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Indonesia: Bankable
again?
By Ng Boon Yian
SINGAPORE - Years after being battered by
the financial crisis, the Indonesian banking
sector seems to have picked itself up again,
luring more foreign investors to take up stakes in
local banks. Just recently, Khazanah Nasional Bhd,
Malaysia's state-owned investment arm, decided to
acquire a controlling 52.05% interest in
Indonesia's PT Bank Lippo, paying US$325-340
million for it. This came only two days after
Singapore's United Overseas Bank Ltd announced
that it would pay about $168.7 million to raise
its stake in PT Bank Buana by 30% to 53%.
The growing optimism about the Indonesian
banking sector is not surprising, given some
positive developments in recent years. Khazanah
justified its acquisition by reportedly pointing
to the "strong underlying fundamentals" of the
system. Such optimism should, however, remain
guarded as the picture of the Indonesian banking
sector is still a mixed one. But first, the good
news. After massive recapitalization and
restructuring efforts, Indonesian banks - which
were brought down by corruption, imprudent lending
and excessive bad loans in 1998 - are certainly in
better shape today. A wave of consolidation and
divestment has pared down the overcrowded banking
sector from 222 banks in 1997 to 132 today. Bank
operations also improved after global consultants
were hired to help upgrade risk management and
corporate governance.
In balance sheet
terms, the picture has also become more
encouraging. Non-performing loans are down to
about 6% of the total credit, according to
official statistics. In addition, the capital
adequacy ratio has been hovering at an impressive
20%, well above the Basel requirement of 8%. To
boost growth, the banks have been increasingly
focused on lending to consumers and SMEs (small
and medium enterprises) over the past two years.
In the regulatory realm, the Indonesian
authorities have been making the right policy
moves as well - at least on paper. Starting in
September, for instance, Indonesia will score a
first in the region by implementing a deposit
insurance scheme and doing away with the prior
blanket deposit guarantee. Under this new
arrangement, the Indonesian government will insure
just up to 5 billion rupiah (US$513,315) of
deposits, a move expected to help reduce moral
hazard and discourage excessive risk-taking in the
system.
Indonesia is also in the process
of setting up a credit bureau with information on
about 1 million borrowers, which will help to
enhance credit risk assessment by banks. Giving a
further fillip to foreign investors' hopes is the
improving macroeconomic situation in the country.
Growth is expected to cruise along at 6% this
year, buoyed by rising investment and exports. Not
only does this produce a conducive environment for
banks to grow, the slew of infrastructure projects
in the pipeline provides further lending
opportunities down the road.
The rosy
scenario notwithstanding, scratch the surface and
it becomes apparent that the Indonesian banking
sector is still laden with many structural
challenges. While some promising reforms have been
undertaken, the full recovery of banks back to
robust financial and operational health cannot be
conducted in isolation from wider changes. For
one, the extent of banking reform success depends
crucially on the progress of Indonesia's war on
corruption. Although President Susilo Bambang
Yudhoyono has evinced determination to fight the
socioeconomic plague, that has yet to be
translated into broad results.
The various
cases of bank fraud during the past year,
including the replacement of the head of Bank
Mandiri - the country's largest bank - in the wake
of a lending scandal this May are a case in point.
It shows the road to cleaning up the sector will
be a long one before local banks can meet
international standards. To do so, there must be a
strong reform mindset that pervades beyond the
president and extends across later
administrations.
In this regard, Bank
Indonesia's regulatory authority has definitely
been bolstered by its legal independence from
political interference. However, as a World Bank
report pointed out, in practice, the central bank
is sometimes seen to have less authority over the
state-owned banks than private banks. This is a
serious challenge as state-owned banks still form
some 35% of Indonesia's banking system. A positive
sign, however, is that the Indonesian government
has recently started to sell minority stakes in
state-owned banks. Further privatization will
bring in the market discipline needed to enhance
the banks' operational standards.
Even in
terms of financial restructuring, Indonesian banks
still have some way to go before regaining their
full financial health. While the banks enjoy a
high capital adequacy ratio, much of their capital
came from the government recapitalization bonds,
which generally form about one-third of the banks'
balance sheets. While these government securities
do provide a passive source of income for banks,
they also pose interest rate risks as most of them
are fixed-rate instruments. Meanwhile, the fact
that the bonds form such a substantial part of
bank assets means that less loans have been made.
As such, the loan-to-deposit ratio of banks is
still low at about 40-50%, compared with the
normal 80-90% seen during the pre-crisis days.
While the good news is that growing
investment in Indonesia means greater
opportunities for banks to provide long-term
financing and boost loan growth, the catch is that
their hands are tied by the lack of long-term
funds at their disposal to do so. Nearly all bank
deposits in Indonesia are three months or less in
maturity. Little surprise, therefore, that most
Indonesian banks are now only providing short-term
loans of between three to six months in order to
avoid maturity mismatch.
Besides, most
banks in Indonesia remain risk-averse, especially
in terms of lending to the corporate sector, the
culprit which brought them down during the
financial crisis. Indeed, whether it is to tap
upon the growth potential in investment financing
or consumer lending, Indonesian banks need to
seriously beef up their risk assessment and
management capabilities. That, in turn, depends
crucially upon human expertise and sophisticated
technology, which Indonesia still sorely lacks.
In this regard, the entry of foreign
investors, which also include Deutsche Bank,
Standard Chartered as well as Singaporean and
Malaysian investment funds, is good news as they
can help to accelerate reforms in risk management,
corporate governance and competitiveness. In
return, the foreign players can tap the attractive
growth opportunities in Indonesia. After all, only
about 20% of its population have saving accounts
today. The Islamic banking market is another
potential growth area, as Islamic banking products
account for just 2% of the system's assets,
compared to 10.5% in Malaysia.
Still,
Indonesia remains a notoriously volatile market.
Susilo Bambang Yudhoyono's presidency has ushered
in some measure of stability, and this is
therefore an opportune time for foreign investors
to enter the market. But such optimism should be
guarded, as the positive developments can be
easily overturned by structural woes such as
corruption and weak corporate governance. Building
sound balance sheets and a robust credit culture
cannot be done overnight: it will be some time yet
before Indonesian banks can stand fully on their
own feet.
Ng Boon Yian is a
research associate at the Institute of Southeast
Asia Studies, Singapore. The views expressed here
are her own, not the institute's.
(Copyright 2005 Asia Times Online Ltd. All
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