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Indonesia’s Debt Problem? There’s Not Enough of It

The government needs to suppress exchange rate volatility and develop a swaps market to give banks better access to overseas funding.

Indonesia’s Debt Problem? There’s Not Enough of It

The government needs to suppress exchange rate volatility and develop a swaps market to give banks better access to overseas funding.

Payments and deposits are going online, and Indonesia’s banks need to keep up.

Photographer: Dimas Ardian/Bloomberg

Photographer: Dimas Ardian/Bloomberg

Indonesia’s problem with leverage is the exact opposite of what emerging markets usually face. There’s too little debt in the banking system, and too much equity.

Indonesian lenders such as PT Bank Mandiri, the country’s largest lender by assets, as well as rivals PT Bank Central Asia and PT Bank Rakyat Indonesia rank among the world’s best capitalized. Financial leverage, which simply divides assets by equity, is between 5.5 and 7 for all three. For most Chinese, Indian, Brazilian and South African lenders, the figure ranges between 11 and 15.

There is such a thing as being too healthy. After all, when their leverage is too low, banks are unable to do the right thing by anyone. They pay depositors less than they should; charge too high a premium before passing those funds on to borrowers; and then use their oversized margin to pay for everything from bad loans to bloated bureaucracies. Shareholders also lose. 

Fortress Indonesia

The country's lenders are holding too much equity, which forces them to earn exorbitant net interest margins to meet investors' return expectations. That hurts both savers and borrowers.

Source: Bloomberg

*Total assets/ Total common equity for banks with market value of between $20 billion and $50 billion. The number of banks from each country appears in parentheses.

Take Mandiri. It garners a 2 percent-plus return on assets, double the global average for banks with market value of between $20 billion and $50 billion. But its 13 percent return on equity – return on assets multiplied by leverage – is unremarkable. That shuts off the option of raising capital from shareholders to expand its loan book. 

But given the fluffy equity cushion, why don’t Indonesian banks borrow more heavily? The answer lies in the archipelago’s constrained funding market. Mandiri Chief Executive Officer Kartika Wirjoatmodjo says credit growth of more than 13 percent to 15 percent would cause loan-to-deposit ratios to spike. Getting that metric back in line would require paying more to depositors, which in turn would mean sacrificing a juicy 5.5 percent net interest margin. Return on assets would drop, and even with higher leverage, the return on equity would remain unappetizing. Things would be back to square one. 

To loosen the funding constraint, the authorities need to suppress volatility of the rupiah exchange rate and develop a swap market so banks like Mandiri can borrow long-term funds overseas and hedge their currency risk at a reasonable price.

Too Much Fat

As they become more competitive, Indonesian banks' bloated net interest margins would shrink. Return on assets would also fall, but by a smaller amount

Source: Bloomberg

Lenders have a role to play, too. Large firms’ credit demands (usually for capacity expansion) are already about 39 percent of Mandiri’s total loan book – the potential for further growth from this category looks exhausted. So the bank is now trying to persuade major corporate borrowers to put their payroll accounts on its balance sheet and refer some of its more creditworthy suppliers and distributors to increase its exposure to small and medium-sized enterprises.  

Meanwhile, fintech firms are moving aggressively to profit from banks’ outdated payment systems. A customer of a ride-hailing app like Grab can pay 50,000 rupiah ($3.50) for a 15,000 rupiah ride, and instantly receive from the driver the balance of 35,000 rupiah as credit on her e-wallet. When the customer wants to spend this money on popular websites like Tokopedia and Bukalapak, Mandiri wants to entice them to pricier purchases with consumer loans. 

Competition between banks and fintech for retail clients and small businesses would mean narrower net interest margins, which would force banks to cut some flab. Once they are more efficient, large Indonesian lenders could easily leverage up to 10 times or more and deliver a 15 percent-plus return on equity with 1.5 percent return on assets, or even less.

It will be a win for borrowers, for savers, as well as for bank shareholders. After all, if overextended banks cause 2008-type financial crises, overcapitalized ones stymie economic growth.

    This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

    To contact the author of this story:
    Andy Mukherjee at

    To contact the editor responsible for this story:
    David Fickling at

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