Sharia banking will need ‘a long time’ to take off in Indonesia

Bold ideas, such as converting a major state-owned bank into a sharia lender or pushing for more sharia finance in the housing market, could accelerate the process, analysts argue.

Aditya Hadi

Aditya Hadi

The Jakarta Post


A Bank Mandiri Syariah employee serves a customer in September 2020 at the lender’s Central Jakarta office. The sharia banking subsidiary of Bank Mandiri is digitalizing its services. PHOTO: THE JAKARTA POST

December 1, 2023

JAKARTA – Analysts have hailed new regulations and guidance from the Financial Services Authority (OJK) that aim to further the development of sharia banking in Indonesia through industry consolidation and the introduction of new financial products.

That said, the experts caution that sharia banking might not take off in the short term, if the regulator relies solely on organic growth.

Bold ideas, such as converting a major state-owned bank into a sharia lender or pushing for more sharia finance in the housing market, could accelerate the process, they argue.

According to the Islamic Finance Development Report published last year, assets in the global sharia financial industry totaled almost US$4 trillion in 2021. Indonesia, however, despite boasting the largest Muslim population in the world, only sits in seventh rank.

The country’s sharia financial assets were worth $163 billion in July this year, according to OJK data.

Furthermore, sharia banks hold almost 70 percent of Islamic economy assets globally but only 33 percent in Indonesia.

On Monday, the OJK released a road map laying out its plans for sharia banking, which currently only makes up 7.3 percent of the domestic banking sector by assets.

Based on OJK Regulation No. 12/2023 that took effect in July, the road map mandates a spin-off of sharia business units exceeding Rp 50 trillion (US$3.2 billion) in assets or holding more than half of the parent bank’s assets.

Those units must be converted into separate banks or be transferred to other banks by the end of 2026.

The OJK believes sharia banks are less competitive than their conventional counterparts because of their relatively small scale. Only five of 28 sharia banks and sharia banking business units in the country have assets exceeding Rp 40 trillion.

“[Aside from organic growth], the development of sharia banking could be pushed by some alternative measures, such as business consolidation. Thus, sharia banks could have adequate capacity in capital and technology,” the OJK notes in the road map.

Read also: BSI’s market domination to diminish as sharia banking flourishes

Long time to go

Yusuf Wibisono, executive director of the Institute for Demographic and Poverty Studies (IDEAS), said the OJK was “on the right track” with a “progressive” regulation to develop sharia banking.

The rule follows up on Sharia Banking Law No. 21/2008, which obligates all sharia banking units to convert into sharia banks by the end of this year, subject to further central bank provisions.

Yusuf noted that, while not all units had converted yet, the law did see the market share of sharia banks in the country jump from 2.36 to 7.3 percent.

“At least there are 13 sharia banks [right now] because of the law. The industry response demonstrates the success of the spin-off policy in pushing business players to grow the sharia industry,” Yusuf told The Jakarta Post on Tuesday.

However, he also opined that it would take a long time to see a significant competitor arise for Bank Syariah Indonesia (BSI), the only sharia bank in the country with more than Rp 100 trillion in assets.

“There is a two-year transition period for CIMB Niaga and BTN to spin off [their sharia business units], and we would need to wait more for them to grow their assets sixfold to be on par with BSI,” Yusuf said.

According to M. Amin Nurdin from the Indonesian Banking Development Institute (LPPI), the growth of domestic sharia banking over the past 30 years lags far behind expectations. The lecturer attributes that to a lack of education of sharia banking concepts and products.

“Common people only know that, instead of interest, [sharia banks offer] profit-sharing with a certain percentage. They do not see a clear difference between using conventional and sharia banks,” Amin told the Post on Tuesday.

Regarding the OJK mandate, he noted that new sharia banks spun off from bigger lenders would have relatively little capital to start with.

Publicly listed lender CIMB Niaga, which needs to spin off its sharia unit as it exceeds Rp 50 trillion in assets, has expressed concern about potentially low capital. The firm urged the OJK to provide liquidity incentives amid the spin-off.

The sharia business unit of another private lender, Permata Bank, has shared similar concerns, saying it may need to stop disbursing loans for big corporations after the spin-off.

Read also: Sharia lenders seek liquidity incentives amid spin-off push

During the presentation of the sharia banking road map, OJK chairman Mahendra Siregar said Indonesia was considered a major player in the global Islamic fashion and food industry, which are the second and third-largest Islamic economy sectors, after finance.

Mortgage potential

The LPPI’s Amin said that, aside from those sectors, mortgages should be a focus of sharia banks as the business was close to sharia principles.

The road map, in fact, encourages sharia banks to introduce a product called istishna, which allows property buyers to apply for a loan to purchase a house that has yet to be constructed.

“However, sharia banks need to invest in people that have expertise in sharia mortgage schemes,” Amin said.

State-owned bank BTN, which focuses on the mortgage business, is in the process of spinning off its sharia unit. The lender has also sent letters of interest to two undisclosed sharia banks, to acquire one of them and merge it with the sharia unit.

However, Yusuf from IDEAS said the regulator should encourage BTN to acquire a conventional bank instead, which later could be converted into a sharia bank, so the market share of sharia banks in the country would immediately increase.

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