Diversifying Investment in Indonesia’s Mining Sector
Indonesia is the world’s largest nickel producer and produces significant quantities of copper, cobalt, tin, and gold. In 2023, mining contributed to 11.9 percent of Indonesia’s gross domestic product. Over the last 15 years, Indonesia has imposed—and at times loosened—bans on raw resource exports and local ownership requirements. While the raw nickel export ban has proved effective in stimulating Chinese investment to build a robust downstream industry, history shows that a one-size-fits-all form of resource nationalism has not always been beneficial to Indonesia’s mining sector.
Lessons from the 2014 Export Ban
In 2009, the Indonesian government enacted legislation that required mining companies to establish local processing facilities or face a ban on mineral exports in five years. This policy aimed to jump-start a domestic minerals processing industry by mandating that companies process their ores within Indonesia. However, both domestic and foreign firms were hesitant to develop refining capabilities for minerals for a variety of reasons: the significant amounts of upfront capital required to build these facilities, weak commercial rationale for these investments, low ore grades that reduced profit margins, and expectations that the government might relent. The ban on raw mineral exports was enforced in January 2014.
In 2013, Indonesia produced 55.7 million tons of bauxite, surpassing China to become the world’s second-biggest producer. Bauxite is used to create aluminum and other industrial products. However, attracting foreign investment for bauxite refining facilities proved challenging due to doubts about whether Indonesia had sufficient high-quality bauxite reserves to remain a competitive supplier in the long run. This uncertainty made it difficult to justify the expensive construction of refineries. As the ban approached, Chinese operators stockpiled bauxite and began exploring alternative sources. In 2014, after the ban went into effect, bauxite production dropped by 95 percent to 2.6 million tons. Bauxite export revenue dropped from $1.3 billion in 2013 to $46 million in 2014.
During this time, Chinese operators began financing new suppliers with high-quality bauxite reserves in the Republic of Guinea, West Africa. Between 2012 and 2016, Guinea’s bauxite production increased from 17.8 million tons to 30.8 million tons—a 73 percent increase. Although the Indonesian government relaxed the bauxite export ban in January 2017 to ease pressure on local mining firms and workers and to allow more time for downstream processing facilities to be built, Indonesia’s global position in the bauxite market had permanently shifted. In 2023, Indonesia produced 21 million tons, while Guinea produced 97 million tons, the second highest in the world (behind only Australia, which produced 98 million tons).
The copper subsector had a bifurcated response to the restrictions. The two largest copper mines in Indonesia—PT Freeport Indonesia’s Grasberg mine and PT Amman’s Batu Hijau mine—were developed by two U.S. companies and subsequently became the focus of lengthy disputes with the government over post-2009 downstream processing and foreign divestment requirements. In 2014, Newmont brought copper production at its Batu Hijau operation to a halt because stockpiling facilities were full as a result of the export ban, and the government subsequently imposed additional escalating export duties on copper concentrate in order to incentivize compliance with the new domestic processing requirements. Despite attempts to negotiate with the government a middle path to keep its investments commercially viable, and facing increased pressure to comply with the new foreign divestment requirements, Newmont ultimately divested and exited Indonesia two years later. By contrast, Freeport-McMoran opted to comply with both the domestic ownership requirements and downstream development policy. In June 2024, Freeport commissioned a new $3.7 billion copper smelter in East Java; it’s expected that all of Freeport’s copper concentrate from the Grasberg mine, the second-biggest copper mine in the world, accounting for 3.3 percent of global output, will be processed in Indonesia. Today, Indonesia is the seventh-largest copper producer. In 2023, 32.9 percent of exploration investment in Indonesia’s mining sector went to copper—the second highest, behind only gold. Whether this exploration spending will result in the actual development of mines—along with requisite downstream processing facilities and power facilities to run them—remains to be seen.
Nickel: Why the 2020 Export Ban Largely Accomplished Government Objectives
In 2019, the Indonesian government announced that it would ban nickel ore exports effective January 2020. While Indonesia’s bauxite reserves weren’t enough to mobilize downstream investments, its nickel reserves had two advantages: first, Indonesia has the largest nickel reserves in the world—according to the U.S. Geological Survey, it’s home to 42.3 percent of the world’s supply. It is also home to two of the world’s five largest reserves—Sorowako and Weda Bay. Sorowako, which is owned by PT Vale Indonesia, is the fourth-largest producing nickel mine in the world.
Second, the geological fundamentals of nickel are strong. Two of the key determinants of a mine’s profitability are the recovery rate and mill-head grade. The recovery rate is the percentage of nickel extracted from raw ore. The mill-head grade is the average concentration of nickel in mined ore that is fed into a mill for processing. Of the five largest mines in the world—Kola Division in Russia, Jinchuan in China, Sudbury Operations in Canada, Sorowako in Indonesia, and Polar Division in Russia—Sorowako has the highest recovery rate (88 percent compared to 25.4 percent to 85 percent for the other four mines) and the second-highest mill-head grade (1.68 percent), surpassed only by Kola Division (2.3 percent).
Given Indonesia’s large endowments of high-quality nickel, the move to ban raw nickel exports was not met by divestment like it was with bauxite nearly a decade earlier. In contrast, there was a sharp increase in foreign direct investment (FDI), which fueled a rapid expansion in its midstream smelting and refining capabilities for nickel. Between 2019, when the ban on raw nickel exports was announced, and 2022, investment in mineral processing and manufacturing increased from $3.56 billion to $10.96 billion—a 207.9 percent increase, driven overwhelmingly by Chinese financing. The FDI has been a driver in building Indonesia’s mid-to-downstream industry. Prior to 2014, Indonesia only had two nickel smelters operating; by 2020, there were 13 operational nickel smelters, and by July 2023, there were 43 nickel smelters operating, 28 under construction, and another 24 in the planning phase. The Ministry of Energy and Mineral Resources is considering limiting the construction of class II nickel smelters. This is a result of concerns about maintaining a balance between the supply and demand of nickel ore to ensure that existing smelters have an adequate supply for ongoing operations.
However, Chinese firms have dominated Indonesia’s nickel sector thanks to significant investments. In 2023, Indonesia was the single biggest recipient of China’s Belt and Road Initiative, receiving $7.3 billion in investment. Chinese companies have also constructed over 90 percent of Indonesia’s nickel smelters. Chinese firms operating in Indonesia include Tsingshan Holding Group, Zhejiang Huayou Cobalt, Ningbo Lygend (part of CATL Group), Wuling Motors, and China Molybdenum Company. Lower environmental standards and labor costs from some Chinese firms have contributed to lower production costs, undermining the competitiveness of other foreign firms. Cash costs for high-pressure acid leach operations, most of which are Chinese owned, are $3.17 per pound, compared to $6.56 per pound at Sorowako and $8.24 per pound at Weda Bay, both owned by PT Vale Indonesia Tbk, the subsidiary of Brazilian company Vale Base Metals. Nickel produced in Indonesia is also cheaper than what’s produced in Canada, Australia.
It's important to note that data on Chinese operations are difficult to obtain given their opaqueness. According to S&P Commodity Insights, which collects project- and company-level data in the mining sector, data are only available for 38 percent of the world’s nickel production, compared to 90 percent of global copper and lithium production.
The rapid increase in Indonesian nickel production—from nearly 1,600 tons in 2022 to an expected 2,150 tons in 2024—has driven a global surplus that’s expected to last until 2028 and has contributed to a collapse in prices. Forecasting suggests that there will be an annual global surplus of 170,000 tons in 2024. This has driven nickel prices down—there was a 26.1 percent decline in three-month nickel prices in 2024 after a 44.7 percent decline in 2023. In 2023, it was the worst performer of any base metal on the London Stock Exchange. The price collapse has been cited as the primary reason for the closure or divestment of mines in Australia and New Caledonia on grounds of unprofitability, giving Indonesia a larger global share of production. As the figure below shows, Indonesia is rapidly ramping up production at a time when prices have been collapsing, suggesting they are running loss-making operations as they seek to dominate global production.
In some ways, the Indonesian government has worked to create a more favorable investment climate. The 2020 Indonesia Mining Law, officially known as Law No. 3 of 2020, amended the previous Mineral and Coal Mining Law No. 4 of 2009. The new law introduced significant changes aimed at improving the management and regulation of Indonesia's mining sector, while also capturing a larger share of benefits from the sector. Some key changes included giving the central government exclusive control over the issuance and management of mining permits, which aims to streamline permitting, minimize bureaucratic delays, and address investor concerns around corrupt practices at the subnational level, as well as allow for the transfer and merger of mining business permits with approval from the Ministry of Energy and Mineral Resources, which enables corporate restructuring and investment transactions.
A lingering downside of the legal framework for investors is the requirement that foreign-owned mining companies gradually divest 51 percent of their ownership to Indonesian entities, with priority offer given to the central government, regional governments, state-owned enterprises, and lastly to private Indonesian entities and/or via local listing on the Indonesian Stock Exchange. For foreign firms operating in Indonesia prior to 2009, this novel requirement presented them with two alternatives: (a) take the government to arbitration and forfeit access to these deposits in the future or (b) accept the ownership limitations under the condition that they retain full operational control. In light of local companies’ limited technical and professional capability to operate them effectively, this accommodation has become common for foreign miners still operating in Indonesia. For prospective foreign entrants, this divestment requirement presents a higher hurdle as they have far less bargaining power.
U.S.-Indonesia Commitment to Building Bilateral Minerals Diplomacy
Following a rollout of Chinese export restrictions on various commodities in 2023, the United States and its allies have accelerated efforts to reduce dependence on Chinese minerals and metals. Given that the United States has less than 1 percent of the world’s nickel, it’s imperative that it has a strong bilateral relationship with the world’s largest nickel producer. For Indonesia, diversifying away from China can help reduce vulnerability and create new market access.
In November 2023, President Joe Biden and Indonesian president Joko Widodo advanced bilateral ties to a Comprehensive Strategic Partnership. As a joint statement from both heads of state released by the White House noted,
President Biden and President Joko Widodo recognize Indonesia’s global leadership in the nickel, cobalt, and other critical minerals value chains, the United States’ significant critical mineral resources, and the Biden Administration’s commitment to developing the full U.S. critical mineral supply chain. They emphasize the opportunity to create high-standard clean energy supply chain jobs in both countries through a robust partnership between the United States and Indonesia that leads to mutually beneficial development of domestic resources in accordance with fair market-based rules.
President Elect Prabowo Subianto has committed to maintaining predecessor Widodo’s downstreaming policy. However, he has also noted that oversupply must be curbed to preserve prices and supply chain stability.
Recommendations for the Indonesian Government
Require compliance with internationally recognized environmental, social, and governance (ESG) certification frameworks: Currently, ESG standards are largely voluntary. Many Chinese firms do not have shareholder pressure or requirements to maintain high ESG standards. In December 2023, a furnace explosion at a Chinese-owned nickel factory at the Morowali Industrial Park on Sulawesi Island killed 20 people, and there were not clear consequences for the firm. Western companies are held to high standards by shareholders. This undermines the competitiveness of their mining operations. Requiring compliance with standards provides grounds for external audits to measure company performance in areas affecting employees, communities, and the environment. Enforcing standards can level the playing field. A cross-pollination of knowledge between countries such as Australia and Canada and Indonesia can help them develop a regulatory framework.
Strengthen environmental protection: Nickel mining concessions on Halmahera have driven at least 3,331 hectares of deforestation, leading to a loss of 2.04 metric tons of greenhouse gases stored in the forest. Additionally, the dumping of mine waste and oil in freshwater is creating significant consequences for fishing and drinking water, undermining food security and creating health problems. This should be a joint effort between the Ministry of Energy and Mineral Resources, Ministry of Environment and Forestry, and Ministry of Agrarian Affairs and Spatial Planning.
Diversify investment partners: As Indonesia aims to further integrate into the international market, diversifying sources of investment is key. Indonesia has expressed interest in a critical minerals agreement (CMA) so it can access tax incentives from the Inflation Reduction Act. However, in the instance that a CMA is signed, any mines with over 25 percent Chinese ownership would be ineligible. As some Western countries seek to further limit Chinese firms from accessing any sort of incentives or benefits, Indonesia risks being excluded from future initiatives, undermining global integration.
Pursue policy stability: While Indonesia has made progress with reducing barriers to investment, waves of resource nationalism undermine investor confidence. The 2014 ban on bauxite was loosened a few years later; in 2020, the ban on raw nickel exports went into effect; and in 2023, a bauxite ore export ban was implemented. When combined with domestic ownership requirements against a backdrop of limited domestic technical expertise, the policy instability can deter investment, particularly greenfield investment.
Recommendations for the U.S. Government
Integrate internationally recognized ESG certification frameworks into trade agreements: As the United States and Indonesia pursue a potential trade agreement to incentivize investments, the United States should ensure that all commodities benefiting from taxpayer subsidies are responsibly sourced.
Invest in clean energy: Indonesia’s nickel industry is particularly carbon intensive because it runs on coal-fired power. While the United States is a major contributor to Indonesia’s Just Energy Partnership (JET-P), which provides financial support to meet clean energy transition goals, the $20 billion package only covers the power sector. It excludes coal-fired power plants used in nickel smelting, which is a significant source of emissions. Additional investments in renewable energy can strengthen its soft power while supporting emissions reductions and a cleaner nickel industry.
Leverage technical expertise: Through engagement with stakeholders, it has become clear that Western firms have better technical capabilities to explore deeper deposits compared to Chinese firms. The United States and its allies can develop a cooperation agreement with Indonesia to tap into deeper deposits in exchange for incentives, given the higher cost associated with deeper drilling.