Climate Change & Fiscal Policy Issues: 2009 Initiatives

MA

CAR

A DA N A R A K

Fiscal Policy Office Ministry of Finance Republic of Indonesia

Disclaimer This document summarizes internal and external discussions, academic and technical studies, and public statements at Ministerial level. The document is intended to provide information and raise awareness about the Ministrys activities in the area of climate change. This document does not make policy or indicate binding commitments by the Ministry or its sta. Working Group on Fiscal Policy for Climate Change Fiscal Policy Office Ministry of Finance Jalan Dr. Wahidin No.1, Lantai 1 Jakarta, Republik Indonesia Tel/Fax: +62 21 384 0059 (direct) Internal: 7004 www.depkeu.go.id

Jakarta, December 2009

Climate Change & Fiscal Policy Issues: 2009 Initiatives

Working Group on Fiscal Policy for Climate Change

Climate Change & Fiscal Policy Issues: 2009 Initiatives

Table of Contents
Foreword Introduction Theme 1: International Engagements Theme 2: Sectoral Policy Initiatives Theme 3: Climate Finance Theme 4: Institutional Development & Capacity Building Closing and Next Steps References Appendix Acknowledgements and Working Group Members iii 1 5 11 19 23 27 30 31 35

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Climate Change & Fiscal Policy Issues: 2009 Initiatives

Foreword
Climate change is a critical development issue for Indonesia. Since hosting the Bali COP 13 in Bali in December 2007, the Government of Indonesia has developed more comprehensive plans and programs for addressing climate change. The Ministry of Finance is engaged in developing the GOIs response to climate change, focusing on its areas of expertise and comparative advantage in the areas of scal policy and incentives, climate nance, and investment and market-based approaches. Within the Fiscal Policy Oce, the Minister has appointed a working group to contribute to the Governments response to climate change. Within the Ministrys key areas of responsibility, the working group aims to develop, evaluate, and deploy scal policies and nancing instruments that can contribute eciently and eectively to Indonesias ability to mitigate and adapt to climate change. Internationally, Indonesia has been a leading advocate of a strong role for Ministers of Finance in responding to the challenge of climate change. The Fiscal Policy Oce has been closely involved in international meetings on climate change during the last year, including the G20, APEC, ASEAN, and other meetings of Finance Ministers, such as MDB Annuals, where the Minister of Finance advocated bolder approaches on climate nancing needs. Domestically, the Fiscal Policy Oce is working to develop, evaluate, and deploy scal policies and nancing instruments that can contribute to Indonesias overall climate change response, including scaled up nancing for climate change. This work is carried out in coordination with Bappenas, the Ministry of Environment, the Ministry of Forestry, the Ministry of Energy, the Ministry of Industry and the National Board on Climate Change (DNPI). The Ministrys program of action includes developing a scal policy framework, assessing sectoral policies where scal instruments can contribute to mitigation, exploring ways to improve and scale up carbon nance opportunities, and working with other agencies to develop domestic climate nance instruments. In 2009, the FPOs working group on climate change collaborated with World Bank, JICA, Australian Treasury, ADB, DFID, GTZ, AFD, and several NGOs including WWF and TNC. Plans are to expand these engagements in 2010. This paper shares the ndings and lessons of the Fiscal Policy Oce Working Group on Climate Change 2009 in addressing the scal perspective on climate change and preparing and reporting for the UNFCCC Conference in Copenhagen. Jakarta, December 2009 Head of Fiscal Policy Office

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01
Introduction
Climate change continues to be a critical development issue facing Indonesia. Since hosting the Bali COP 13 in Bali in December 2007, the Government of Indonesia has developed more comprehensive plans and programs for addressing climate change. The President of Indonesia personally committed the country to a bold leadership stance on climate change as part of Indonesias contribution to the G20 gathering. President Yudhoyonos speech to the G20 Leaders Summit Pittsburgh, 25 September 2009 First, no matter how dicult the challenge before us, let us make history by ensuring that Copenhagen will not fail. As leaders, let us give a stronger mandate and a stronger push and clearer directions to our negotiators for the success of Copenhagen. Secondly, let us give a positive and a strong signal to the world that apart from our commitments, each of us has national goals, objectives and targets for emissions reductions, and that we have a clear and achievable timeline. We have to produce the necessary emission cuts to reach the targets that the scientists say we must. We are devising an energy mix policy including land use, land use change, and forestry that will reduce our emissions by 26% by 2020 from Business as Usual. With international support, we are condent that we can reduce emissions by as much as 41%.

Climate Change & Fiscal Policy Issues: 2009 Initiatives

At Pittsburgh, President Yudhoyono pushed for a greater resolve among G20 leaders to ensure the success of the UNFCCC meeting in Copenhagen. He stressed that both developed and developing countries need to do more and do away with a business as usual mentality. Developed nations must take the lead, but developing nations must also do their part and need to address climate nance in the context of a pro-growth, pro-poor and pro-job millennium development framework. However, to better advance mitigation and adaptation eorts, developing countries need nancial support, technological transfers and capacity building from developed countries. The Ministry of Finance is engaged in developing the GOIs response to climate change, focusing on its areas of expertise and comparative advantage in the areas of scal policy and incentives, climate nance, and investment and market-based approaches. Within the Fiscal Policy Oce, the Minister has appointed a working group to contribute to the Governments response to climate change. Within the Ministrys key areas of responsibility, the working group aims to develop, evaluate, and deploy scal policies and nancing instruments that can contribute eciently and eectively to Indonesias ability to mitigate and adapt to climate change. Based on existing analysis, Indonesia recognizes that forest loss, land use change, and fossil fuel consumption contribute most to greenhouse gas emissions. The Government is currently reviewing policies that aect land use, and their implementation. With decentralization, incentives need to be given to the local level, where many of the important decisions are taken. Carbon payments may oer an alternative revenue stream that can contribute to regional development opportunities, especially where protable opportunities for land conversion are foregone. The Reduced Emissions from Deforestation and Degradation (REDD) scheme is a mechanism currently under preparation that will allow the international community to nance the reduction in deforestation. For the national government, a key challenge will be to link the global level to the local level. Mechanisms must be in place to allow international incentives for carbon emissions reductions to reach the local level. The Ministry of Finance can play a key role in designing incentive-compatible mechanisms and ensuring that funds are channeled appropriately among government levels and to communities.

Climate Change & Fiscal Policy Issues: 2009 Initiatives

Energy use is also an important issue for climate change mitigation. Indonesias per capita energy use is one fth of that of Japan, and less than one tenth of that of the U.S. Carbon emissions from energy are seven times less than the OECD per capita average. But national emissions are growing fast, especially as electricity demand increases with economic growth. Indonesia is exploring the use of green energy such as geothermal, to meet the rising energy demand, but this requires substantial investment. Indonesia is also seeking to reform economic and scal policy to help meet climate change objectives. A range of government-led studies are underway that look at options to reduce emissions. Some studies are also assessing the policy instruments that can contribute to emissions reduction outcomes. Such policies need to be as ecient as possible, to support Indonesias aims of economic growth and development. They also need to take account of equity and Indonesias goals to reduce poverty and unemployment. In 2008, the Ministry of Finance working group hosted a series of Focus Group Discussions, initiated analytical studies on key sectoral and regulatory challenges, and established institutional collaborations with key partner agencies, both domestically and internationally. The studies and documents produced to date can be found on the Ministrys climate change website at depkeu.go.id. In 2009, the Ministry of Finance working with other agencies expanded its engagement in the climate change arena with greater representation in international venues, completion of several studies in key sectoral areas related to mitigation, development of several specic climate nance opportunities and institutional capacity building. This document reviews progress in each of these areas and lays out plans for 2010.

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Theme 1:

International Engagements
Indonesia has been a leading advocate of a strong role for Ministers of Finance in responding to the challenge of climate change. Climate change will aect macro-economic management approaches, scal policy choices, revenue raising alternatives, insurance markets, and long-term investment options. Fiscal and nancial policy instruments will be needed to inuence incentives, investments, development paths, and the distributional impacts on the poor. For these reasons, the Ministry (through the Fiscal Policy Oce) has been closely involved in international meetings on climate change during the last year, including the G20, APEC and ASEAN, the Annual Meeting of Finance Ministers, and the World Bank Spring Meetings. In these wider venues, the Ministry of Finance continues to advocate for bolder approaches on development and climate nancing needs.

Climate Change & Fiscal Policy Issues: 2009 Initiatives

Turning Words Into Action In late 2008, to commemorate Indonesias 62nd Finance Day Anniversary, the Ministry of Finance published a book of Minister Mulyanis speeches Turning Words into Action: Advancing Reform and the Economic Agenda. The book devoted a chapter to climate change which included the speeches the minister delivered at the Indonesian-hosted High Level Event on Climate Change for Finance ministers. The chapter also included her speeches at the World Bank Bali Breakfast Meeting, the G8 Outreach Meeting, APEC Finance Ministers Meeting, and a speech to the donor community titled Global Problem, Local Action: Indonesias Approach to Climate Change. These speeches provide insight into the Ministers thinking on climate change and highlight her determination to secure commitment to domestic, regional and global action. The Ministry of Finance supported the Indonesian Delegation to the UNFCCC Conference of Parties fourteenth gathering in Poznan, Poland in December 2008. There, parties agreed to shape an ambitious and eective international response to climate change aiming toward an agreement in Copenhagen at the end of 2009. Following the initiative of Indonesia in Bali, a parallel Finance Ministers meeting was held in Warsaw, where the Ministry of Finance emphasized the need to nd innovative ways to provide incentives for the development and diusion of low carbon approaches. This is especially true against the backdrop of the global nancial crisis, which makes funding for mitigation and adaptation a more challenging issue. In Warsaw, at the MDB annual meetings, and other venues, the Ministry of Finance contributed to the view that there is a need to nd innovative ways to provide incentives for the development and diusion of low carbon approaches. The Bali and Poznan Finance Ministers meetings helped advance an understanding that climate change is an economic, social and political issue and not just an environmental one. They also helped advance a more detailed understanding among nance ministers of the available policy options on climate change nancing. In May 2009, Indonesia hosted the ADB annual board of governors meeting in Bali. This event included meetings and side events where member countries could focus on key issues of the day, including climate change, mitigation, adaptation and nancing needs in the regional context. In preparation for the May meeting, the Ministry of Finance hosted a seminar

Climate Change & Fiscal Policy Issues: 2009 Initiatives

on Climate Change Financing Needs and Opportunities in February 2009. This seminar aimed to develop information on needs and opportunities for climate change nancing and investment as a development issue and to contribute to the understanding of the role/position of the Ministry of Finance on climate change policy and nancing. This seminar helped to shape Indonesias position and contributions toward the ADB Annual Meeting. Indonesias intervention points at a range of ASEAN, ASEAN+3, and MDB meetings have focussed on the urgent need for the development of global carbon markets; the need to nd a constructive solution to UNFCCC negotiations; the need for climate nance architecture that allows for both public and private funding; and that there is a clear role for the MDBs to scale up the delivery of public nancing from developed countries and to help build the capacity and market readiness of developing countries to access the global carbon market. Indonesia has begun to play a more important role in the strategic G20 grouping. Discussion of climate change in the G20 ensures the involvement of nance ministers and central bank governors. As they are the managers of the levers of the economy and the ows of investment, their involvement could make a signicant dierence on the issue. In this venue, Indonesia has strived to contribute toward a positive outcome at the next UNFCCC meeting in Copenhagen. At the Pittsburgh Summit, in September 2009, G20 Leaders directed Finance Ministers to report back at their next meeting with a range of possible options for climate change nancing to be provided as a resource to be considered in the UNFCCC negotiations at Copenhagen. Based on this mandate, Indonesia is contributing to the analysis and discussion of the implications, commonalities and dierences among the climate nancing alternatives under discussion. This includes the role of public climate change nance; mechanisms for generating funds; and governance of nancial architecture related to disbursement of public climate change funding. In Scotland at the G20 Finance Ministers and Central Bank Governors Meeting in November 2009, Indonesias Finance Minister and her Australian Counterpart delivered keynote interventions on climate change. The Ministers argued the urgent need for G20 agreement on a contribution that would allow the G20 to make a positive contribution to assist the UNFCCC in its Copenhagen negotiations. Minister Mulyani, supported

Climate Change & Fiscal Policy Issues: 2009 Initiatives

by the Fiscal Policy Oce, also provided a signicant contribution to the Presidents G20 Pittsburgh climate change speech. In the lead up to the Leaders meeting, Minister Mulyani sent a letter to the G20 Finance Ministers to reinforce the need for focus on the issue of climate nancing. She argued that exploring and advancing the role of scal and nancial policies in addressing climate change should remain a key pursuit of G20 Finance Ministers and Governors. She further argued that the G20 should support wherever possible a workable breakthrough or a convergence of views that would support and complement the work of the UNFCCC. In the last quarter of the year, the Ministry of Finance contributed to the Indonesian delegation to the Bangkok and Barcelona Climate Change Talks held in September and November 2009. These were meetings of special purpose working groups established by the UNFCCC COP to work on further emission reduction commitments for developed countries and on Longterm Cooperative Action under the Convention. Both working groups met in Bangkok and Barcelona to draft texts and consider proposals that would be presented for adoption at the COP 15 session in Copenhagen. The Ministry of Finance participated in the delegation and contributed mainly on issues of climate nancing structures and needs. In Copenhagen, members of the working group on climate change served as member of Indonesian delegation. Indonesia maintains a strong commitment to decisive outcomes at this meeting. The President of Indonesia actively participated and delivered speech that bridge the conference to seek solution and consensus.

Climate Change & Fiscal Policy Issues: 2009 Initiatives

H.E. DR. SUSILO BAMBANG YUDHOYONO PRESIDENT OF THE REPUBLIC OF INDONESIA

Conference of Parties-15 Bella Center - Copenhagen, 17 December 2009

110 world leaders have come here to deliver a solid political binding agreement that would lead to a legally binding climate treaty in 2010. Five highlights: First : our collective strategic goal is to limit the rise of global warming to WITHIN 2 degrees Celcius. Second : Developed countries must take the lead and come up with ambitious targets. Third : All the talk is meaningless without concrete delivery on nancing. The initiative for a fast launch fund at this conference is a good start, but more is needed. Fourth : Science now also tells us that developing countries must also DO more, committing to a low carbon development path. Indonesia declared an emission reduction target of 26 % from business as usual because we wanted to be part of global solution. Fifth : MRV is not an outrageous idea. We need to know if we are making progress in reaching our targets and to ensure that support funds from developed countries are well delivered to meet climate objectives. The remaining forests in the developing world are the key to the global climate solution. We must now inject a new economic logic where it is more benecial to keep the trees up, than to chop them down. This is why interim nancing is critical. REDD PLUS must be part of the global solution. This is not a time for dogma and confrontation. This a time for solution and consensus.

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Theme 2:

Sectoral Policy Initiatives

The climate change agenda is as important domestically as internationally. In terms of domestic initiatives, the Fiscal Policy Oce of the Ministry of Finance is working to develop, evaluate, and deploy scal policies and nancing instruments that can contribute to Indonesias overall climate change response. The Ministry of Finance has a four part program of action. First, the Fiscal Policy Oce is developing a coherent scal policy framework to nd the optimal mix of policy instruments to support climate change action and investment. Second, the FPO is looking at specic sectoral priorities and policies where climate friendly investments or scal instruments can contribute to mitigation. Third, the FPO is exploring ways to improve the existing domestic carbon nance and CDM framework to facilitate larger and scaled-up mitigation projects. Finally, the Ministry of Finance is working with other agencies to develop domestic climate nance instruments. This section deals with sectoral analyses conducted in 2009. The next section addresses climate nance issues more generally. Based on an overview of Indonesias carbon emissions (Low Carbon Phase 1 Synthesis, November 2008), the climate change working group elected to focus on forestry and renewable energy (specically geothermal energy) as key sectoral policy areas in 2009. Many studies have shown (2009 GOI SNC,

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2009 Green Paper) that forestry and land use are the largest current sources of greenhouse gas emissions, while emissions from fossil fuel consumption are growing fast and will be the greater concern in the future. Forestry is a key sectoral carbon and climate nance opportunity for Indonesia. Reduced Emissions from Deforestation and Degradation (REDD) is a proposed approach to create a new carbon market to allow payments to countries that can reduce their rate of deforestation. If UNFCCC negotiations are successful, REDD could be implemented after 2012. Indonesia as a country well-endowed with rainforests could benet through a system of international payments, if there is sucient progress to reduce deforestation in a veriable manner. The Fiscal Policy Oce is studying this issue seriously, as this will have signicant scal and environmental impacts. Energy supply, and specically electric power production, is a key development priority as well as a major source of future emissions, due to coal-red power. GOI plans aim to accelerate geothermal energy production, as Indonesia has a large endowment of geothermal resources that have not yet been developed to their full potential. The Ministry of Finance Fiscal Policy Oce has developed a series of reports together with the World Bank and the Governments of Australia, Japan and Germany that looked at strategic options to address mitigation issues in various sectors. The Green Paper identies scal and economic policy options for achieving climate change mitigation with a focus on the energy and land use sectors. MOF strengthened the analytical work on the forestry sector by commissioning a study on relevant scal issues and a report on regulations concerning REDD licensing procedures. In partnership with JICA, MOF developed a study on scal and non-scal incentives to accelerate private geothermal energy development in Indonesia. Working with the University of Diponegoro, the Fiscal Policy Oce conducted a study of scal options in the energy sector and a study of institutional/ organizational issues for addressing climate change. This section reviews the results from these initiatives.

Low Carbon Development Options

Recognizing the importance of climate change mitigation and adaptation, the Minister of Finance supports development of a low carbon development

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strategy for Indonesia. There is a strong economic rationale for such an approach. Although pricing reforms are under consideration, Indonesias energy sector remains highly subsidized and regulated. This contributes to inecient public spending and impedes investment to modernize the sector. As well, Indonesia remains vulnerable to world energy price shocks, because price changes aect the level of subsidy provided from the state budget. The investment climate remains an issue also, impeding private sector development of alternative energy resources, such as geothermal, wind and solar. On the positive side, potential carbon payments through a mechanism for Reducing Emissions from Deforestation and Degradation (REDD) may provide the incentives needed to continue and expand forest sector reforms and improvements. Through the Low Carbon Development Options study, the Ministry is evaluating policy options for addressing climate change. The Phase I report (November 2008) summarizes the main sources of emissions in the economy and identies key priorities and scal policies that could contribute to the countrys mitigation plans. Phase II of the study (ongoing in 2009) includes a macro policy options element and four sector analyses covering forestry and land use, power generation, transport and industrial energy eciency. Each of the sectoral studies will focus on scal policies and incentives that may be benecial, in keeping with the Ministry of Finances overall role in economic management. The industrial energy eciency report was completed and published in November 2009. This low carbon study and technical assistance eort includes communication and outreach components. The Low Carbon Development Options Study is intended to support the GOIs further development and preparation of an integrated climate change approach. Indonesia has good potential to use the results of the project to take advantage of alternative energy options (geothermal, hydropower), reduce the emissions intensity of energy sector development, tap existing carbon markets for energy eciency improvements, develop carbon credits for REDD (under negotiation for the post 2012 period), facilitate additional investments and transfer of technology, and tap into innovative sources of nancing that are now emerging.

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Green Paper Synthesis

The Green Paper was developed with assistance from the Government of Australia to provide the Ministry with an overall strategy for reducing emissions, plus some short-term, practical policy targets. The report also covers institutional development issues and international carbon nance opportunities. The report was delivered to the Minister in November 2009 with a set of recommendations for follow up. Implementation of these proposals will require substantially more work, for example designing the details to implement such policies and enhancing the capacity of institutions to successfully manage policies. In line with the Presidents announced targets for emission reductions, the paper proposes that appropriate pricing of carbon emissions (recognizing the true cost) is central to longer-term policy action on climate change. Appropriate pricing is necessary to achieve abatement at least cost, and is consistent with policies being developed in both developed and developing economies. Pricing carbon can be achieved through an emissions trading scheme, a carbon tax or some combination of the two. The paper proposes consideration of phased introduction of emissions pricing, commencing with a relatively low carbon tax on fossil fuel combustion. This could then be increased over time, ideally through a regular annual percentage increase that would send a long term signal to markets and investors. Further work needs to be undertaken on the design details of a carbon tax in Indonesia, including the interaction with other policies such as fuel and energy subsidies. A prerequisite for emissions pricing will be implementation of a reliable, and ideally internationally compliant, accounting system for measuring emissions from coal, oil and gas. A carbon tax will raise considerable revenue. If the scheme is designed to be revenue neutral, then the funds need to be reallocated into the economy to facilitate the transition to a low carbon economy, such as through assistance to industry and the poor. Indeed, modeling suggests that a well managed redistribution of revenues can boost economic activity and assist with poverty alleviation. In addition, Indonesia can potentially sell emission reductions in international markets and receive additional sources of revenue.

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The following section summarizes some of the key results related to forestry and geothermal energy, the two policy focus areas chosen for study in 2009.

Policies to Encourage Geothermal and Renewable Energy

As a developing country, Indonesia has rapidly growing energy needs which, based on current trends, would lead to an acceleration of carbon emissions. Geothermal energy not only oers the potential to limit the growth in emissions but also to enhance supply security and electricity production eciency. The Fiscal Policy Oce worked with JICA to develop a study on scal and non-scal incentives to accelerate private geothermal energy development. Indonesia has 40% of the worlds geothermal potential, and the study identies existing barriers to geothermal development. The study analyzes pricing and value of geothermal energy compared to other energy sources, and looks at the sectors structure of taxes and royalties. The study evaluates the eectiveness of feed-in taris and proposes options for increasing private sector participation. A key nding of the study is that incentives for geothermal energy would be socially benecial and would increase government revenue. By spurring economic growth, geothermal development can bring signicant benets to government and society. Currently the unattractive purchase price and large resource risks are barriers to investment, but these barriers can be overcome with incentive policies. The Green Paper proposes removing two key hurdles to the development of geothermal power. The rst recommendation would reduce the uncertainty associated with developing geothermal energy and provide a stronger basis for geothermal exploitation tenders with the Government (through the Geological Agency) funding some of the early exploration activities directly. A budget measure for 2010 on geothermal can support this activity. The second recommendation would narrow the true cost of geothermal energy by taking into consideration the full range of costs embedded in other sources of energy, such as implicit subsidies to coal red generation. The paper also recommends a tender structure and prot sharing regime to ensure that any benets beyond normal commercial returns accrue to the Indonesian people rather than to project proponents.

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The University of Diponegoro study analyzed possibilities for implementing scal policies to promote several dierent forms of renewable or lower carbon energy sources. In the geothermal area, the study conrms that risks are an important feature of these long term investments and that pricing reforms or concessional nancing terms may be needed to make some projects feasible. The study also looked at replacing kerosene with bio-ethanol for household uses and using LPG for taxis to reduce emissions in the transport sector. The study provides cost benet analysis on the implementation of scal incentives to check whether such policies are economically feasible. The results of the study show that tax policies, subsidies, and other incentives will enhance the development of bio-ethanol development and LPG use in Indonesia and that they are economically feasible.

Policies to Improve Forest Outcomes and Access REDD Carbon Markets

Deforestation and forest degradation are among the biggest sources of emissions in Indonesia. Eectively addressing these concerns requires a comprehensive set of policies dealing with the broader issue of land use. Past analyses of Indonesias forestry scal policies have pointed to signicant opportunities for increasing the public revenues generated by the forestry sector. In spite of recent governance improvements and greater eorts on illegal logging, Indonesia continues to lose tax and non-tax revenue in the forestry sector. Timber royalties and timber taxes need to be set at the right level and implemented in an eective manner to reduce overexploitation and to achieve sustainable forest management. Improving forest management will improve the ability to deliver benets (revenues and livelihoods) to local governments and society. Improved management will also reduce the level of o-site externalities (drought, ooding, water pollution) that have nancial impacts on communities, resource users, and the Government. Public expenditures on ooding disasters, mud slides, and forest res may be decreased by encouraging more sustainable land management practices through improving the scal mechanisms and incentives that local governments and forest managers face.

Fiscal policies and revenue issues in forestry. With the World Bank and Indonesian analysts, the Fiscal Policy Oce is assessing scal policy instruments available for improving regulation and management of the forest sector. The ultimate purpose of the eort is to improve regulation

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and management of the forest sector, improve government revenue sources and stability and increase the potential for REDD payments reduced deforestation. The study oers a number of policy options. This section reviews the policies most closely related to the scal policy responsibilities of the Ministry of Finance. Reducing duplicative regulatory and fee structures would help to enhance the investment climate and provide the GOI with a clearer view of expected revenue. In particular, the forest royalty and reforestation fees should be integrated and the tari levels should be adjusted to improve eciency. The forest fee system should be simplied and optimized to correct the incentives that forest concessionaires face and to reduce harvesting costs. Competing or overlapping regional regulations (Perda) should be removed. Removing the log export ban would enhance the domestic log price and reduce log smuggling. Auctions of forest concessions would help to improve incentives and transparency. Providing technical, nancial, and market access assistance for small and medium forest enterprises and for investment in new processing technology would help to create jobs, achieve higher value-added, and improve eciency in wood processing. Work on these issues will continue and expand in 2010.

Regional forestry incentive mechanism. One important component of a national initiative to reduce deforestation is to provide incentives to regional governments for implementing carbon reducing activities. The Green Paper study proposes a Regional Incentive Mechanism that would provide outcome and milestone based payments from the central to regional governments. Regional governments typically have authority over land use decisions and are best able to integrate carbon abatement action with local social, development and environmental objectives. The mechanism would be designed to provide incentive payments for regional governments that are able to maintain forests. This could eectively link with international REDD payments, which will increasingly be based on carbon outcomes. Where applicable, the mechanism should use similar systems for measurement, reporting and verication as international REDD systems, but also allow more exible denitions of outcomes at the local level. Seed funding for a regional pilot project, with a focus on peat re prevention, has already been provided in the 2010 Budget. While the details remain to be determined, one options is to use the DAK system to enable the provision of milestone- and outcome-based payments, and to facilitate multi-year spending programs.

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REDD legal framework and payment distribution. The Ministry of Finance is also studying the legal and regulatory framework needed to improve the collection and distribution of revenues from environmental services, including carbon storage and REDD. The Fiscal Policy Oce is examining how best to use the authorities and responsibilities of the Ministry of Finance to strengthen the regulatory basis for a strong REDD program in Indonesia. This involves a technical assessment on the revenue sharing and payment distribution scheme for improving the REDD approach, and ultimately the regulation and management of the forest sector in Indonesia. The work reviewed Indonesias current forestry sector revenue and payment system, as well as the legal and institutional basis for treatment of forest sector revenue in the Ministry of Finance. Existing regulations on forest revenue sharing were reviewed; the legal and institutional basis for the current structure of fees, taxes, and royalties was summarized; the Ministry of Finances policy scope and authority in relation to REDD implementation was assessed; and alternative regulatory approaches or revenue distribution systems were evaluated. Based on the studys preliminary ndings, the Minister of Finance has the responsibility in dealing with international agreements on nancial frameworks and for collecting and allocating state revenue and some forms of non-tax revenue. The regulatory framework for REDD in Indonesia will benet from improving coordination among appropriate agencies and ensuring that policies are harmonized and incentives compatible.

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04

Theme 3:

Climate Finance
In an increasingly carbon constrained world, we are likely to see the expansion of private market and public nance to support climate change mitigation in developing countries. If suitable mechanisms are put in place internationally and domestically, Indonesia could be a major recipient of such nance. To ensure that international mechanisms are favorable to Indonesias interests, continued active engagement with international fora such as the UNFCCC and G20 is needed. In international venues, the Ministry of Finance continues to support and advocate a REDD mechanism for forest carbon nance for mitigation, as well as more streamlined and comprehensive carbon market and trading mechanisms. These approaches will stimulate and provide incentives for private sector involvement in the investments needed for climate mitigation in the long run. In the short to medium term, Indonesia also supports the view that public sector climate nance will play an important role as a catalyst and source of up-front nancing. In the international negotiation process, the GOI holds that climate nance should be additional to existing ODA and multilateral nancing and that developing country borrowing for climate change actions (with development benets) should

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be on concessional terms. The Fiscal Policy Oce has closely followed the development of international climate nance mechanisms in a variety of international venues. In Warsaw, at the MDB annual meetings, and other venues, the Ministry of Finance contributed to the view that there is a need to nd innovative ways to provide incentives for the development and diusion of low carbon approaches. This is especially true against the backdrop of the global nancial crisis, which makes funding for mitigation and adaptation a more challenging issue. Currently, global climate nancing mechanisms worth several billion US dollars are being set up to fund large-scale mitigation and adaptation eorts in developing countries, particularly in the forestry and renewable energy sectors. All these climate nance funds and nancing mechanisms represent an opportunity for Indonesia to receive nancial support for mitigation programs. The Climate Investment Fund is a set of funds established by developed countries and managed by multi-lateral development banks for channeling resources to developing countries for climate-friendly investments. The Climate Investment Fund consists of several nancing windows for clean technology, for building resilience, and for forestry, with potential for additional windows to be developed. The Clean Technology Fund (CTF) currently the largest of the climate investment funds seeks to promote scaled-up nancing for demonstration, deployment and transfer of low carbon programs and projects with signicant potential for longterm greenhouse gas emissions reductions. The CTF focuses on nancing projects addressing the power and transport sectors and energy eciency issues. The Strategic Climate Fund focuses on nancing pilot projects that have the potential to support scaled-up or sector-wide climate change mitigation policies. The Forest Investment Program is another window that seeks to provide concessional nancing for investments that help to reduce deforestation and degradation. Another mechanism for the forest sector is the Forest Carbon Partnership Facility (FCPF), separate from the CIF. This funding mechanism is designed to set the stage for a large-scale system of incentives for reducing emissions from deforestation and forest degradation. The Forest Carbon Partnership Facility helps developing countries build capacity to reduce emissions from deforestation and forest degradation and to tap into any future system of positive incentives for REDD. The FCPF will also test a program of performance-based incentive payments in some pilot countries.

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The model for each of these funds and mechanisms is management by trust fund committees consisting of donor and recipient countries. The Fiscal Policy Oce represents the GOI in the Climate Investment Fund framework and has sent teams to meetings in Washington to ensure that Indonesia is represented in the process of setting up the Strategic Climate Fund and the Forest Investment Program. After consideration and consultation, the GOI has agreed to participate in both the Clean Technology Fund and the Forest Carbon Partnership Facility. Representatives from the Fiscal Policy Oce participated in discussions with MDB missions working to develop these programs in September, October and November 2009. The GOI also participates in a major climate nancing opportunity, tied directly to the domestic development agenda. The Climate Change Program Loan provides concessional nancial support for Indonesia to achieve development objectives dened in the National Climate Change Action Plan (2007) and the Development Planning Response to Climate Change (2008). The Governments of Japan and France both support this loan framework, which has been running for 2 years. The loan is designed to support the agreed policy actions under the key policy pillars of Mitigation,Adaptation, and Cross Cutting Issues in terms of encouraging GHG reduction and absorption, strengthening country resilience to the anticipated negative impacts due to climate change, and improving institutional frameworks related to mitigation and adaptation. BAPPENAS chairs the steering committee for the loan framework to ensure proper coordination and monitoring of the achievements. In parallel with the loan process, both Japan and France provide additional technical cooperation in key areas dened in collaboration with the GOI in areas such as forest conservation, forest res, energy, co-benets, agriculture and water resources. As one of the results from Copenhagen summit, the government budget has been earmarked for specic climate change and low carbon development activities. However, this source is far too small in comparison with the magnitude of the problems. Indonesia is a large archipelagic country with more than 10 percent of its population living below the poverty line. Much of resources from government budget has been spent to improve basic human needs, namely health and education. Furthermore, the country is still in dire need of infrastructure development. Hence, new, additional and scaled up international sources of nancing are crucial.

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In addition to nancial support, climate change related economic and scal policies have a signicant role in supporting the realization of low emission development in Indonesia. Sound economic and scal policies should be able to promote multi-stakeholders economic cooperation, be it internally among government sectors, or with the international community, public and private sectors. Very often private sector is reluctant to invest in climate mitigation because the development of low emission infrastructure requires large upfront capital. To this end, a well targetted policy will establish a national atmosphere that promotes increased investment in climate change mitigation as well as adaptation. Fiscal policy measures could be used, among others, to promote investment and development of low carbon industries.

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05
Theme 4:

Institutional Development & Capacity Building

The Fiscal Policy Oce has worked to improve its analytical and institutional capacity and conducted focus group discussions on economic policy responses to climate change. Studies on scal policies in the forest and energy sectors resulted in capacity development for dealing with mitigation issues within the Ministry of Finance. The work was developed through frequent contact and consultations with key counterparts in other agencies, including Ministry of Forestry, BAPPENAS, and National Climate Change Council. These studies, as well as the participation in international discussions and negotiations, helped to position the Ministry of Finance with a good understanding of the challenges and key entry points within its areas of responsibility. A study undertaken with the University of Diponegoro looked into institutional issues. One objective of the study was to evaluate and recommend appropriate organizational structures to enable the Ministry of Finance to contribute eectively in line with its responsibilities and in concert with other key agencies involved in planning and managing the GOIs response to climate change. The UNDIP study recommends that

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there is a need to institutionalize climate change within the Ministry of Finance organization. The appropriate structure will need to call on and integrate expertise from several operational units, including scal policy, debt management, taxation and taris (customs), nancial and revenue management, as well as planning and modeling to evaluate alternative policies and proposals. The climate change unit will also need an external relations function for dealing with other ministries and agencies, as well as with the international community through the regular nance ministers gatherings as well as groupings such as G-20, APEC and ASEAN. In a similar vein, the Green Paper also concluded that eective climate change policy needs eective policy coordination and strong economic input across the policy spectrum. The paper proposed establishment of a dedicated Centre for Climate Policy within the Fiscal Policy Oce. The centre would provide economic input into the development of climate change policies across GoI, design scal instruments for climate change policy and, where appropriate, undertake modeling of dierent policy scenarios. The Ministry of Finance policies and activities would be in support of the GOIs lead climate change policy agency, empowered with a strong mandate to coordinate across domestic and international agencies. FPO sta participated in several capacity building activities, to develop skills relevant to expanding policy engagement on climate change. Some of these events are enumerated here: Participation in the planning and design of the Climate Investment Funds enabled the Ministry of Finance sta to develop understanding of the international mechanisms and priorities of key donor countries, as well as the concerns of developing countries. Lessons from this experience have been used to inform and deepen the GOIs approach in the climate negotiation meetings in Bangkok and Barcelona. Under the Australia-Indonesia Partnership - Government Partnership Fund (AIP-GPF), two senior FPO sta visited Canberra for meetings with counterparts in Treasury and the Department of Climate Change (DCC). At these meetings, the delegation received an overview of the breadth of Treasury and DCC climate change activities; the structure of the Australia governments climate change operation; and how the departments interact with each other and the rest of government.

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Also under the AIP-GPF program, program, two FPO ocers undertook an internship at Australian Treasury and the Department of Climate Change in Canberra to learn more about the structure of the Australian Governments climate change operation. The two ocers also attended a general equilibrium modeling course at Monash University.

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06

Closing and Next Steps

In summary, the working group has carried out its mandate in 2009 by deepening and expanding the work begun before the Bali COP 13. The group has contributed in the domestic policy process by contributing ideas and analysis and by focusing on critical scal and nancial policies related to climate change, carbon markets, and alternative energy paths. The group has contributed also to Indonesias engagement at the international level, through the G20 and through the UNFCCC sponsored sessions. The group has continued to develop the role and relevance of the Ministry of Finance in the treatment of climate change as a development issue and a nancing issue. In 2010, the working group within the Fiscal Policy Oce intends to continue with policy analysis and cross-institutional discussions that contribute to Indonesias climate change response. The Ministry of Finance expects to contribute to formulating an optimal mix of scal policies and nancing approaches to ensure accountability, proper and inclusive procedures, prudential management, and achievable outcomes of the climate change enterprise. Core activities for 2010 will include the following: Support for climate policy decision processes through development of white papers based on special studies, as well

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as macro/micro economic assessments and modeling. This work would be integrated with ongoing modeling and capacity development activities. A series of focus group discussions is planned to compile information on methodology and measurement for reaching national emission reduction targets for 2020. Capacity development to ensure that the unit has the appropriate skills for managing policy development, quantitative policy analysis, environmental economics, legal analysis and drafting, macro economic impact modeling, and risk analysis. Training will be carried out on several economic modeling approaches that allow the quantication of the eects of climate change policies and nancing interventions at sectoral level. Forecasting budget allocation and external funding for climate change activities through 2020. Public dissemination of analytical ndings from studies related to climate change. This will include increasing the units public dissemination capacity, at least through a web site, linked to the Ministry of Finance web site.

In addition the FPO will: Work toward the development of a dedicated climate unit within the Ministry of Finance. Contribute to Indonesian positions and policies with regard to mitigation, adaptation, carbon markets, and climate nance. This would include studies and evaluations on key topics related to low carbon development (transport, power sector, trade, peat land) and on policy issues and barriers to low carbon development (banking sector, trade policy etc). This will require workshops and national seminars for sharing results within and outside the GOI. These studies would also contribute to the Mid-Term Development Plan and climate change road map plans. This will also include engagement in international climate change nancing venues, such as expanding contributions to the G20 and other venues, working with international study teams and working groups (G20, ADB, OECD, UNFCCC). These works could include travel to international venues, comparative studies of

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alternative regulatory frameworks, contributions to working groups and steering committees of international venues. Finally, the FPO and the Ministry of Finance more generally expects to be engaged in advising on the management of Indonesian climate investment funds, nancing services, and access to international climate nance opportunities.

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References
Ministry of Environment, 2009. Indonesias Technology needs Assessment on climate Change Mitigation. Ministry of Environment. 2009. Second National Climate Change Communication. Ministry of Finance, 2009. Green Paper on Economic and Fiscal Policy Options for Climate Change Mitigation. Minister of Finance, 2008. Turning Words into Action: Advancing Reform and the Economic Agenda. Ministry of Finance and The World Bank, 2008. Low Carbon Development Options for Indonesia, Phase 1: Status Reports and Findings. University of Diponegoro and Ministry of Finance, 2008. Review on Fiscal Instrument Policies to Mitigate Climate Change in Indonesia.

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Appendix
Copenhagen Accord
The Heads of State, Heads of Government, Ministers, and other heads of the following delegations present at the United Nations Climate Change Conference 2009 in Copenhagen: [List of Parties] In pursuit of the ultimate objective of the Convention as stated in its Article 2, Being guided by the principles and provisions of the Convention, Noting the results of work done by the two Ad hoc Working Groups, Endorsing decision x/CP.15 on the Ad hoc Working Group on Long-term Cooperative Action and decision x/CMP.5 that requests the Ad hoc Working Group on Further Commitments of Annex I Parties under the Kyoto Protocol to continue its work, Have agreed on this Copenhagen Accord which is operational immediately. 1. We underline that climate change is one of the greatest challenges of our time. We emphasise our strong political will to urgently combat climate change in accordance with the principle of common but dierentiated responsibilities and respective capabilities. To achieve the ultimate objective of the Convention to stabilize greenhouse gas concentration in the atmosphere at a level that would prevent dangerous anthropogenic interference with the climate system, we shall, recognizing the scientic view that the increase in global temperature should be below 2 degrees Celsius, on the basis ofequity and in the context of sustainable development, enhance our longterm cooperative action to combat climate change. We recognize the critical impacts of climate change and the potential impacts of response measures on countries particularly vulnerable to its adverse eects and stress the need to establish a comprehensive adaptation programme including international support. We agree that deep cuts in global emissions are required according to science, and as documented by the IPCC Fourth Assessment Report with a view to reduce global emissions so as to hold the increase in global temperature below 2 degrees Celsius, and take action to meet

2.

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this objective consistent with science and on the basis of equity. We should cooperate in achieving the peaking of global and national emissions as soon as possible, recognizing that the time frame for peaking will be longer in developing countries and bearing in mind that social and economic development and poverty eradication are the rst and overriding priorities of developing countries and that a low-emission development strategy is indispensable to sustainable development. 3. Adaptation to the adverse eects of climate change and the potential impacts of response measures is a challenge faced by all countries. Enhanced action and international cooperation on adaptation is urgently required to ensure the implementation of the Convention by enabling and supporting the implementation of adaptation actions aimed at reducing vulnerability and building resilience in developing countries, especially in those that are particularly vulnerable, especially least developed countries, small island developing States and Africa. We agree that developed countries shall provide adequate, predictable and sustainable nancial resources, technology and capacity-building to support the implementation of adaptation action in developing countries. Annex I Parties commit to implement individually or jointly the quantied economy-wide emissions targets for 2020, to be submitted in the format given in Appendix I by Annex I Parties to the secretariat by 31 January 2010 for compilation in an INF document. Annex I Parties that are Party to the Kyoto Protocol will thereby further strengthen the emissions reductions initiated by the Kyoto Protocol. Delivery of reductions and nancing by developed countries will be measured, reported and veried in accordance with existing and any further guidelines adopted by the Conference of the Parties, and will ensure that accounting of such targets and nance is rigorous, robust and transparent. Non-Annex I Parties to the Convention will implement mitigation actions, including those to be submitted to the secretariat by NonAnnex I Parties in the format given in Appendix II by 31 January 2010, for compilation in an INF document, consistent with Article 4.1 and Article 4.7 and in the context of sustainable development. Least developed countries and small island developing States may undertake actions voluntarily and on the basis of support. Mitigation actions subsequently taken and envisaged by Non-Annex I Parties,

4.

5.

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Climate Change & Fiscal Policy Issues: 2009 Initiatives

including national inventory reports, shall be communicated through national communications consistent with Article 12.1(b) every two years on the basis of guidelines to be adopted by the Conference of the Parties. Those mitigation actions in national communications or otherwise communicated to the Secretariat will be added to the list in appendix II. Mitigation actions taken by Non-Annex I Parties will be subject to their domestic measurement, reporting and verication the result of which will be reported through their national communications every two years. Non-Annex I Parties will communicate information on the implementation of their actions through National Communications, with provisions for international consultations and analysis under clearly dened guidelines that will ensure that national sovereignty is respected. Nationally appropriate mitigation actions seeking international support will be recorded in a registry along with relevant technology, nance and capacity building support. Those actions supported will be added to the list in appendix II. These supported nationally appropriate mitigation actions will be subject to international measurement, reporting and verication in accordance with guidelines adopted by the Conference of the Parties. 6. We recognize the crucial role of reducing emission from deforestation and forest degradation and the need to enhance removals of greenhouse gas emission by forests and agree on the need to provide positive incentives to such actions through the immediate establishment of a mechanism including REDD-plus, to enable the mobilization of nancial resources from developed countries. We decide to pursue various approaches, including opportunities to use markets, to enhance the cost-eectiveness of, and to promote mitigation actions. Developing countries, especially those with low emitting economies should be provided incentives to continue to develop on a low emission pathway. Scaled up, new and additional, predictable and adequate funding as well as improved access shall be provided to developing countries, in accordance with the relevant provisions of the Convention, to enable and support enhanced action on mitigation, including substantial nance to reduce emissions from deforestation and forest degradation (REDD-plus), adaptation, technology development and transfer and capacity-building, for enhanced implementation of the Convention. The collective commitment by developed countries

7.

8.

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is to provide new and additional resources, including forestry and investments through international institutions, approaching USD 30 billion for the period 2010 . 2012 with balanced allocation between adaptation and mitigation. Funding for adaptation will be prioritized for the most vulnerable developing countries, such as the least developed countries, small island developing States and Africa. In the context of meaningful mitigation actions and transparency on implementation, developed countries commit to a goal of mobilizing jointly USD 100 billion dollars a year by 2020 to address the needs of developing countries. This funding will come from a wide variety of sources, public and private, bilateral and multilateral, including alternative sources of nance. New multilateral funding for adaptation will be delivered through eective and ecient fund arrangements, with a governance structure providing for equal representation of developed and developing countries. A signicant portion of such funding should ow through the Copenhagen Green Climate Fund. 9. To this end, a High Level Panel will be established under the guidance of and accountable to the Conference of the Parties to study the contribution of the potential sources of revenue, including alternative sources of nance, towards meeting this goal.

10. We decide that the Copenhagen Green Climate Fund shall be established as an operating entity of the nancial mechanism of the Convention to support projects, programme, policies and other activities in developing countries related to mitigation including REDD-plus, adaptation, capacity-building, technology development and transfer. 11. In order to enhance action on development and transfer of technology we decide to establish a Technology Mechanism to accelerate technology development and transfer in support of action on adaptation and mitigation that will be guided by a country-driven approach and be based on national circumstances and priorities. 12. We call for an assessment of the implementation of this Accord to be completed by 2015, including in light of the Convention.s ultimate objective. This would include consideration of strengthening the long-term goal referencing various matters presented by the science, including in relation to temperature rises of 1.5 degrees Celsius.

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Acknowledgements and Working Group Members

Acknowledgements This report has been prepared in a collaboration between the Ministry of Finances Fiscal Policy Oce and the World Bank. The team led by Noeroso L. Wahyudi and directed by Anggito Abimanyu, Askolani, and Singgih Riphat with the support of several consultants. The Working Groups core team from the Fiscal Policy Oce included: Lokot Z. Nasution, Amnu Fuadiy, Purwoko, Triwibowo, Ragimun, Brahmantio Isdijoso, Widodo Rachmadianto. Team members from the World Bank included: Tim Brown, Virza Sasmitawidjaja, and Guntur Prabowo. Consultants included Tezza Napitupulu, Bintang Simangunsong, Sunarsip, and Doddy. Administrative support was provided by Hemma Ardikoesoema. The activities of the Fiscal Policy Oce in 2009 were partly based on partnerships with and support from donors. The working group thanks the World Bank for its partnership in low carbon study and support for UNFCCC COP updates. Appreciation also goes to Australia Treasury and AUSAID, JICA, DFID, and GTZ for partnership and sponsorship in joint studies, workshops, and capacity building. Collaboration with other ministries and agencies was also critical to the success of the working group, including in particular, BAPPENAS, Ministry of Forestry and National Council on Climate Change. The World Bank assisted in the production of this document, which is printed on recycled paper.

Working Group on Fiscal Policy for Climate Change:

Anggito Abimanyu Askolani Singgih Riphat Noeroso L. Wahyudi Brahmantio Isdijoso Ragimun Widodo Ramadyanto Tri Wibowo E. Subardi Kindy R. Syahrir Sri Lestari Rahayu Amnu Fuadiy Lokot Zein Nasution Mutaqin Purwoko Agunan P. Samosir

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Working Group on Fiscal Policy for Climate Change Fiscal Policy Office Ministry of Finance Jalan Dr. Wahidin No.1, Lantai 1 Jakarta, Republik Indonesia Tel/Fax: +62 21 384 0059 (direct) Internal: 7004 www.depkeu.go.id