How is Indonesia expanding banking penetration?


Indonesia’s banking sector is large and crowded, with more than 1600 licensed commercial and rural banks. However, there remains plenty of untapped potential, given that the country has the fourth-largest-unbanked population worldwide. Indonesia is behind only China, India and Pakistan in terms of the number of people yet to access formal financial services, having 83.1m people without a bank account as of November 2019. Policymakers want both the number of banks and the unbanked population to shrink. As more Indonesians join the formal financial sector, it is expected that the sector will be consolidated, thanks to increased foreign investment and bank mergers. Regulators have been relaxing rules in hopes of attracting foreign entities that are keen to buy banks and create bigger players in the process.

Growth Trends

While the sector is expected to face headwinds related to the Covid-19 pandemic in 2020, longer-term outlooks are positive as the sector’s fundamentals are strong. According to S&P, the capital adequacy ratio was at 22.6% as of June 2019, well above the 8% standard suggested in the Basel III banking guidelines published after the 2007-08 global financial crisis. The country’s overall growth story has helped its banks maintain faster levels of growth than most in South-east Asia. Net interest margins, for instance, are consistently higher in Indonesia, at around 5-6%, compared to roughly 1.5-3.6% in Thailand, Malaysia and the Philippines.

The next catalyst for growth in Indonesia’s banking sector is set to be financial technology (fintech), with fintech start-ups and companies quickly gaining ground in the market, offering a number of new opportunities for innovation and expansion. “Digital banking gets a lot of attention in the boardroom these days,” David Wake, lead adviser of financial services at PwC Indonesia, told OBG. “There is a lot of talk about how to use digital channels, both on the front end and the back end, to gain market share and reduce cost.”

Structure & Oversight

Two state bodies share responsibility for regulating the banking sector: the Financial Services Authority (OJK) and Bank Indonesia (BI), the central bank. The former was created as a response to the 1997-98 Asian financial crisis in order to ease the burden of the latter body. The OJK is now the regulator for most banks and non-bank financial companies, as well as for capital markets and insurers. The country’s approximately 60,000 microfinance companies, however, are still supervised by BI. The chairman of the OJK is Wimboh Santoso, whose term expires in 2022. The central bank also retains authority over payment systems. The five-year term of BI’s governor, Perry Warjiyo, commenced in 2018. Deposit insurance is provided by the Indonesia Deposit Insurance Corporation.

Licensed financial services providers in Indonesia are categorised in several ways for oversight purposes. Commercial banks are distinct from rural banks because the latter do not have direct access to the national payments system. As of September 2019 there were 110 commercial banks and 1578 rural banks, down from 115 and 1598, respectively, a year before. Another distinction is conventional banks and Islamic banks. The latter are compliant with Islam’s sharia law, which forbids charging or collecting interest. The authorities have established a list of systemically important banks that are required to hold extra reserves to ensure system stability, but it does not publicly disclose what banks are on the list.

As part of its mandate to ensure financial stability, BI ranks banks according to the amount of core capital they have accumulated. The biggest tier of general commercial banks (BUKU) contains those with core capital above Rp30trn ($2.1bn), or BUKU 4. BUKU 3 banks have Rp5trn ($352.5m) to Rp30trn ($2.1bn). BUKU 2 is for those in the Rp1trn ($70.5m) to Rp5trn ($352.5m) range, and BUKU 1 is for those below this range. Most banks in BUKU 4 are state-owned, and typically achieved their size through forced consolidation by the central bank in the wake of the 1997-98 Asian financial crisis. Bank Mandiri, for example, is the second largest by assets, and was an amalgam of four state lenders in what was one of the largest recapitalisations of a bank in Asia at the time.

At Rp1200trn ($84.6bn) in assets as of August 2019, Bank Mandiri is slightly smaller than Bank Rakyat Indonesia, the lender with the largest assets total, at Rp1300trn ($91.7bn). Bank of Central Asia came in third, at Rp870.5trn ($61.4bn) and Bank Negara Indonesia was fourth at Rp843.2trn ($59.4bn). Rounding out the top 10 were banks with assets ranging from about Rp200trn ($14.2bn) to Rp300trn ($21.2bn). Total assets in the system stood at Rp8463trn ($596.6bn) as of September 2019, up 7.1% compared to a year before. Commercial banks accounted for 98.2% of the system’s total assets.

The big four account for about 50% of assets, a level of concentration that is in line with the average of the Asia-Pacific region. Greater levels of concentration are seen in Australia, Hong Kong, Singapore and Thailand, for example, while other markets, such as Taiwan, mainland China and Japan, are notably less concentrated. Indonesia’s closest peers in the region in terms of concentration in 2018 were Malaysia, where the top-four banks accounted for 51% of assets, and the Philippines, where the total was 50%, according to consultancy firm McKinsey & Company’s “Asia-Pacific Banking Review 2019” report.

The biggest foreign lender is Standard Chartered Bank, which is headquartered in the UK but makes most of its profits in Asian markets. In December 2019 it sold a 90% stake in another major bank, Bank Permata, to Thailand’s Bangkok Bank, which had been operating on a small scale in Indonesia since 1972, for $2.7bn. Bank Danamon is another major institution owned by a foreign investor – MUFG Bank, the biggest Japanese bank, which in 2019 gained a controlling stake in the lender and merged it with another MUFGowned lender in the country. Consolidations like these are likely to have become easier since the authorities have since relaxed some of the rules that constrained previously dealmakers. In recent years countries that already have significant flows of foreign direct investment (FDI) into Indonesia in other sectors have led consolidation in the banking sector (see analysis).

Islamic Finance

In 2019 the market share of Islamic finance stood at 8.7%, according to the OJK. The government would like to see that figure surpass 20%, and has mandated that banks convert their Islamic units to standalone subsidiaries by 2023. To facilitate this transition, these subsidiaries will be allowed to use the underlying back-office functions of their parent companies in order to avoid duplicating costs.

Reforms to boost the market share of sharia banks are also emerging at the sub-sovereign level. In the Sumatran province of Aceh, banks have been told that all services on offer must be sharia compliant by 2021. This move is expected to lead to Rp28.2trn ($2bn) of new banking assets as customers from conventional lenders move their accounts to Islamic lenders. Elsewhere, provincial governments may convert banks they own into Islamic banks, following the lead of Bank NTB of the province of West Nusa Tenggara, which made such a change in 2018.


The third-quarter results for 2019 demonstrated that the banking sector’s operating environment was positive and profitable. For instance, Bank Rakyat Indonesia reported a 26% surge in net profits and announced plans for $300m in bond issuance in 2020. Bank Central Asia, meanwhile, said increased business lending drove its 13% rise in net profits in the first nine months of 2019. It reported an operating expense ratio of 63%, the lowest among the major lenders. Bank Mandiri’s third-quarter results were led by an 11.9% increase in net income and credit expansion of 7.8%. For the big four banks, earnings in 2020 were expected to jump by 15-20%, according to UOB KayHian, a Singapore-based brokerage firm. However, this projection was made in September 2019, and it remains to be seen how the Covid-19 pandemic will affect banks’ earnings.

The year 2019 was one of reversals in terms of lending rates. Four successive rate cuts from BI lowered the benchmark lending rate to 5%. In 2018 the focus had been on rate hikes, as the central bank sought to ward off external pressure on the currency brought about by global macroeconomic conditions – particularly US-China trade tensions. It had hiked rates by a total of 1.75% in 2018, and eased these rates by 1% in 2019. BI has indicated that Indonesia may now have entered a “new norm” of historically low inflation, creating space for further rate cuts. Full-year inflation was recorded at 2.7% in 2019, the lowest rate in two decades. However, loan growth slowed in the first quarter of 2020 as the effects of the Covid-19 pandemic took hold.

A central issue in 2020 will be the linkage between BI’s benchmark rate and the rates that borrowers pay in credit markets. In 2018 BI’s rate hikes, which are typically meant to curtail lending, were combined with moves to encourage lending, such as loosening macroprudential ratios, according to the IMF. That led to a scenario in which lending rates fell, despite the hikes to the benchmark rate.

Although net interest margins remain high in Indonesia in comparison to the rest of the region, the average was once in double digits. Banks have responded to the decline by slashing deposit rates and shifting to higher-margin products.

Credit & Loans

A double-digit pace of credit growth is one of the reasons foreign banks are attracted to the market, even though it has slowed at times in recent years. This was the case in 2019, when credit growth decelerated to 6.1%. While the OJK projected in January 2020 that the rate would increase to 10-12% by the end of the year, it is expected that the realised figure may be lower, as there will be weakened demand for credit due to the Covid-19 pandemic. Even so, there are opportunities for lenders. “In the past, financing companies could always give out new loans to the same customers, but this isn’t the case anymore, due to tight competition,” Siswadi, president director of digital credit firm ACC Kredit Mobil, told OBG.

Investment loans stood out as an area of high demand, with a year-on-year growth rate of 14.6% in the second quarter of the year. Working capital and consumption lending were both below 10%, according to the Institute for Economic and Social Research, a University of Indonesia think tank.

Non-performing assets across the whole banking system ticked up from 2.4% in 2018 to an estimated 2.6% in 2019, according to Standard & Poor’s (S&P), which forecast a level of 2.7% for 2020. This was before the Covid-19 pandemic, however, and by February 2020 non-performing loans (NPLs) measured in at 2.8%. According to the OJK’s prudential guidelines, any ratio of NPLs below 5% is acceptable. Ratios in key lending segments remained well below that line in recent years – NPLs for the construction sector were at 3.8% as of the second quarter of 2019, and at 3% for manufacturing and industry.

Wholesale and retail trade loans were at 3.8% in the second quarter of 2019. This looms as a possible spot for credit contraction when full-year figures are available, as car sales were down 12% in the first nine months of 2019. Vehicle financing is a lending segment in which non-bank financial institutions play a larger role, and slower growth in vehicle sales could intensify competition for customers and lead to lower rates as a result. Another factor beyond demand for such loans comes from the supply side – the question of whether non-bank financial institutions can continue to access capital. These are typically reliant on conventional banks as the primary source of their own capital, and there could be increased wariness to lend to them after a 2018 incident in which a leasing company went bankrupt amid fraud allegations.

Providing loans for infrastructure projects is an area where banks have thus far been cautious, and the country’s infrastructure gap has long been a key obstacle to faster economic and social development. The authorities have encouraged more lending for infrastructure development, but also realise that the needs in this area go beyond what government capital and bank capital expenditure can provide, and are therefore seeking FDI through public-private partnerships. The government is also encouraging a greater focus from lenders on small and medium-sized enterprises, which could lead to greater access to credit for this important segment in 2020.

Implementation Reforms

The government has taken several steps to increase lending. For instance, in April 2020 BI cut banks’ reserve requirement ratio to release an additional Rp117.8trn ($8.3bn) into the banking system that could be used for lending in response to the Covid-19 pandemic. Other recent changes include shrinking the minimum down payment required to finance a vehicle or secure a mortgage on a second home. Mortgages on primary residences without a down payment have been available since July 2018. Additionally, the central bank changed the regulations for its macroprudential intermediation ratio by allowing short-term loans on a bank’s balance sheet to be classified as deposits, which in turn enables more lending without exceeding the ratio. Banks are expected to maintain macroprudential intermediation ratios at between 84% and 94%, and those that do not may be asked to increase the size of their reserves held by BI. The change in the rule was expected to reduce the number of banks that have a macroprudential intermediation ratio of 94% or higher from 42, as of September 2019, to 36.


In April 2020 ratings agency Moody’s downgraded the outlook of Indonesia’s banking system to negative, along with those in 11 other Asia-Pacific countries, as it became clear that the economic slowdown stemming from the Covid-19 pandemic would have a significant impact on banks as NPLs rise, demand for credit falls and interest rate cuts weakens profitability. The outlook highlighted that the disruption would strain banks’ operating environments and loan performances. “If disruptions from the Covid-19 outbreak extend beyond the first half of [2020], the credit impact on banks could be significant,” Moody’s noted in its announcement of the downgrade.

Even so, banks moved to offer relief to customers affected by the crisis, with most banks offering loan restructuring programmes as of the beginning of April 2020. This came after the OJK issued a regulation in March of that year instructing financial institutions to provide relief, whether through lowered interest rates, extended repayment periods, reduced principal and interest arrears, the addition of debt or financing facilities, or the conversion of debt or financing into temporary equity participation. The value of restructured debt in state banks alone reached Rp28.7trn ($2bn) as of April 9, with Rp14.9trn ($1.1bn) restructured by Bank Rakyat Indonesia, Rp6.9trn ($486.5m) restructured by Bank Negara Indonesia, Rp4.1trn ($289.1m) by Bank Mandiri and Rp2.8trn ($197.4m) by Bank Tabungan Negara. Even with the restructuring, however, Indonesian banks have sufficient liquidity, as the 12 largest institutions had liquidity coverage ratios of 180% at the end of 2019, according to Fitch.

Financial Inclusion

According to BI, as of 2019 there were around 83.1m unbanked Indonesians and 62.9m unbanked micro-, small and medium-sized enterprises. Microcredit has traditionally been considered a promising solution to this challenge in many countries, but the fact that most of the unbanked are dispersed across the archipelago’s many islands, often in remote spots far from bank branches or microcredit agent networks, makes this difficult. For this reason, the authorities believe that digital solutions will be essential for boosting financial inclusion. Furthermore, fintech will be able to build upon Indonesia’s strong digital foundations – Indonesians are enthusiastic users of smartphones, and the fast-growing internet economy is the biggest in the region (see ICT chapter).

The first popular fintech products were ride-hailing apps, food delivery services and e-commerce platforms. Growth is spreading now to financial services. Peer-to-peer lending platforms in particular are popular and could help fulfil the authorities’ long-term objectives for financial services by bringing unbanked Indonesians into the system. These companies offer a product similar to microcredit in terms of ticket sizes and terms, and the segment’s growth has been notable in the past several years. Concerns about reckless lending and unscrupulous collection techniques have left regulators determined to avoid an overheated market in a way that does not constrain emerging players and stifle innovation (see Fintech chapter). “With fintech expanding rapidly, all companies in the sector need to adapt to provide more protection to customers and investors,’’ Vishal Tulsian, president director of Amar Bank, told OBG.

A number of banks have recognised that fintech can be used to improve their own operations. Banks are spending at least Rp1trn ($70.5m) annually on IT investments, both for consumer-facing products, such as online banking, which generate fee income, and for back-office functions to make operations more efficient However, so far the biggest banks have been primarily responsible for this investment.


It is likely in the short term the Covid-19 pandemic will continue to weigh on the performance of the banking sector, and it may even accelerate the consolidation trend. Even so, fee-based income could prove to be a source of profit during the crisis. Digital banking is a potential catalyst for this change. The benefits of going digital are clear, but the capital that is required to implement fintech solutions may prohibit some mid-tier lenders from doing so. This trend may in time be another reason to sell or merge operations. In terms of boosting financial inclusion, fintech advancements will likely see Indonesia’s banked population and the number of businesses that are included in the formal banking sector expand.

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The Report: Indonesia 2020

Banking chapter from The Report: Indonesia 2020

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