Fitch: Indonesia’s JETP Faces Obstacles to Implementation

(26 June 2023)--Indonesia’s Just Energy Transition Partnership (JETP), unveiled in November 2022, saw governments and participating financial institutions extol the benefits the deal would bring in advancing climate strategy and financing in southeast Asia. However, challenges will arise in balancing the demands of such a large and diversified group of global investors with equitable financial and environmental outcomes for the developing nation.

The JETP pledge has been useful in directing investor focus to emerging markets, where climate financing is most needed. However, there may be difficulties in enacting a fair deal for Indonesia that advances the country’s green efforts while not damaging its economy and increasing its debt burden. A comprehensive investment and policy plan that spells out how Indonesia intends to green its power supply and reduce greenhouse gas emissions is due for release in August.

Diverse Global Investor Group Lacks Consensus

Indonesia aims to mobilise USD20 billion of capital over the next three to five years from both the public and private sectors to alleviate its reliance on coal and see a peak in power emissions by 2030. The country also hopes to increase the share of power generated from renewables to 34%. Public funding will be contributed by International Partners Group members, which include the US, Canada, UK, EU, Germany, France, Italy, Norway, Denmark and Japan.

However, competing interpretations of climate “transition” among countries leading the JETP may challenge negotiations, particularly in relation to coal phase-outs. For example, Japan’s approach of abated coal and pushing of expensive coal-fired technology, such as ammonia and hydrogen co-firing, might prove incongruent with the approaches of other countries, such as those in the EU, which have stricter standards on coal. This could result in either vague or watered-down stipulations that would limit the plan’s impact.

There are also questions around whether Japan’s chosen transition technologies are financially viable and contribute meaningfully to reducing emissions. Japan has recently received backlash for forming the Asia Zero Emission Community, an alliance with Australia and southeast Asian countries to advance transition efforts in the region. Critics argue that the initiative is a ploy for Japan to preserve its thermal power industry, as the initiative’s promoted strategies and technologies are not best suited for southeast Asia.

The lack of consensus among major developed market economies on phasing out coal may hinder cooperation and the effectiveness of Indonesia’s JETP and other emerging market climate financing initiatives. Since Indonesia’s JETP has been touted as a potential roadmap for other emerging markets, the issues could spill over to other recently signed JETPs, such as in Vietnam and India.

Viability Depends on Favourable Financial Terms

Indonesian officials have warned that the country requires financing at favourable terms. The coordinating minister for economic affairs, who is leading the deal on the Indonesian side, has been quoted in the media as saying that the JETP should not be detrimental to Indonesia’s economy and that the country will forgo the partnership if financing terms prove to be disadvantageous and inequitable.

The JETP is to be financed using a mix of concessional and market-based loans, investment guarantees, grants and private investment. However, each financing source may come from an array of financial institutions that could prioritise profit over impact. It is also unknown how much of the capital will come from grants or how affordable other funding options, such as loans, will be. In South Africa’s USD8.5 billion JETP signed in 2021, only about USD300 million, or approximately 4%, is likely to come from grants, according to media reports.

Emphasis on Coal Phase-Out Presents Moral Hazard Risk

Indonesia relies on coal to meet its energy needs; coal is deeply embedded in a number of the country’s economically significant sectors. We expect the share of energy generated from coal to continue increasing, despite the high-level decarbonisation commitments made so far. While Indonesia has pledged to scale down dependence on coal, more than 100 coal-fired power plants are still slated for development. Furthermore, the JETP deal does not cover the cessation of construction of ‘captive’ plants; these are coal-fired power plants used to power factories and industrial parks and are not connected to the main energy grid.

Coal to Remain Dominant Energy Source in Indonesia

Fitch Solutions' electric energy forecasts from various power sources

The JETP announcement coincided with the inclusion of coal phase-out criteria in the second version of the ASEAN Taxonomy for Sustainable Finance. Most recently, the Glasgow Financial Alliance for Net Zero launched a public consultation on coal phase-out in the Asia-Pacific.

While coal phase-outs can supplement the JETP and increase the chances of the deal’s success, they also cause moral hazard. This refers to a situation where a phase-out transaction ends up encouraging the development of more coal-fired power plants to benefit financially from a future coal phase-out plan.

Clear and well thought-out frameworks on investing in coal phase-out activities can minimise the risk of exploitation by providing transparent conditions on project funding. This can help facilitate projects that genuinely contribute to carbon emission reduction.

Significant capital is required to encourage the development and adoption of renewable energy alternatives. Aside from a lack of strong environmental and legal policy support to encourage the development of renewables, energy distribution also poses significant hurdles. This is because Indonesia is a large archipelago with varied energy resources, distribution networks and energy infrastructure across its territories.

However, the country may still be able to execute its plan, as it has identified a handful of potential coal projects to kickstart the JETP’s implementation. Details on two of these projects are due to be revealed at the end of this year. The country also plans to develop other energy sources, such as geothermal and solar power, with new regulations on the horizon to provide legal certainty around renewables development. (ends)