Palapa Ring: Indonesia signs two PPP concessions in a week, which is good, but not great news

March 11, 2016 John CH

Indonesia's Ministry of Telecommunications and Information Technology has now signed both the West and Central packets of the Palapa Ring, worth IDR 1.7 trillion and IDR 4 trillion in present value terms respectively.

As I have previously written, the quick progression of these projects is good news for Indonesian PPP, which is in sore need of it. I say "good" here, rather than "great" because, while it's definitely not bad news, there is one key aspect of the deal that limits the demonstration effect.

What we know about the deal structure

The concession agreements have not been made public (though, I think there are good reasons to do so), but some details are emerging about the structure of the deal. Various sources have reconfirmed that it is indeed an availability-payment PPP, meaning the government bears full demand risk (which I think is appropriate for lots of Indonesia's projects, more here and here).

This is the availability payment that you've heard so much about, provided for by Presidential Regulation 38/2015 (despite the fact that PLN had been doing availability payments for decades), but these two projects' availability payments differ from what was envisioned by the drafters of Perpres 38/2015 in one key way: the funds don't come from the Ministry's budget directly, but from Universal Service Obligation fees collected from Indonesia's telecommunications operators.

Indonesia's Universal Service Obligation

Indonesia's Ministry of Telecommunications and Information Technology levy a fee on telecommunications service providers. This is called the Universal Service Obligation (USO) fee, and is charged as 1.25% of gross revenues of all operators. In 2015, the number was expected to be IDR 1.3 trillion.

The funds collected through this channel are funneled into a government body under the Ministry known as the Balai Penyedia dan Pengelola Telekomunikasi dan Informatika (Body for Provision and Management of Telecommunications and Information Technology, or BPPTI). The idea is that these funds are used to enhance telecommunications access to customers for whom providing service is uneconomic.

What is the difference between paying availability payments from the USO and from the budget?

As far as I understand it (please comment and correct me if you know better), the USO funds are paid directy to BPPTI, and can then be used by the Ministry for approved purposes without prior approval from the Ministry of Finance.

This differs from the normal budgetary process, where the Ministry needs to submit a request, substantiated by particular activities, that are included in the draft budget by the Ministry of Finance. This draft budget forms a draft budget law, which becomes the national budget law if and when it is approved by the parliament. If you want to see an example, check out 2016's budget law UU 14/2015 here.

Indonesia's annual budget cycle means that, in theory, a ministry has no legal standing to sign contracts that stretch over multiple years because their budget in that year is subject to approval by parliament. A ministry signing any sort of multi-year contract oversteps their authority, and preempts the parliamentary process.

I bolded "in theory" above, because, in practice, this is nuts.

In practice, Indonesia is going to have something resembling a Ministry of Telecommunications and Information Technology, or Ministry of Transportation, or a Ministry of Public Works and People's Housing for a very long time; much longer than the 30 year maximum length of PPP contracts in Indonesia. In practice, while the value of hypothetical PPP payments can be large in absolute terms, they represent tiny fractions of the ministries' overall budgets.

To say that committing a tiny fraction of a ministry's annual budget decreases Indonesia's budget flexibility going forward is drawing an extremely long bow. Yes, it is theoretically true, but the impact is negligible, and far, far outweighed by the increased value that can be created by using contracts that actually create incentives for the contractor to deliver on time, on cost, with good quality, and with the lowest life-cycle costs.

The other bizarre thing about this challenge to PPP projects is that it doesn't seem to be insurmountable for other kinds of multi-year contracts. The Ministry of Public Works and People's Housing have been constructing infrastructure like dams and bridges (which sometimes need more than 12 months construction, and you can't just stop in the middle of to retender), through multi-year contracts for years*.

Taking availability payments from the USO fund limits the demonstration effect

One of the keys reasons I think delivering a PPP project is so critical for Indonesia is because of the demonstration effect. Indonesia desperately needs to demonstrate to both private investors and government contracting agencies that PPP is a model that can work (I wrote more about this in my first post on the Palapa Ring project).

The first few test-cases of a new policy framework will always be pathfinders, to some degree. It is expected that they will run into problems. When they do, policymakers need to try to understand why to see if the policy framework is working as intended.

The Ministry of Telecommunications and Information Technology's relatively large source of non-national budget funds is fairly unique in Indonesian infrastructure. This means that, for example, the Ministry of Public Works and People's Housing can't use this project model in trying to convince the Ministry of Finance that it should be allowed to use the availability payment scheme for the delivery of road projects.

This is still definitely good news

Despite my reservations about the demonstration effect for those government contracting agencies that want to do availability-based PPPs, this is still definitely good news. These projects have proceeded from pre-qualification to award within an appropriate timeframe, and had a wide range of national private, state-owned enterprises, and international bidders.

Even if the demonstration effect for availability payment projects is minimal, it's still the best news in Indonesian PPP for a long time!

Bonus appendix: Taking funds from the USO is probably sensible anyway

I really shouldn't complain about the fact that the availability payments aren't coming from the national budget, because it may actually be the case that it's most appropriate for payments to come from the USO.

I haven't read the USO regulations in enough detail, but from what I can see, paying for availability payments like this seems consistent with the intentions set out for the pool of funds. Please do correct me here if you know more.

As I wrote in an early blog post about the idea of "user pays": as far as is productive, we should generally seek to impose the costs of a service on the users of that service. Taking funds from the USO, rather than general budget funds, does put the cost of maintaining the backbone fibre optic network on the users, which is consistent with the idea that the user pays.

So, those responsible for delivering the Palapa Ring projects shouldn't let me rain on their parade too much!

*Multi-year contracts have their own major challenges, and need to be drastically scaled up, but this is slightly to big a topic for a footnote.

Consumer protection job: AIPEG/SMEC

December 18, 2015 John CH

If my previous post was interesting to you, you will be pleased to know that SMEC, via the Australia Indonesia Partnership for Economic Governance (AIPEG), are currently looking to hire a Consumer Protection Strategy Adviser to advise the Indonesian government on exactly those sorts of issues. You can see the job ad here.

They're looking for an experienced hire, so if anything in my blog post was news to you, the job probably isn't for you. If you're experienced in this field, give it a go!

Disclosure: I am currently employed by SMEC, to work for AIPEG, but I work in a different team, and have no role in the procurement, or evaluation of any candidates. I am linking to the job advertisement in my private capacity as a blogger, and for the general interest of my readers only. Please do not contact me for more information about this job.

Bridging the gap between energy market policy reform and real change

December 9, 2015 John CH

Matt Rennie, the leader of EY's Power and Utilities business has a great post on LinkedIn about why new players hesitate to enter reforming energy markets.

Early in the article he sets out the way in which reforms are usually intended to change a market:

"Before reform, and energy market includes a small, closed pool of market participants doing business with each other.
After reform, an energy market includes a large, open pool of market participants trading either bi-laterally within a tightly controlled legislative regime, or through an intermediary (e.g., a market or system operator)."

Matt writes about the challenges that governments face in translating policy reform into the the real change to the system that is the ultimate goal of the reform.

Those that read my post earlier this week may notice that, by making the link between policy reform and desired outcomes, Matt is aiming to help governments avoid Underpants Gnome thinking.

Matt goes on to give three recommendations for governments that are seeking to make the link between reform and real change, which include:

"Understand the motivation of incumbents and new players: This is the heart of the answer. As I’ve said in previous blogs, governments must put themselves in the shoes of market participants and understand what drives them. For incumbents, the focus is on grappling with fundamental cultural change brought by reform. New, private investors, meanwhile are looking for certainty regarding market conditions before making a commitment.
Create an attractive investment environment: Awareness of these key drivers will allow governments to plan for a successful new market. Creating an attractive investment environment requires governments to be alert to the potential of incumbents engaging in problematic behaviours, including obstruction of retail markets, unreflective cost allocation and informational ring-fencing, as market opening draws nearer. Regulatory measures designed to target such conduct need to be put in place and, often, legal or ownership unbundling of the incumbent is required to address potential conflicts. It is also important that transmission system operators send clear signals regarding where new capacity in needed and that generators can feel confident about the stability of future returns. Strong regulators and committed policy makers are necessary here.
Leverage existing market power and experience: Many governments, while planning a new, competitive generation market, miss the opportunity to leverage the power and experience of the incumbent utility. Many mechanisms that worked well in the old market can be adapted for the new one. For example, modified versions of IPP arrangements could allow developments already in progress to proceed with certainty, while also sowing the seeds for the merchant plants of tomorrow and allowing wholesale markets to develop slowly and sustainably. Contrary to the views of most policy makers, new entrants see an important perpetual place for the stabilizing presence and influence of the incumbent, and an environment where a diversity of companies brings benefits that go beyond lower spot prices to include increased efficiency, innovation and employment opportunities."

You may note that these look more like general principles than concrete steps. This is because, in the real world, countries are so different that it's impossible to come up with a set of concrete steps that will apply in every country. When I am looking to advise governments on this sort of thing, I generally try and identify the general principles much like this, and use them to work together with the people on the ground to generate concrete steps that apply in their context.

Matt's article (linked here again in case you missed it above) does lay out quite nicely what "Phase 2" looks like in the real world of policy reform. Give it a read, and follow him on LinkedIn for more.

Disclosure: I previously worked for EY, but have no ongoing affiliation, or financial interest in their business.