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il and gas operators can no longer claim cost recovery expenses for gas delivery transmission pipelines and LNG terminals as a new cost recovery regulation will categorize these items as unrecoverable.

A new government regulation on oil and gas cost recovery management, currently being drafted, will switch some cost components from the upstream side to the downstream side, including spending on pipeline transmission systems and LNG terminals, Energy and Mineral Resources Ministry Purnomo Yusgiantoro said Saturday.

"We hope that this will decrease spending on cost recovery in our state budget," Purnomo said as quoted by the ministry's official website.

The so-called cost of recovery mechanism previously allowed certain funds spent by oil and gas contractors on upstream activities to be reimbursed by the government after the production phase began.

The objective of this measure was mainly to serve as an incentive to boost investment in the sector, so as to promote the replacement of aging oil wells with declining production, which required additional investment to procure new technology and equipment in order to retain or even increase production.

However, critics have long questioned the program's transparency and said that this is prone to abuse.

The government paid oil and gas contractors around US$9.35 billion under the scheme last year, up from $8.7 billion in 2007.

The government and the House of Representatives have agreed to cap cost recovery spending at $12 billion this year.

Although payment for cost of recovery has been increasing over the years, so have state revenues from the oil and gas industry.

In 2003, state revenues from oil and gas amounted to $ 10.845 billion while in 2008 the figure jumped to around $35.338 billion, rising by more than three times, according to ministry data.

The government has taken several measures to reduce the pressure of cost recovery spending on the state budget.

In June last year, the government issued a regulation scrapping 17 contracts containing the cost recovery mechanism.

However, upstream oil and gas regulator BPMigas said these new regulations would only save a limited amount of money.

"This will only reduce *annual* expenses by 1.8 percent," BPMigas chairman R. Priyono told reporters on Sept. 24 last year.

Both Minister Purnomo and Priyono have repeatedly said the government might delay paying part of oil and gas contractors 2008 spending, which is supposed to be reimbursed this year, to next year in a bid to anticipate and mitigate the growing state budget deficit.

Now, the energy and mineral resources ministry is formulating a government regulation to control cost recovery.

The switching of cost components from the upstream side to the downstream side will be stipulated in the regulation.

The regulation was supposed to be finished in January, but the government said it needed more time to synchronize this with other regulations, including taxation laws.

The government expects oil and gas contractors will spend more than $20 billion in investment this year, up from $19 billion in 2008, in the hope of boosting the country's production of oil and gas.

Oil and condensate daily production in 2008 averaged 967,778 barrels per day (bopd), or 99.96 percent of the 977,000 bopd target in the 2008 state budget, higher than the 2007 daily average of 954,400 bopd.

The production increase was the first, albeit minor increase, after a 10 years declining trend.

For 2009, the government targets oil production to reach 960,000 barrels of oil per day (bopd) which would be slightly lower than 2008.

For natural gas, the daily average production was 3.8 percent short of the 7.757 million standard cubic feet of gas per day (MMscfd) target, but still 2.4 percent higher than the actual daily production of 7.283 MMscfd achieved in 2007.