Islamic banking in Indonesia faces critical choices as a midget industry in a major Muslim nation. If this Muslim midget is to grow up, it has to scale up with less emphasis on SMEs and more on supporting local corporations, or invest in a much wider banking base with many more SMEs.

Muliaman D Hadad, deputy governor of the Indonesian central bank (Bank Indonesia or BI) told a seminar organized by the Indonesian Chambers of Commerce and Industry (KADIN) in Jakarta on Tuesday 19 May that shariah banks should diversify their services and progressively cater for local corporations if it wants to grow faster.

Otherwise the target for Islamic banking in Indonesia to deploy 5 percent of banking capital by 2011, “cannot be reached”.

The latest central bank figures show that Islamic banking accounts for only 2.1 percent of the Indonesian bank lending market and perhaps 3 percent of national banking capital assets. Moreover lending performance relative to deposits is low.

The central bank says the average rate of capital growth of Islamic banking in Indonesia was about 60 percent from 1999 to 2004, falling to average 46 percent since then.

However Islamic banking is starting from a very low figure and conventional banking has grown at a consistent 13 percent in the same period, starting from a far higher volume.

What Muliaman D Hadad of Bank Indonesia is really saying is that unless Islamic banking in Indonesia changes its mind-set and goes for volume, then it may never catch up with the rate of growth of conventional banking and therefore not significantly increase its market share or share of capital.

By March 2009 the total lending of Indonesian Islamic banking reached only US$4 billion or 2.1 percent of the total capital base of Indonesian banks, and 70 percent of this was allocated to SMEs, while total assets were only about $5.3 billion.

Indonesian shariah banking only reached 3.79 million customers in 2008 via 1,452 bank outlets, compared to 6,500 conventional bank outlets. The latter was backed by 97 percent of banking assets, and the former by 3 percent.

Indonesian shariah banking disbursed only 589,000 loans in 2008 compared with 512,000 in 2007. Shariah banking “loan disbursement is like a walking tortoise” said Siti Fadjrijah, the Deputy Governor of the Bank of Indonesia, in Jakarta in January

Experts calculate that the shariah banking industry, to reach the 5% of banking assets target, would need an estimated 15,000 to 25,000 extra staff.

Shariah banking expert Syafi Antonio, CEO of the Tazkia Group, said in the KADIN seminar on Tuesday that Islamic banking in Indonesia should be considered as an infant industry for at least ten years, before it is able to sustain growth by itself.

Ventje Raharjo, President of BRI Syariah said government should give tax incentives to Islamic banking, including lower income taxes.

But Muliaman D Hadad of BI insisted “the development of the shariah banks has not come up to expectations” and they should target larger local corporations and growth sectors like agriculture, food, energy, healthcare, technology and education.

But the shariah banks are not geared to work in the social capital sectors where they are truly needed, like electric power and clean water for the poor.

Globally shariah banking deploys $250 billions with a 15 percent growth rate.

But Indonesia with 15 percent of the worlds Muslim population deploys only 2.1 percent of global shariah banking assets.

Yet the first Indonesian state-backed Islamic dollar-denominated retail bond issue of $650 millions in April was oversubscribed with buyers putting up $4.7 billion.

In Indonesia, Islamic banking and finance seems more about bonds than banking, and despite vague support to make Indonesia an Islamic banking hub, there is no sign yet of a higher-volume banking strategy to do this. Maybe Islamic banking in Indonesia is a Peter Pan industry that does not want to grow up.

Dr. Terry Lacey
Email: terrylacey2003@yahoo.co.uk
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Dr. Terry Lacey is a development economist who writes from Jakarta, Indonesia, on modernization in the Muslim world, investment and trade relations with the EU and Islamic banking.
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