The Conundrum of Subsidized Fertilizer

May 23, 2023

PSO is intended for Indonesia’s 25 million small-scale farmers (land size of less than 2 hectares). As of 2023, the government has made significant changes to the eligibility criteria for PSO, impacting several crucial aspects: the designated crops, types of fertilizers, and even the pricing structure...

Lasmuji, a small-scale farmer in Tuban, voices his concern over the scarcity of subsidized fertilizer (PSO). PSO is intended for Indonesia’s 25 million small-scale farmers (land size of less than 2 hectares). As of 2023, the government has made significant changes to the eligibility criteria for PSO, impacting several crucial aspects: the designated crops, types of fertilizers, and even the pricing structure. Under the Ministry of Agriculture Regulation 10/2022, only nine crops out of the original 72 now qualify for PSO, including staples like rice and corn, horticulture crops such as chili and onion, and plantation crops like coffee. Rubber farmers, for instance, no longer qualify for PSO, even though approximately 90% of rubber farmland is still cultivated by small-scale farmers.

Meanwhile, just two types of fertilizers, NPK and Urea, receive subsidies compared to the initial five. Furthermore, the government has increased the PSO price by 25% for urea, despite the fact that the PSO price has remained unchanged for the last decade. These adjustments may intensify the perception of scarcity among small-scale farmers.  Unfortunately, this regulation shift is understandable as it places a heavy burden on the Indonesia State Budget (APBN), where the price of fertilizer never returned to its pre-supply chain issue and pre-Ukraine conflict levels.

To understand the intricacies of this subsidized fertilizer shortage phenomenon (“pupuk langka”), it is prudent to revisit the economic principle of supply and demand. When considering the supply aspect, PT Pupuk Indonesia (PTPI), the exclusive PSO producer and distributor, supplied nearly 7.4 million metric tons (MT) in 2020. Calculations by Mandala Consulting, based on the PSO-eligible farmers’ total land area in 2020 (prior to the PSO designated crop reduction), estimated volume demand PSO is approximately 14.9 million MT. Moreover, if the demand estimation is from farmer data submissions, or RDKK, both PTPI and the Ministry of Agriculture (MOA) projected the PSO demand to be around 25 million MT. Regardless of the methods, a deficit between PSO supply and demand becomes evident.

Consequently, PSO-eligible farmers who are left unserved are driven to non-PSO options, albeit in reduced quantities due to the nearly two to threefold higher price of non-PSO compared to PSO. This shift clarifies the “pupuk mahal” phenomenon, which is compounded by the presence of corruption and mafia practices that also further inflate PSO prices, despite the government’s efforts to mandate a consistent price for PSO across all of Indonesia.

The subsequent logical step for the government supposedly involves boosting the supply of PSO. However, before jumping to this conclusion, a fundamental question should be posed: what is the primary objective or purpose of providing PSO? As seemingly straightforward, its resolution might demand more contemplation. Objectives underpinning PSO decisions can be diverse.

Nevertheless, there’s a way to distill these objectives into four overarching categories. The four categories are productivity, affordability, poverty alleviation, and food security. Each of these categories encapsulates economic, social, and national security considerations—criteria that ideally should guide governmental policy decision.

Firstly, if the government aims to bolster agricultural productivity, PSO might not be the most efficacious policy, as data suggests. Indonesia’s production of critical crops, such as rice and palm oil, has remained stagnant in recent years despite the gradual reduction in PSO volume. The statistical correlation between yield and PSO volume is marginal at best. Notably, President Jokowi also echoed a similar concern regarding the lack of substantial returns or improvements in production resulting from the subsidized fertilizer program. A compelling argument arises from a study in China spanning over 24 provinces, which concluded that reduced nitrogen fertilizer consumption did not impact yields. One possibility to increase productivity is reallocating subsidies from input-centric (PSO) to an output-centric approach that emphasizes quality. This shift could pave the way for transitioning fromself-sufficiency to export-oriented policies.

Secondly, if the government’s goal is to ensure fertilizer affordability, PSO comes with a caveat: it imposes a substantial financial burden on the APBN while yielding limited returns (as estimated ROI by FAO at 0.53x and IPB at 0.3x). Consequently, an alternative approach is making non-PSO more affordable. This endeavor comprises two stages: 1) optimizing the current non-PSO price within Indonesia, and 2) transferring the additional non-PSO costs across the value chain. There is ample room for cost optimization, particularly concerning gas, which constitutes 70% of production costs. Indonesia’s blended gas price sits at $6 per million British thermal units (MMBTU), compared to the global price of $3 MMBTU. Another workaround could involve reducing the margins of thick-value-chain players, such as middlemen, through higher floor purchase price from farmers and lower ceiling price policy at the end of the value chain.

If the government’s aim is to alleviate poverty, numerous studies and experts suggest that direct cash transfers might outperform subsidized fertilizer. The core argument is that PSO, with its long value chain, is more prone to leakages compared to direct cash transfers (BLT), which involve a shorter chain. President Jokowi’s recent attempt to shift toward relocating subsidized fertilizer to BLT further underscores these arguments

Lastly, the main culprit behind inadequate food security, such as rice reserves, is BULOG’s inability to procure staple crops from farmers. This ineptitude is primarily due to unattractive procurement prices compared to market rates. Addressing this shortcoming necessitates increasing funding for BULOG. An enhanced BULOG’s purchasing capabilities, enabling it to buy crops from farmers at competitive prices, akin to Thailand’s approach—a country that’s a leader in rice exports. Thailand’s government procurement price surpasses market rates by 30%. It has proven to swiftly increase production and food reserves.

Additionally, one objective that warrants mention is electorability. This particular objective is often subtly camouflaged into all four primary objectives. When objectives are contrived with the underlying intention of favoring electorability, it often discourages politicians and policymakers from making unpopular decisions, such as transitioning PSO budget into endeavors highlighted before that bring long-term gains.

Perhaps the government is cognizant of its true objectives and the limitations of continuing PSO subsidies. Nonetheless, it’s equally difficult to ignore that the concealed objective of electorability often stands as an impediment. Eliminating such impediments mandates substantial political capital, selflessness, and courage.

Author: Manggala Santosa (angga@mandalaconsulting.id)

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