1 Modeling Power Plant Expansion in Java-Bali System: Evaluating Minimizing Cost and Minimizing CO 2 Emissions 1 Maxensius Tri Sambodo, Hozumi Morohosi, and Tatsuo Oyama National Graduate Institute for Policy Studies (GRIPS) Corresponding author: Tatsuo Oyama Senior Professor at National Graduate Institute for Policy Studies (GRIPS) 7-22-1 Roppongi, Minato-ku, Tokyo 106-8677, Japan Phone: 03-6439-6048, Fax: 03-6439-6070 Email: oyamat@grips.ac.jp 1. Introduction Since the economic crisis in 1997/98, the new installed capacity of PT Perusahaan Listrik Negara / the State Owned Electricity Company (PT.PLN) has showed decreasing rate of growth from about 10.4% before the crisis to about 2.1 % after the crisis (Sambodo and Oyama, 2010). Because of economic downturn, Indonesia had excess in electricity supply for more than 7,700 MW (EGAT, 1998 as cited in Soontornrangson et al., 2003). However, excess supply remained shortly due to gradual increase in electricity consumption as the economy has been recovered. On July 2008, power shortage could not be avoided and to minimize unnecessary black out on the power system, five ministries released a join regulation on shifting working hour for the industrial sector in Java- Bali area 2 . Following the Presidential Instruction No 1/2010 on the acceleration in implementation of national priority development (Percepatan Pelaksanaan Prioritas Pembangunan Nasional Tahun 2010), the energy sector is one of the top priority of the government programs. There are three out of four actions for the energy security program that are directly related to the electricity sector such as: (i) improving electricity supply; (ii) developing geothermal; (iii) promoting alternative energy other than geothermal such as photovoltaic, microhydro, conducting feasibility study on ocean, and socialization on nuclear power plant. Further, on June 2010, PT.PLN up dated the electricity business plan of power supply (Rencana Usaha Penyediaan Tenaga Listrik) between 2010 and 2019. This plan replaced the old one that was issued on December 2008. There are four reasons why PT.PLN needs to construct the new business plant (PT.PLN, 2010): (i) to fulfill growth of load; (ii) to minimize supply shortage; (iii) to increase reserve margin; and (iv) to introduce hydro and geothermal power into the power system. The business plan covers three major activities in electricity sector such as generating, transmission, and distribution. In developing generating system, PT. PLN aims to obtain the least cost principle, but PT. PLN also attempts to operate renewable energy such as geothermal and hydropower, even it has relatively high cost compare to other fossil fuel power plants. Although, carbon pricing is widely seen as the most efficient economic instrument to control CO 2 emissions (Resosudarmo et al., 2011), PT.PLN has not internalized cost of CO 2 emissions into the power plant expansion model. Shrestha and Marpaung (1999) suggested a very high carbon tax that is about US$100-US$200/ ton- carbon in their model. They found that a high carbon tax can improve the performance of the power system. Shrestha and Marpaung (1999) also pointed out that carbon tax can reduce emissions by 67.2% and 86% respectively comparing without carbon tax. On the other hand, Rachmatullah et al. (2007) proposed US$ 4/ton- carbon to reduce the CO 2 emissions by 15%. However, we argue that carbon tax policy politically is very difficult to implement because the Indonesian government still provides electricity subsidy and the amount has increased from about US$ 796.7 billion in 2005, to about US$ 5,976 billion in 2011 3 . Similarly with Resosudarmo et.al (2011) argued that distributional and political considerations make reforming energy price difficult to achieve. 1 This paper is prepared for the 3 rd International Association for Energy Economics (IAEE) Asian Conference, 20-22 February 2012, Kyoto, Japan, under the theme: Growing Energy Demand, Energy Security and the Environment in Asia. 2 Due to operation of 3 new power plants, on September 2010 government cancelled this regulation. 3 We assumed 1US$=Rp 9,000