Yes. There was some controversy about that.
But it was low-key and even time-delayed for a fait-accompli.
The government would have been restricted to make such a deal, and violated it in secret. The press found out anyway. 'Twas one-time-only', as they promised then until the next deal of that kind came along.
If it was in public debate, then at that time a parliamentary opposition would have made this an issue.
If it was in public debate, then at that time a critical press would have made this an issue.
Those were the times.
In this case already, a certain lack of transparency made this in part a 'non-issue' for the general public debate. Where it was discussed but without any focus on humanitarian issues.
Depending on the definition of "at the time" in the title question:
As we read in an article from 1978:
In all discretion and without referring the confidential matter to the rest of the cabinet, the Bonn Security Council approved last year alone the sale of
- two submarines to Indonesia, four speedboats to the sheikdom
— "Schlechtes Gewissen. In aller Stille hat die Bundesregierung die bisher geltenden Ausfuhrbeschränkungen für Waffen gelockert — und außenpolitischen Zündstoff geschaffen. 05.03.1978, Der Spiegel 10/1978 (A guilty conscience. Quietly, the German government has relaxed the previously applicable export restrictions on weapons — and created foreign policy dynamite.)
Meaning that public debate about this deal was kept very low.
In the year of the deal,
At the cabinet meeting on Wednesday of this week, Helmut Schmidt can prove how much a chancellor's word is worth.
"Once and never again," the head of government had promised last February, when the cabinet approved the sale of two submarines to Indonesia, contrary to previous practice, and even provided an export guarantee of 250 million marks for the arms deal.
— "Unter Verschluß. Das Wirtschaftsministerium will ein Rüstungsgeschäft mit einer südamerikanischen Militärregierung durch eine Bundesbürgschaft absichern lassen — Finanzminister Apel ist dagegen." 27.11.1977, Der Spiegel 49/1977 (Under lock and key. The Economics Ministry wants to have an arms deal with a South American military government secured by a federal guarantee — Finance Minister Apel is opposed.)
Once these deals became known to the public, most left leaning, pacifist and 'younger' actors in that play voiced their concerns and pleaded for general disarmament instead of enabling military escalation through delivery of hardware. Such arguments were as always countered with 'but the money' – of course communicated as "but the jobs in armament factories":
The reason was the government's approval of the export of two submarines to Indonesia. Hansen had seen the deal as a violation of the government's self-imposed ban on arms exports to areas of tension. Indonesia, however, is considered an area of tension because of its persecution of ethnic and religious minorities.
To make matters worse, the export deal to the financially troubled country had also been secured by a federal guarantee from the Finance Minister. If Indonesia cannot pay, the taxpayer will have to fill the gap.
— "Bonner Kulisse", Die Zeit, 12. August 1977.
Three SPD members of parliament from Schleswig-Holstein described their dilemma: They are in favor of restricting armaments and arms exports, but cannot be against arms contracts that fall to companies in their constituencies. After all, these contracts secure jobs for their constituents.
In recent decisions by the German government, there is an unmistakable tendency, in view of the one million unemployed, to secure jobs and create new ones, contrary to its previous practice, by relaxing restrictions on the export of weapons and armaments and increasing procurement projects for the Bundeswehr beyond what is necessary for security policy.
Hermes guarantees for the export of war weapons are subject to virtually no parliamentary control. For example, the SPD parliamentary group only learned about the granting of guarantees for submarine deliveries to Indonesia and Argentina from the press.
— Heide Simonis, Norbert Gansel und Horst Jungmann: "Wenn Panzer gebaut werden. Sichert der Export von Rüstungsgütern Arbeitsplätze?" (When tanks are built. Does the export of armaments secure jobs?), Die Zeit, 10. März 1978.
Notice that the government at the time was SPD and FDP coalition, a rather considered left-leaning outfit, with those three authors above criticizing these deals also being members of the SPD.
In timely manner, flanking support for this kind of deals came from academics in their 'analysis':
Therefore, the delivery of submarines to Indonesia, for example, is not illegal or contrary to the country's own guidelines, but is well within the normative framework: It is a permissible exception to the principle of not delivering war weapons to non-NATO countries.
— Helga Haftendorn (ed): "Verwaltete Aussenpolitik. Sicherheits- und entspannungspolitische Entscheidungsprozesse in Bonn" (Managed Foreign Policy. Security and détente policy decision-making processes in Bonn), Verlag Wissenschaft und Politik, 1978 (p 221, gBooks)
Moving away from debates as presented at the time, a later historical analysis describes the circumstances as follwos:
Due to the critical employment situation at German shipyards, the BMZ provided capital aid for the first time in 1976 to finance ship exports to developing countries, with a volume of DM 170 million. This was used primarily to support infrastructure projects, e.g. special ships. The above-mentioned one-off exception then also involved a warship delivery. Howaldtswerke-Deutsche Werft (HDW) had applied for a guarantee of around 250 million marks for the delivery of two submarines to Indonesia, and the export licenses themselves had already been issued. Despite serious misgivings, which related more to the country's difficult fiscal situation than to the first-time financial support for an export of war weapons to the Third World, the cabinet voted in favor of the application, with the exception of Hans Matthöfer, who was not to play the lonely voice in the wilderness for the last time. In this context, on February 2, 1977, the Federal Cabinet had decided in principle that no guarantees should be issued for purely German arms exports to non-NATO states. The exceptional decision taken there for a loan guarantee over five years was expressly not to have any precedent-setting effect. The specificity underscored the fact that such guarantees were rarely discussed in Cabinet.
This raised the question of why then an exception was granted at all. Because the shipyard, as part of the Salzgitter Group, was part of the federal assets and because of the poor employment situation, this could be viewed benevolently as a contribution to the optimal management of the federal assets. Job security took precedence over the other arguments. Perhaps the previous history also played a role, because ship deliveries to Indonesia had not come about until then; once, in February 1974, the Brandt government decided by consensus not to deliver submarines (450t), and on another occasion in 1975, after a positive vote, contract negotiations on the delivery of three to four corvettes failed. On the renewed request, there was agreement that, for security policy reasons, the leading power of the ASEAN pact states had to be strengthened and should not be treated differently from Pakistan, to which the Schmidt government was determined to supply such weapons.
Whereas the previous reviews had been conducted almost exclusively by the executive branch, parliamentarians were now trying to gain influence on the procedure. In the second half of the 1970s, both government factions had formed working groups that increasingly dealt with the issue and, since about the summer of 1977, had been in regular contact with representatives of the licensing bodies. After employment and arms exports had become increasingly linked – the granting of guarantees for the aforementioned submarine deal with Indonesia was a case in point – defense, economic and labor market experts from the SPD parliamentary group had founded the group with the aim of promoting civilian production within the arms sector so that arms production would not become an end in itself in terms of labor market policy. A joint working group emerged from these parliamentary group circles, which discussed political objectives and their expediency, formulated demands and submitted them in writing to the Chancellor in early July 1980. Specifically, their catalog included the publication of arms export statistics, information for a parliamentary control body, approval reservations for licensing in the Foreign Trade and Payments Act, and a ban on Germans participating in the production of war weapons abroad. The demands were identical to a paper by the SPD parliamentary group working group, which called on the federal government to take immediate action to restrict the export of licenses; for the other problem areas, the call was limited to an examination.
The numerous approvals for submarine deliveries to Latin American states, Pakistan and Indonesia and other ship deliveries had the character of precedents. Nevertheless, and because such precedents were not welcome, the Federal Foreign Office wisely deleted this statement from the joint submission to the Federal Security Council. Sometimes the world could be shaped as desired with the stroke of a pen.
— Dimitrios Gounaris: "Die Geschichte der sozialliberalen Rüstungsexportpolitik. Ein Instrument der deutschen Außenpolitik 1969–1982", Springer VS: Wiesbaden, 2019. (p 262, 270, 376. doi)
As is evident from this answer so far: the situation in Timor wasn't really on the radar at the time, and clearly not within the frame for this deal. Both of the two quoted magazines have zero mentions for this angle on "public knowledge" in articles from that time.
However, later in 1979 Spiegel has an article that criticizes arms deals with Indonesia in connection to conflict and human rights violations. But crucially it conveniently castigates Sweden for selling weapons into that conflict zone, and never mentions any German involvement.
We do not need to consult on Chomsky how this was in the public mind (from a US perspective), a caricature also nails it down:
— "Osttimor und Weltpolitik, von Marionetten und Geheimdiensten", SOA-Informationen, University of Heidelberg, 04/1985. (PDF)
Since these deals took a while in themselves and the repercussions were felt for another while after, there were occasionally a few blips of controversy to register in parliament. Example:
Q How does the German government reconcile to supply weapons to the Indonesian army, which is occupying foreign territory in violation of international law, against the background that the German government does not recognize Indonesia's annexation of East Timor either?
A To the knowledge of the German government, the Indonesian army is not using weapons manufactured in the Federal Republic of Germany in East Timor. The Indonesian patrols deployed in the impassable eastern part of the island for surveillance purposes are equipped with infantry weapons of non-German origin.
East Timor is regarded by Indonesia as a province and thus part of its own country. International visitors agree that considerable progress has been made in rebuilding East Timor.
— Antwort der Bundesregierung, Drucksache 10/5554, 27.05.86
auf die Kleine Anfrage der Abgeordneten Frau Eid und der Fraktion Die Grünen — Drucksache 10/5290 — Die Beziehungen der Bundesrepublik Deutschland zu den ASEAN-Staaten (II).
Der Bundesminister des Auswärtigen — 011 — 300.14 — hat mit Schreiben vom 23. Mai 1986 die Kleine Anfrage namens der Bundesregierung wie folgt beantwortet. (PDF)
So, in the heyday of a rising Green party, back when they stood for pacifist ideals, a small inquiry was struck down with nonchalant ease by the then conservative government, in 1986, for the ongoing arms deliveries. And by the way, the crucial point to observe here is the wording in the government's response: "patrols using infantry weapons of non-German origin". This is at the same time quite confident yet hard to ascertain at the time and also in direct conflict with publicly known earlier information:
As it was known from 1975 onwards that Indonesia manufactured exactly these German weapons under license but 'in house'.
More on that in:
— Hubert Leber: "Nichts besonderes. Bundesdeutsche Rüstungsexporte nach Israel in der sozialliberalen Ära (1969–1982)" (~Nothing out of the ordinary. West German weapons exports under the social-liberal government), Zeithistorische Forschungen Studies In Contemporary History, Heft 3/2019. PDF src
To summarize the situation, the biggest issues around 'the controversy' at the time were mainly about why agreeing to the deal, and more crucially, how to make the finances work. Foreign policy as such was secondary, humanitarian situation within the country or even region even further from the horizon. 'Military aid', credit-financed, to a financially struggling ally, who was non-NATO, yet received a guaranty for the deal.
In the cabinet, only one was against it; in the SPD parliamentary group, three were against it. With so little opposition, Social Democratic ministers and parliamentarians allowed a secret bill to pass last week that points to the end of Bonn's restraint in arms deals.
The first to benefit from the change of heart will be the military dictatorship of Indonesia, which will receive two submarines […]
Just how strong the reservations against this deal were, even in the ministries in charge (economics and finance), is clear from the cabinet bill itself. Not only do the authors doubt that the bankrupt island state, despite its oil revenues, will ever be able to pay off its high debts. They also explicitly point out that the generously credited arms deal would impair the "equality of opportunity" for civilian exports to Indonesia and would inevitably have a "precedent-setting effect" on other developing states. For what the German government generously grants in military aid here, it can hardly credibly deny to other countries.
– "Waffenexport: Schleusen geöffnet. Westdeutsche U-Boote nach Indonesien — gilt die Bonner Zurückhaltung bei Waffengeschäften nicht mehr?" (Arms exports: floodgates open. West German submarines to Indonesia - does Bonn's restraint in arms deals no longer apply?), Der Spiegel 8/1977, 13.02.1977.
The humanitarian reasons cited as grounds to oppose this deal or any of that kind were mainly voiced from then quite tiny groups like Gesellschaft für bedrohte Völker (Society for Threatened Peoples), who did send letters of protest to the government highlighting the human rights violations in Timor since 1975.
In short: economic considerations absolutely ruled the day. (— Till Florian Tömmel: "Bonn, Jakarta und der Kalte Krieg. Die Außenpolitik der Bundesrepublik Deutschland gegenüber Indonesien von 1952 bis 1973.
(Bonn, Jakarta, and the Cold War: West Germany’s Foreign Policy toward Indonesia from 1952 to 1973.)", *Schriftenreihe der Vierteljahrshefte für Zeitgeschichte, Vol 116, De Gruyter: Berlin, 2018. doi, p290)