Indonesia Revises Islamic Banking Rules As Industry Growth Slides

SYDNEY/JAKARTA: Indonesia’s regulator has issued revised Islamic banking rules covering asset quality and capital adequacy to help clarify market practices, while industry growth has now dropped to single-digits. Authorities want to encourage a wider product range to help Islamic banks grab a bigger share of the Indonesian market, a sector which remains behind more mature markets in Malaysia and the Middle East.

Indonesia’s financial services authority, Otoritas Jasa Keuangan (OJK), announced the move on Wednesday as part of a package of 20 new rules, which range from corporate governance to microfinance. Indonesia has the world’s biggest Muslim population but its Islamic finance market only holds a 4.5 per cent of total banking assets in the country as of September, the latest central bank data showed.

Authorities want Islamic banks to hold at least 15 per cent of the market by 2023, but the sector’s growth is stalling. As of September, there were 11 full-fledged Islamic banks and 23 Islamic business units in Indonesia with combined assets of 244 trillion rupiah ($20.1 billion), representing a 7.2 per cent growth year-on-year. This remains above the 3.7 per cent growth of conventional banks, although the OJK had projected Islamic banking assets would grow by 14.4 per cent in 2014 under a moderate scenario, down from 24.2 per cent in 2013 and 34.1 per cent in 2012.

REQUIREMENTS

Under the revised rules, Islamic banks must hold increasing levels of capital depending on their risk profile, with regulators outlining four such categories. The previous capital adequacy requirement for Islamic banks was 8 per cent, while the highest risk profile would require such banks to hold as much as 14 per cent.

This requirements applies only to full-fledged Islamic banks and not to the Islamic units of conventional banks. The rules also detail the types of capital-boosting debt that Islamic banks can issue, which must include a loss absorption feature that allows regulators to convert such debt into equity if a lender faces insolvency.

Asset quality requirements address profit-sharing financing such as mudaraba and musharaka, common equity-like contracts used in Islamic finance. Banks must include the proposed profit sharing ratio in the contract, which must be calculated based on a feasibility analysis of a customer’s business and cash flows. The rules also address issues such as the separation of Islamic units from conventional parents and guidance for conventional firms that want to become sharia-compliant ones.

Originally published on www.economictimes.indiatimes.com