Indonesia's EV drive faces geopolitical headwinds

Indonesia is determined to capitalize on the green industries of tomorrow, but its path to success is being complicated by the reemergence of industrial policy and economic protectionism.

The recent imposition of tariffs by the U.S. and European Union on electric vehicle exports from China is the latest sign of increasing geoeconomic fragmentation, especially when it comes to green technologies.

Emerging economies like Indonesia risk being collateral damage. Trying to become a global player in a new industry is difficult at the best of times. Doing so in an industry that has become a flagship of growing technology competition between major powers will be extremely challenging.

Indonesia now finds itself committed to an industrial strategy that will attempt to do just that. It aims to build a domestic EV supply chain while navigating the frictions of green technology competition, trade tensions and growing protectionism.

Indonesia has one of the largest domestic vehicle markets outside China, Europe and the U.S. While there is a huge upside potential for EVs, a globally competitive EV industry is still some way off. Incoming foreign investment, long-term policy commitment and favorable labor force demographics provide a foundation. But the new tariffs will have powerful implications.

Chinese firms will look to divert exports to other markets where they do not face such high barriers. Trade diversion will drive Chinese EVs into Indonesia's large domestic market at lower prices, crowding out other auto manufacturers.

Running counter to this, the incentive to diversify production out of China will grow. Some firms are already committing to production within Europe in response to the tariffs. Additional investments from China's EV companies into Indonesia are likely to follow. This will bring in some of the leading-edge technologies and business practices that the global EV industry has to offer, which will then circulate through the rest of the industry, raising productivity and competitiveness.

So Indonesia faces a double-edged sword. Cheaper EV imports from China could crowd out competition from other firms. But shifting supply chains out of China will spur the development of a more robust domestic EV ecosystem.

Indonesia's success will also depend a great deal on domestic policy settings and how these interact with changing external circumstances.

Uncertainty is the killer of innovation and risk-taking. A rapidly shifting external environment clearly raises the level of uncertainty. Industry stakeholders tell us uncertainty around domestic policies also remains high, despite the government's apparent policy commitment to developing a domestic EV industry.

The Indonesian government recently amended policies, extending tax exemptions and delaying local content requirement increases. This is reinforcing suspicions that further changes under the incoming administration of President-elect Prabowo Subianto are around the corner. Maintaining policy credibility will keep Indonesia as an attractive destination for foreign investment and encourage business expansion; firms require continuity to develop an industry.

A further problem will be the ability for Indonesia to secure its emerging EV industry from overzealous U.S. protectionism. Washington has expanded solar panel tariffs on China to include some Southeast Asian countries. With significant Chinese EV investments, it is not unreasonable that EV firms operating in Indonesia fear the same treatment.

So far, the U.S. has been resistant to overtures by the Indonesian government to sign a limited critical minerals agreement that would bypass local content requirements for Inflation Reduction Act subsidies. This signals a lack of backing in Washington, meaning Indonesia needs to build support through further engagement.

Another widely recognized constraint for these industries is that Indonesian workers lack the skills required for mineral processing and green manufacturing sectors. Addressing this gap will necessitate providing education and training opportunities to create a workforce with the requisite skills and knowledge to power Indonesia's EV ambitions.

Indonesia must focus on its domestic settings. Policy continuity combined with diplomatic and human capital investments will serve it well in the face of increasing external uncertainty. Building EVs in Indonesia still has potential, but the path is narrow.