CoPS/IMPACT Working Paper Number G-317

Title: Effect of Gas Subsidies In Indonesia

Authors: Mark Horridge and Elizabeth L. Roos


Countries that export energy or minerals often feel that they would be richer if the commodities could be processed onshore rather than overseas. In this way, it is thought, 'value-adding' could occur locally, raising local GDP. Such countries may subsidize local use of the exportable commodity. The strategy, which involves 'picking winners', is not obviously sensible. Why not sell at the higher, export, price? If a subsidy to local industry were needed, why not offer an explicit subsidy, rather than a hidden subsidy in the form of cheaper inputs. A more orthodox economic approach would stress that prosperity is based on:
* human capital (a skilled and well-educated workforce);
* good infrastructure (eg, good roads and reliable electricity);
* good governance (not too much red tape or corruption);
* and, with luck, valuable natural resources!
The focus of this study is Indonesia's effort to use more natural gas locally rather exporting it. To further this aim, domestic users are offered natural gas at a price below the export (world) price. There is in effect a subsidy to local use of natural gas. Using INDORANI, a computable general equilibrium (CGE) model of Indonesia, we simulate the effect of removing this subsidy.

JEL classification: C68; H210

Keywords: Regional modelling; gas subsidies; Indonesia

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