IMF published its staff report and selected issues report in context of the 2019 Article IV consultation with Indonesia. IMF Directors welcomed the appropriate focus of the near-term policy mix on protecting macro-economic and financial stability, safeguarding buffers, and addressing vulnerabilities. Directors welcomed the progress in strengthening the frameworks for financial oversight and crisis management in recent years, in line with recommendations of the Financial Sector Assessment Program (FSAP). Going forward, they encouraged the authorities to focus on the identified improvement areas, including clarifying institutional mandates, improving supervision of non-bank financial institutions and financial conglomerates, strengthening the legal framework for financial oversight, and enhancing crisis management frameworks.
The staff report highlights that, overall, the banking system remains sound. Corporate foreign-exchange regulations helped corporates increase the share of hedged foreign-exchange loans; however, elevated foreign-currency debt of corporates leave them exposed to rupiah volatility. This could have spillovers to the banking sector, as most bank loans (52%) are extended to the corporate sector. The banking system is well-capitalized and profitability is high, with return on assets at 2.5%. System-wide liquidity remains adequate, although some small non-systemic banks are vulnerable to liquidity shock, including foreign-exchange liquidity shortfalls. Non-performing loans (NPLs) have stabilized at 2.4% and are expected to decline further, though the share of problem loans (the sum of NPLs, special mention, and restructured loans) remains high at about 9% of total loans.
The national authorities have taken several actions in line with the FSAP recommendations. Basel III standards have been implemented—a regulation on large exposures and a consultation paper for leverage ratio were published in December 2018 and January 2019, respectively. Bank Indonesia and OJK continue to improve their stress test framework, including corporate vulnerability analysis, and have implemented a joint stress test with Bank Indonesia's top-down and OJK’s bottom-up tests. Deposit Insurance Corporation (LPS) has issued regulations on systemic and non-systemic bank resolution and on bank restructuring. Building on this progress, further efforts are needed to strengthen financial oversight and crisis management. Specifically, there is a need to complete the new legal framework for financial sector agencies and the resolution regime, in line with the FSAP recommendations. In addition, OJK should continue efforts to strengthen enforcement of prudential regulations, including regulations on credit and risk management and supervision of financial conglomerates. Finally, stronger coordination between LPS and OJK on bank recovery and resolution will further strengthen the crisis management framework.
The assessment highlights that legal upgrades are needed to align and strengthen the mandates and toolkits of Bank Indonesia, OJK, and LPS to lay the foundations for sustainable financial deepening. The legal upgrades needed include introducing a financial stability mandate for Bank Indonesia and giving primacy to the financial stability objective for OJK; clearly specifying the statutory objectives of LPS, including to protect insured depositors; and improving legal protection for staff. Technological innovation offers a promising channel to overcome the unique geographical barriers to financial inclusion in Indonesia. Pursuing the implementation of the Bali Fintech agenda will support financial inclusion. However, financial innovation may give rise to financial stability and integrity risks through the growing role of new firms or activities that lie outside the current regulatory perimeter as well as through increased exposure to cyber-attacks. To secure the benefits of financial innovation, supervisors should include cyber-security in the regular monitoring and audits of financial institutions.
Keywords: Asia Pacific, Indonesia, Banking, Securities, FSAP, Article IV, NPLs, Financial Stability, Systemic Risk, Basel III, Stress Testing, Fintech, Crisis Management, OJK, IMF
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