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UNCLAS SECTION 01 OF 03 JAKARTA 013387 
 
SIPDIS 
 
SENSITIVE 
SIPDIS 
 
Embassy Jakarta Medan Affairs Office # 36, 2006 
 
E.O. 12958: N/A 
TAGS: ECON EAGR ENRG ETRD ID
SUBJECT:  NORTH SUMATRA: A TALE OF TWO ECONOMIES 
 
¶1. (U) SUMMARY:  High prices for rubber and crude palm oil 
keep North Sumatra's agricultural sector resilient. 
Industry experts expect the trend to continue as demand for 
oleochemicals and cooking oil increase, and biodiesel 
production expands.  On the other hand, North Sumatra's 
manufacturing and construction sectors continue to suffer 
from increased energy costs, poor infrastructure, and weak 
government support.  Rolling blackouts are frequent because 
electricity generation cannot meet current needs, and future 
construction will lag growing demand.  Agriculture and 
agribusiness cannot supply enough jobs for North Sumatran 
youth, who might turn to criminality if no other 
opportunities exist.  END SUMMARY. 
 
The Best of Times 
----------------- 
 
¶2. (U) Increasing global demand for rubber and crude palm 
oil (CPO), leading to higher prices, is fueling expansion of 
the agricultural sector in Sumatra, especially for the two 
plantation-rich provinces of Riau and North Sumatra.  Both 
India's recent reduction in duties for cooking oil and 
China's liberalization of its market as required under its 
WTO commitments are expected to increase demand for 
Indonesian-produced cooking oil.  CPO producers also expect 
production of biodiesel from CPO will lead to even higher 
prices and steady demand for their product.  Futures for CPO 
show strong bullish sentiment, and international analysts 
are quoted in press reports indicating international demand 
should increase as a result of biodiesel production. 
Medan's Belawan plans to expand its facilities to handle 
additional CPO shipments. 
 
Palm Oil for the World 
---------------------- 
 
¶3. (U) Domba Mas is contracted to supply Proctor and Gamble 
with 200,000 tons of fatty acids per year manufactured from 
CPO and palm kernel oil (PKO).  Domba is currently expanding 
its refining capabilities and, with the expected completion 
of a second factory in late 2007 or early 2008, North 
Sumatra and Batam will produce the bulk of Indonesia's 
oleochemicals.  The volume of Indonesian oleochemical 
exports have rebounded from a slump in 2002-2003. 
 
¶4. (U) PT Data Consult, publisher of the monthly Indonesian 
Commercial Newsletter, reported in May 2006 that CPO-based 
cooking oil production increased from 4.3 million tons in 
2001 to nearly 6.5 million tons in 2005.  North Sumatra 
leads Indonesia in the number of factories manufacturing 
cooking oil from CPO.  According to Industry Ministry 
statistics, Sumatra produces over 60 percent of Indonesia's 
CPO-based cooking oil. 
 
And Biodiesel to Move It 
------------------------ 
 
¶5. (U) Pertamina introduced biodiesel to the domestic market 
in May at four filling stations near Jakarta, but the real 
effort to promote biodiesel is GOI's plan to use biodiesel 
for five percent of Indonesia's total energy needs.  The 
National Energy Management plan anticipates enough 
production capacity by 2010 to manufacture 800,000 tons per 
year of biodiesel.  Indonesian companies are quickly 
building plants to meet this demand, with two planned for 
Riau province and an expansion of a pilot program in North 
Sumatra slated to produce a total of 6,000 tons per year. 
 
¶6. (U) The Indonesian Oil Palm Research Institute in Medan 
uses biodiesel manufactured at the institute to power three 
of their vehicles.  Institute researchers told us that CPO- 
based biodiesel is emissions neutral compared with 
conventional diesel and creates little waste product.  Some 
of the residual materials, especially glycerin, can be used 
in cosmetics and pharmaceuticals - though a Norwegian 
engineer looking at this problem pointed out that the world 
market for these products is virtually saturated, so 
producers will be forced to compost or otherwise dispose of 
this waste.  Researchers told us the main focus of their 
studies is reducing the temperature at which biodiesel can 
effectively be used: biodiesel produced from palm oil using 
 
JAKARTA 00013387  002 OF 003 
 
 
current technology is not usable below 10 degrees 
centigrade, inhibiting export to markets in Europe and North 
America. 
 
¶7. (U) Derom Bangun, Chairman of the Indonesian Palm Oil 
Producers Association, is optimistic biodiesel production 
will generate sustained growth for his industry.  Although 
crude oil prices needed to be at least 65 - 70 USD per 
barrel for CPO-based biodiesel to be competitive, Bangun 
thought government subsidies could help in the short term. 
(Note: Pertamina currently pays 4,600 Indonesian Rupiah 
(approximately .50 USD) per liter of biodiesel, which it 
sells at a loss for 4,300 Rupiah.  End Note.)  For the 
longer term, he believed biodiesel could become an important 
component of world-wide energy needs, though he noted 
agricultural products -- such as rapeseed, corn, and castor 
-- were competitive with CPO as the base from which to make 
biodiesel.  However, because oil palm plantations and 
processing facilities are already well established, little 
additional employment opportunities will arise.  On many 
plantations, families live in plantation supplied housing 
and jobs are passed from parents to children. 
 
It Was the Worst of Times 
------------------------- 
 
¶8. (SBU) Following last year's reduction in fuel subsidies, 
North Sumatra's manufacturing sector slumped.  In addition 
to higher costs for energy and transportation, interest 
rates also remain high.  Factory owners report reductions in 
employee numbers and outright factory closings because of 
increased energy costs.  PT Kedaung Medan Industrial, a mid- 
size manufacturer of glass and tableware products with a 
sizable export market (including to WalMart), closed one of 
its four factories in Medan because of increased energy 
costs, laying off 1,000 people.  PT Effem Indonesia, a 
subsidiary of Mars Incorporated, recently closed its cocoa 
processing plant in Medan, laying off over 200 people. 
According to Effem's Commercial Manager, Suharji Gasali, 
processing that was formerly done in Indonesia will now be 
done in China. 
 
¶9. (SBU) One local businessman described the North Sumatran 
economy as the worst since the 1998 financial crisis.  He 
claimed 90 of 110 wood working plants had closed and the 
remaining 20 were struggling.  Advisor to North Sumatra's 
Governor Polin Pos Pos claimed decentralization impeded 
action at the provincial level, pushing control to the 
Regency level.  Regents, he noted, did not have the skills 
to improve local economic conditions, leaving Jakarta in 
control.  Jakarta, Pos Pos lamented, gave no direction, 
leaving provinces powerless to act. 
 
¶10. (U) Prominent Medan businessman Jonner Napitupulu said 
high interest rates have not directly hurt construction, but 
banks are reluctant to make loans because bank officials 
fear criminal prosecution if loans later become non- 
performing.  Construction sites in Medan experience a brief 
spurt of activity once funding is obtained, but projects 
drag on without completion.  Pos Pos noted that lower 
interest rates would be a necessary but not sufficient 
condition to spur economic growth. 
 
Basic Infrastructure Problems 
----------------------------- 
 
¶11. (SBU) In addition to increased energy costs, other 
factors -- lack of steady electricity supply, poor 
infrastructure, arbitrary taxation, stifling brreaucracy, 
and the prevalence of protection rackt s -- conspire against 
economic investment in North Sumatra.  Napitupulu reported 
local businessmen were looking overseas to invest rather 
than investing locally.  He did not think Indonesia should 
try to grow by attracting foreign investment, but should 
develop internally first. 
 
¶12. (U) Electricity production shortfalls particularly hurt 
manufacturers.  Even though most factories have generators 
for back-up power supply, the brief interruption in 
electricity can damage sensitive equipment and damage 
production runs.  At a recent meeting hosted by a visiting 
 
JAKARTA 00013387  003 OF 003 
 
 
team from the Indonesian Parliament, manufacturers took aim 
at PLN for failing to provide stable electrical power.  PLN 
plans to bring three additional power plants on-line in the 
coming years, but the increased capacity is unlikely to even 
meet expected growth in demand. 
 
Comment 
------- 
 
¶13. (U) Inflation and a weak employment picture have hurt 
the poor people in North Sumatra.  Inflation has reduced the 
purchasing power of people on fixed salaries, especially 
those earning minimum wage or just above minimum. 
Agriculture, the dominant industry in North Sumatra, props 
up the provincial economy, though it cannot provide the jobs 
needed to employ the growing labor force.  Without jobs for 
the young people of North Sumatra, many of them might turn 
to the so-called youth groups, prevalent in North Sumatra, 
that are responsible for protection rackets and other 
criminal activity, adding further to the woes of the 
manufacturers. 
Pascoe