Clearing the air: Moves to curb smoking are leading to further challenges for the tobacco industry

In Indonesia cigarettes are about much more than smoking. Like everywhere, the product is also about tax, revenue, business and health. It is relevant and important to many aspects of society and the economy. But in Indonesia, tobacco also has some fairly serious political and ultimately nationalistic aspects not often found elsewhere. Its sale and use cannot be discussed simply as a matter of what it means for the revenue department or the lungs of smokers. More complex matters, such as income distribution, social stability and the future of liberal economics in Indonesia must also be touched upon.

BIG MARKET: Tobacco has a long history in Indonesia. It has been grown there since at least the 17th century, possibly introduced by the Portuguese. In the 19th century cloves were added and kretek was invented. The product came and went in popularity – the original manufacturer of the cigarette went bankrupt after the Second World War – but kretek was revived in the 1970s by President Suharto.

Currently, Indonesia is the fourth-largest tobacco market in the world, with around a third of the population smoking (and 67% of males over the age of 15) and about 250bn sticks produced a year. The industry generates more than 1.5% of the GDP and approximately 6% of the government revenues through taxation. In 2011 the government raised about $7bn from excise taxes on cigarettes (and an estimated $8bn in 2012), though it only allocated about $3bn to the Ministry of Health, according to the Centre for Anti Smoking at Universitas Indonesia’s School of Public Health. The Statistics Bureau reports that cigarettes are the second-biggest household expenditure; Indonesians spend more only on rice.

CONCERNS: Critics charge that Indonesia is one of the least regulated cigarette markets in the world, and that a powerful industry lobby prevents any major moves against smoking. The country is one of the few that have not in any way ratified or acknowledged the World Health Organisation (WHO) Framework Convention on Tobacco Control, though some efforts have been made to curb smoking. President B.J. Habibie issued Government Regulation No. 81/1999, which permitted advertising only in print and outdoors. But under President Abdurrahman Wahid, Government Regulation No 38/2000 was passed, which allows for cigarette advertising on television from 9.30pm to 5am.

The biggest issue the anti-smoking lobby has with the industry is price. A pack of cigarettes currently costs between Rp5000 ($0.51) to Rp15,000 ($1.55), some of the lowest prices in the world. Single sticks can be purchased for $0.02 cents each. Low labour and input costs and efficient manufacturing partly explain the low prices, but low taxes are also important. Currently, the highest tobacco tax applied in the country is approximately 56%, lower than the WHO recommended level of 70%.

HIGHER TAXES: The government is raising the excise tax by 8.5% in 2013. It also raised it 15% in 2012, 5% in 2011 and 6% in 2010. More important is the way in which the increases are being implemented. Not all cigarette companies pay the same amount of excise tax, with the rate depending on how big they are: the larger, the higher the tax. But every year, as taxes are increased, one level is removed. In 2012, for example, there were six levels of tax on machine-made clove cigarettes, ranging from Rp235 ($0.023) a stick to Rp355 ($0.035) a stick. In 2013 there will be four levels, ranging from Rp245 ($0.024) to Rp375 ($0.037).

The government is making the tax structure flatter and more transparent. But some local companies are concerned that the collapsing of the bands will allow international brands to further expand their market share. With few tax rates, the smaller manufacturers will be less able to compete with the large multinationals, they argue.

As it stands now, the market is already quite consolidated. Hanjaya Mandala Sampoerna, 97.95% owned by Philip Morris International, has a 33.5% markets share. It became the market leader in 2006, a year after the global brand acquired a controlling stake in the company. Gudang Garam, a company founded in 1958, is the number-two brand, while Bentoel Internasional Investama, most of which was bought by British American Tobacco in 2005, is number three, followed by Djarum. In total, the top four brands in the country control about 75% of the market. As the tax rate flattens, companies that make up the other 25%, which includes hundreds of small makers, are likely to lose to the bigger companies, according to some market participants.

BIG TOBACCO: Philip Morris is the clear concern for the local brands. In the first half of 2012 the company’s market share in Indonesia jumped 3.1 percentage points. Before the international brand bought the local company, the latter had about a 20% market share, and a year later it had a 29% market share. The international giant brings resources to bear that the local firms simply cannot match, and it is likely to continue to take customers with only the large brands surviving, according to some local tobacco executives.

SOCIAL ISSUE: Domestic firms argue that maintaining a broad and diverse local industry is vitally important to the nation. The country not only manufactures cigarettes, but it also grows its own tobacco. Maintaining local production is about keeping people employed and maintaining a domestic value chain. The international brands may have the capital and the technology, but the local companies do the most for the Indonesian economy and people.

This seems to be a recurring theme in Indonesian manufacturing. The country has gone to great lengths to meet its Word Trade Organisation commitments and keep its markets open, and it finds that the result has been a hollowing out of some of the industrial capacity. And while what is lost may not have been the most efficient in the world, it did generate wages and dividends that were largely left within the economy. The desire for a measure of protectionism, especially when it favours small and medium-sized enterprises and poor individuals, is across the board and gaining momentum. More broadly, a measure of industrial policy and managed trade is being accepted, especially as Indonesia finds that most of its trading partners have their own industrial policies and practice managed trade.

ANTI-SMOKING: The long-term secular trends are, of course, worrying for the industry. While Indonesia may be one of the more permissive countries in terms of its tolerance for smoking, the anti-smoking lobby is getting more respect and may begin to influence politicians and people. In 2012 a rally was held to protest against World Tobacco Asia 2012, a trade fair that was also held in Indonesia in 2010. The protestors highlighted the close relationship between the government and the industry, and said the prevalence of smoking is bad for the country’s international image.

In May 2012 anti-smoking activists said they will be filing a class action suit against the industry and the government for their ineffectiveness against child smoking. They say advertising and low prices entice young people to try cigarettes, and hence develop addictions. The movement against child smoking in Indonesia has gained worldwide attention as smoking Indonesian children, some as young as two years of age, have been filmed and broadcast globally. Another concern on the part of anti-tobacco lobbyists is that there are very few women that smoke, about 5%, and that they may be the industry’s next target.

The government is working on new anti-smoking regulations, but it is facing stiff resistance from the industry. Even the farmers are speaking out against any additional regulation, regardless of how light they will be. In July 2012, 7000 of them rallied in front of the Ministry of Health to express their dissatisfaction with Tobacco Impact Control legislation.

THE LAW: The legislation, which was signed into law in December 2012 and will become effective over an 18-month period, is comprehensive. It calls for, among other things: graphic labels on cigarette packages that warn consumers of the health dangers of smoking; the end of the use of words such as light, mild, low-tar and slim; and the inclusion of text on the package saying that there is no “safe dose” for the product.

While the law still permits advertising, it is greatly restricted. The ads must not advise people to smoke, and billboards at sporting events are limited to 72 sq metres in size. The law exempts manufacturers producing fewer than 24m cigarettes a year and does not address the issue of single cigarette sales. The Tobacco Farmers Alliance is planning to challenge the law in court, arguing that it is unfair to farmers.

In the end, the tobacco issue is likely to take care of itself. Indonesia is becoming a wealthier and more educated place. While more money means that people will have more to spend on cigarettes, they are also likely to be better informed, and that could very well result in many Indonesians choosing not to smoke. On the one hand, a certain number will trade up but on the other hand, as the public becomes more educated, a large number will most certainly realise that smoking is dangerous to their long-term health.