Indonesia’s Budding Sharia Banking Sector

CEIC Indonesia Data Talk: Sharia-compliant banking (or Sharia banking) has grown increasingly popular in Indonesia over the years, rising as a viable alternative to the conventional banking sector. Sharia commercial banking assets grew by a compound annualised growth rate of 40.12% during 2008-2012 with total assets of IDR147 trillion as of December 2012. Sharia banking operates under the Islamic banking principals, which includes prohibition of interest and fees on loans, and of investments in sinful enterprises. As the home to the largest Muslim population, Indonesia presently sees no shortage of demand for Sharia banking. However, despite its rosy outlook, many of Indonesias banking ratios have sparked concerns about its viability as a credible player in the global Sharia banking scene. While the Capital Adequacy Ratio (CAR) stands at a manageable 14.72% as of May 2013, this pales in comparison to the corresponding 18.68% CAR observed for the overall commercial banking sector. More recently, Sharia banks have seen increasing non-performing loans (NPLs) of late with the average NPL ratio rising to 2.92% as of May 2013 compared to a low of 2.26% as of December 2012. This does not compare favourably to the NPL ratio of the overall Commercial Banking sector, which stood at a mere 1.95% as of May 2013; the NPL ratio for commercial banks has been on a general downward trend since peaking at 2.92% in May 2011. Poorer liquidity and solvency have largely been blamed on insufficient expertise and the additional obligation of selecting socially responsible investments (i.e. Sharia compliant loans) and managing banking risks and returns as of May 2013, Indonesias Sharia banks exhibited a 1.94% return on assets compared to 2.99% for the overall commercial banking sector. Indeed, despite a large consumer base, Indonesias Islamic banking sector remains relatively under-developed, in part due to its relatively smaller capitalisation. The Islamic banking sector assets constitute just 3.59% of total commercial banking assets. Furthermore, despite vast demand-led growth opportunities and the relative size of the economy, Indonesias Islamic banking sector remains smaller than its regional counterpart, Malaysia. With higher capital reserves and more aggressive state-backed expansion, its northern neighbour boasts a more developed Islamic banking sector; Malaysias total Sharia commercial banking assets of MYR373.28 billion (USD122.24 billion), as of December 2012, is approximately eight times as large as that of Indonesias. Notwithstanding these shortcomings, Indonesias Sharia banks remain a relevant market player, at least in its domestic banking sector. While (as mentioned) Islamic commercial banking assets constituted just 3.59% of the total as of May 2013, these banks have come a long way since 2006 when Islamic commercial banking assets constituted little more than 1% of total commercial banking assets. However, the State may be required to play a more active role in the sector if it wants a more prominent position in the global Islamic finance arena. Discuss this post and many other topics in our LinkedIn Group (you must be a LinkedIn member to participate). Request a Free Trial Subscription. By W. Meytha - CEIC Analyst Back to Blog
25th July 2013 Indonesia’s Budding Sharia Banking Sector

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