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Indonesia struggles to capitalize on its oil

OPEC's only Asian member, it has failed to meet its production quota and is quitting the cartel this year.

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As long as foreign oil companies, big and small, see risk and uncertainty around every corner, analysts warn that Indonesia will struggle to pump more oil, even with the lure of sky-high crude prices. Indeed, these prices may persuade local authorities, whose land and cooperation is required for new oil facilities, to attempt to extract a greater share of revenues.

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"In the oil and gas sector, there is risk for both Western and Asian and Chinese [investors]," says Kuturbi, director of the Center for Petroleum and Energy Economics Studies in Jakarta, who goes by one name. He predicts global crude prices will average $175 a barrel in 2008.

Indonesia does have some cards to play in the energy game. It has major natural-gas reserves that are processed into transportable liquids and exported. A new $5 billion BP-operated facility in West Papua Province is due to begin production this year, with buyers lined up in South Korea, China, and the US. Indonesia is also the world's biggest exporter of coal, which fuels power stations across Asia.

While that makes Indonesia a net energy exporter, its economy is feeling the pain from global crude prices. In May, President Susilo Bambang Yudhoyono cut fuel subsidies by 29 percent, a move that provoked scattered protests but left gas prices at about $2.50 a gallon, still cheaper than prevailing market rates. Most politicians are reluctant to raise prices further ahead of national elections next year.

Fuel hikes in 2005 led to a dip in domestic consumption, and analysts say there may be similar gains this time, though not enough to reverse Indonesia's position as a net oil importer. Without a significant upturn in exploration, this position may worsen, as over 70 percent of current crude production comes from aging fields that are in decline, according to the Indonesian Petroleum Association. Its data shows that oil exploration hit a 35-year low in 2004.

The only significant new oil field in development – Cepu, an onshore bloc in East Java – was held up for several years by contract disputes between US major ExxonMobil and Pertamina, the state oil company that is the joint operator. The project, which is due to start producing next year, became a symbol of the difficulty of doing business in Indonesia. Pertamina and ExxonMobil fought long and hard over revenue-sharing and control of the project, which was hailed in 2001 as a major find that would revive the country's flagging crude production. It also contains large natural-gas deposits.

A deal was finally reached in 2006 after Mr. Yudhoyono intervened, but analysts say friction between the two remains a concern and the dispute sent a negative signal to potential investors. ExxonMobil failed to respond to requests for an interview with its executives in Jakarta.