* Monthly imports drop to 3 mln-4 mln bbls, from 5 mln-6 mln
* Diesel margins hit lowest in more than three years
* Demand seen dropping 8.5 pct to 455,000 bpd this year -Woodmac
* JBC Energy forecasts no recovery in demand until 2019-2020
By Jessica Jaganathan
SINGAPORE, Aug 20 (Reuters) - Previously ranked as Asia's top diesel importer, now No.3 Indonesia is expected to take a third less of the fuel this year as demand from mining falters and biodiesel use in transport and industry grows with a mandate implemented in January.
With the government also aiming for another hike in the country's heavily subsidised fuel prices to help cap a widening current account deficit, a recovery in demand is unlikely for at least the next couple of years by most estimates.
The drop in Indonesia's imports - which cover about a third of demand - will feed a growing Asian surplus and could pull diesel margins below a more than 3-1/2-year low hit in June. That's going to hurt suppliers in Singapore and South Korea, who are also seeing a similar drop from buyers across the region.
Asian economies are slowing and regional diesel demand has slumped, just as new refining capacity and upgrades swell supply of the fuel. China this year is set to post its first decline in diesel demand in more than a decade.
"We see a decline in diesel demand due to several factors - a slowdown in the mining sector, higher use of biodiesel and the (Indonesian) retail price hike made in 2013," said Suresh Sivanandam, an analyst at oil consultancy Wood Mackenzie.
In Indonesia, with elections over and a new president taking office in October, the incumbent government is trying to raise fuel prices again, a move that is expected to further reduce consumption.
Indonesia hiked its diesel prices by more than 20 percent in the middle of last year, bringing growth in domestic consumption of the fuel to a standstill for 2013, according to Woodmac and Vienna-based oil consultant JBC Energy.
Indonesia's diesel demand is expected to drop to 455,000 barrels per day (bpd) this year, from 497,000 bpd last year, before recovering slightly in 2015, Woodmac says.
With state-run Pertamina's oil refineries having the capacity to cover only about two-thirds of domestic demand, the slump in use will be felt mostly in imports.
Indonesia's imports of diesel have already slowed on average to 3 million-4 million barrels a month, down from 5 million-6 million barrels a month last year, according to diesel traders dealing with shipments of the fuel into the country.
That represents a fall of about 65,000 bpd, keeping Indonesia as the third largest among Asia's diesel importers.
Diesel is Asia's most widely consumed fuel, used in power generators, factories, trains and trucks. Given its broad applications, the product is often seen as a gauge of a country's industrial activity and economic health.
Prior to new mining rules that forced many miners to cut or halt output this year, diesel demand from the sector had already been fading since 2012 due to a drop in coal prices that curtailed mining activity.
Diesel is used in machines and for hauling ores, and when mining activity dwindles, demand falls.
Indonesia's mineral exports were down 27 percent in the first half of the year compared with a year ago, primarily due to the change in the mining laws.
"I don't think diesel demand is going to recover anytime soon," said a trader who supplies diesel to mining companies and does not expect an improvement in diesel use until 2017.
Asia's diesel margin - the profit made turning crude into the fuel - hit its lowest since late 2010 at $12.99 a barrel above Dubai crude at the end of June, Reuters data showed.
The margin was $15 a barrel on Tuesday, still below values seen over most of the past 3-1/2 years.
Even if the ore export issues are resolved, low prices for commodities such as coal and copper mean diesel demand from the sector is not likely to get much of a boost, said the trader dealing with the mining companies.
JBC Energy has Indonesia's diesel demand higher this year than Woodmac - at 482,000 bpd - but sees demand dropping off slowly before eking out a recovery in 2019-2020.
It will take that long for consumption patterns to adapt to a higher price environment, JBC said in an e-mail to Reuters.
"The substitution away from using diesel for power generation and industrial purposes will weigh down on demand," the consultancy also said.
Indonesia's new biodiesel mandate that went into effect this year is expected to pull down use of conventional diesel, even though the country is not likely to hit the ambitious biofuel targets set for 2014.
Southeast Asia's biggest producer of palm oil introduced in August a year ago the regulation boosting the use of palm-based biodiesel, in a move to cut its oil import bill. The regulation took effect at the beginning of this year.
"That will definitely cut down on import volumes as they won't need as much diesel," said a middle distillates trader who supplies diesel to the Indonesian market.
Editing by Tom Hogue