Vice President Kamala Harris and Indonesian president Joko Widodo held preliminary talks in September to explore the potential for a critical mineral-specific free trade agreement (CMS-FTA) enabling the United States to import more Indonesian nickel for electric vehicle (EV) batteries. The deal would enable Indonesia to benefit from tax incentives for EV purchases established by the Inflation Reduction Act (IRA).
A potential threat to the deal has been raised by a bipartisan group of US senators who wrote a letter to US Trade Representative Katherine Tai and to Secretaries Janet Yellen (Treasury), Jennifer Granholm (Energy), and Gina Raimondo (Commerce), objecting to Indonesia’s performance on labor rights, the environment and governance, as well as Indonesia’s use of export bans and China’s extensive presence in Indonesia’s nickel industry.
These concerns should be placed in context—both in terms of how well Indonesia performs relative to other US FTA partners and the most likely alternate sources of supply, US FTA partners Australia and Canada. In preferencing other advanced economies over Indonesia for sourcing, the United States would push Indonesia even further into dependence on China and undermine its commitment to fair and just energy transitions. The United States should therefore open negotiations on a CMS-FTA with Indonesia.
The table below puts Indonesia’s assessed democratic, labor rights, and environmental performance according to prominent indices in context with those of other US FTA partners. The Liberal Democracy Index measures a country’s performance on voting rights, the freedom and fairness of elections, freedom of association and speech, civil liberties, and constraints on executive power. The Labor Rights Index combines information on de jure labor protections (freedom of association and rights to unionize) and how these rights are manifested in practice. The Ecosystem Vitality Index assesses “how well countries are preserving, protecting, and enhancing ecosystems and the services they provide.” All data are compiled by research centers associated with highly respected research universities. Scores have been normalized to a scale from zero to one, with higher scores indicating better performance.
|Indonesia’s political, labor rights, and ecosystem vitality scores in context, 2022|
|US FTA partner average||FTA partner interquartile range||Indonesia|
|Liberal Democracy Index||0.45||0.19 – 0.67||0.42|
|Labor Rights Index||0.57||0.47 – 0.66||0.42|
|Ecosystem Vitality Index||0.45||0.41 – 0.51||0.34|
|FTA = free trade agreement|
|Sources: Varieties of Democracy (V-Dem), Labor Rights Indicators, and Environmental Performance Index. Labor Rights Index scores for most recent year available (2020). Averages and interquartile ranges are for US comprehensive free trade agreement partners, so they do not include Japan, with which the United States has had a critical mineral-specific executive agreement since March 2023.|
According to these measures, Indonesia is about as democratic as the average US FTA partner, while its performance on labor rights and ecosystem vitality is relatively poor—below the 25th percentile. Indonesia still performs better than several US FTA partners on ecosystem vitality (El Salvador, Guatemala, Morocco, and Oman) and labor rights (Bahrain, Guatemala, and Honduras). A US-Indonesia CMS-FTA would not put the United States in business with a wholly different class of trade partner.
The letter from the senators points specifically to environmental issues related to Indonesia’s open-pit nickel mines. This criticism is fair, and a significant consideration. Indonesia’s mining sector is a driver of deforestation in Southeast Sulawesi province, one of its most heavily mined regions and home to diverse primate populations harmed by loss of habitat. But it is not clear mining is primarily responsible for land use change: Among the key drivers of primate habitat loss, factors like mining, oil and gas production/exploration, and road and rail construction combined contribute far less than agriculture and logging. Another challenge is the region’s seismic activity: Indonesia is part of the Ring of Fire, so the tailings ponds—and the dams that contain them and protect downstream communities—are at significant risk due to earthquakes.
The objections regarding Chinese involvement in Indonesia’s mineral sector and Indonesia’s use of export bans and controls have merit. Chinese firms are indeed heavily invested in Indonesia’s nickel sector through local subsidiaries or holding companies, accounting for 90 percent of investment in nickel smelting. A mineral-specific FTA could at once qualify Indonesian nickel products for the IRA’s tax incentives but immediately run afoul of the IRA’s “foreign entity of concern” (FEOC) clause.
The clause, embedded also in provisions of the Infrastructure Investment and Jobs and CHIPS and Science Acts, excludes from tax credits materials mined or processed by a firm “owned by, controlled by, or subject to the jurisdiction or direction of a government of a foreign country that is a covered nation.” Covered nations include North Korea, China, Russia, and Iran. China is the intended target because of its commanding position in EV supply chains. Depending on how strictly the FEOC clause is ultimately interpreted (guidance from the US Treasury is anticipated soon), US companies may find it difficult to source Indonesian nickel products given China’s extensive presence in the market, though South Korean firms are already involved in building out mining and smelting capacity. Writing off Indonesia as a potential partner because of Chinese presence would be counter to Secretary Yellen’s point, made earlier this November, that forcing countries in the Indo-Pacific to choose between China or the United States is counter to US interests.
Indonesia’s use of export bans is also a legitimate sticking point. In 2014 and again in 2020, Indonesia banned exports of nickel in order to force downstream investment in processing. At least in the short term, the bans have been effective in onshoring parts of the value chain responsible for large gains in value added, and the value of Indonesia’s nickel exports has surged. If the US-Japan CMS-FTA is a guide, any US-Indonesia agreement would likely require Indonesia to scrap the practice or at the very least agree to using less intrusive instruments, like export taxes, to achieve similar ends.
The Senate letter singles out Australia and Canada as viable, responsible alternatives for sourcing nickel. As a middle-income, archipelagic nation of nearly 280 million people, it might be more challenging for Indonesia to perform as well as its less populous advanced economy brethren with respect to governance and environmental outcomes. Australia and Canada appear to be scaling up nickel production, though virtually all the projects in Australia and Canada are open-pit as well. Most announced projects are in the early, prefeasibility/feasibility study stage and as such likely won’t begin production for several years or more. Whether Australia and Canada will be or are ready to meet US nickel demand in the next few years is an open question.
Choosing not to engage with Indonesia would have broader geopolitical and economic implications. First, it would heighten, not dilute, China’s influence in southeast Asian EV supply chains. The White House Indo-Pacific Strategy recognizes China’s ambition to create a sphere of influence in the region. Indonesians are not entirely sanguine about this—about half (and a majority of opposition voters) rank China and related concerns about China’s ambitions in the South China Sea as a critical threat to Indonesian interests. The United States and Indonesia have already formed a comprehensive strategy partnership that addresses development, environmental, and security-related topics.
A CMS-FTA would strengthen this relationship and ease Indonesia’s dependence on China as a source of financing and export market by making Indonesia a more attractive investment destination for US, European, Japanese, and Korean firms. Even if talks were not to end in a CMS-FTA, the United States would benefit from engagement and clarifying the stumbling blocks. These could be Chinese involvement in the sector, export bans, and/or environmental and labor challenges. Indonesian policymakers would at least have a chance to revisit these policies and have an economic and security incentive to do so. The demonstration effect for other developing and middle-income countries would be beneficial to US interests in building a broader network of partners among countries where China has been on the diplomatic and economic offensive.
Second, the expressed preference for Australian and Canadian sourcing sends ominous signals to the developing and middle-income countries that are crucial to combatting climate change: mitigation finance for the wealthy, (mostly) anglophone industrialized countries—not for thee. Recent talks covering loss and damage-related compensation for developing countries have gone nowhere, and the impasse is threatening to undermine work toward shared mitigation goals at the upcoming 2023 United Nations Climate Change Conference or Conference (COP28) meetings in Dubai.
The US senators who signed the bipartisan letter represent key battleground states, including Tammy Baldwin (D-WI), Sherrod Brown (D-OH), and John Fetterman (D-PA), as well as retiring Joe Manchin (D-WV). Moving into an election year, it will be risky to engage over their clear objections. Hopefully they will reconsider their position. If the United States is serious about the energy transition being a boon to human development at home and abroad, it should not foreclose opportunities for direct engagement with countries like Indonesia, complicated though that engagement may be.
1. V-Dem is hosted by the University of Gothenburg (Sweden), while the Labor Rights Indicators and Ecosystem Vitality Index are hosted by Pennsylvania State University and Yale University (USA), respectively.
This publication does not include a replication package.