme, whereas the previous policy was based on a COW structure of profit-sharing between investors and the government.



Under the new law, local governments will be empowered to allocate permits for mining blocks that fall within their area, while the central administration will handle permits for mines of larger scale. The government has stated that this will ensure that local governments are not made to feel left out, and that revenue from mining will be maximised at both the regional and national level.



With this in mind, existing investors are left wondering whether the government could alter their existing COWs.



In response to such concerns, Purnomo Yusgiantoro, minister of energy and mineral resources, told OBG, "We will respect and honour the existing contracts of major internationals such as Freeport and Inco until the end of their terms. At the same time, we will speak with the contractors to seek the possibility of increasing government revenue. But we will not unilaterally change the terms and conditions of any contract without consulting the players first."



Overall, legislators are justifying the new licensing system by citing its success already seen in countries such as Australia, where mining activity and investment is thriving.



However, in reference to such countries, Priyo Pribadi Soemarno, executive director of the Indonesian Mining Association (IMA), told the local press, "Their governments are stable, not like in Indonesia, where things can change very easily. There is not enough legal stability here to ensure transparent implementation of a licence system."



The major concern from potential investors is that the new law gives even greater control to local governments, which will be responsible for issuing licences in the majority of cases. With Indonesia a relatively new democracy, regional administrations are often considered inconsistent, frequently changing or cancelling the terms of original contracts without due warning.



Arif Siregar, chairman of the IMA, told OBG, "There are far more stakeholders in the mining industry than in years past, and it's all just getting a little too complicated and bogged down, which is preventing the industry from reaching its full potential."



Some investors are also expressing concern over the number of processes necessary for all required permits, as well as restrictions on the size of land and time periods permitted for exploration.



The new legislation caps areas of exploration at 100,000 hectares of land per operation for metal mining and 50,000 hectares for coal mining, and limits the amount of time allowed for extraction to 20 years with two possible 10-year extensions. Under the previous law, COWs were valid for 30 years with one possible 20-year extension. Analysts believe that big investors need economies of scale and time to ensure a guarantee on their investments, and that the new terms may be insufficient.



While the government has stated that the restriction on land usage is aimed at encouraging the growth of smaller local investors, many warn that the new rules will deter larger foreign investments critical to the industry's expansion.



The government would also like to see more value added activity in the country, and a specific term in the new law will require investors to process and smelter all mining products domestically, rather than allow them to be exported in raw form.



Up until August of 2008, the global mining industry was riding a wave of optimism and investor confidence, as market prices of coal, gold, tin and copper all reached record highs. Commodity prices have subsequently fallen dramatically, and with companies now facing lower margins and declining demand, many of the major players are now focusing on cost reductions. With this in mind, sceptics of the new law are concerned that investors will not be willing to spend the capital required for processing and refining facilities on site.



Overall, the new law has been received with mixed reviews. While investors are certainly relieved that a long awaited new mining policy has at last come to fruition, some are now expressing new concerns over restrictions on the length and size of permits, as well as greater requirements to deal more closely with local governments.

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