Indonesia Islamic finance

Sharia-compliant lending made up 7% of Indonesia’s banking industry last year, but new initiatives should boost the sector.

Indonesia has the largest Muslim population in the world, with more than 85% of the country’s 270 million people identifying as Muslim. At the same time, its middle class has ballooned to 20% of the population over the past 15 years, according to the World Bank. With a gross domestic product (GDP) of more than $1tn, Indonesia is one of three Muslim countries in the G20, along with Saudi Arabia and Turkey.

Despite this, Islamic finance made up just 7% of Indonesia’s banking industry last year.

To put this figure in context, Islamic finance makes up about 82% of total financing in Saudi Arabia, 42% of sector assets in Kuwait and 27% of total financing in the UAE, according to Fitch Ratings.

“The Islamic finance market in Indonesia has a lot of potential,” says Bashar Al-Natoor, global head of Islamic finance at Fitch Ratings. But standing in the way are challenges. Despite a population of 225 million Muslims, sharia financial literacy stands at just 8.9%, according to the Financial Services Authority of Indonesia.

The biggest barriers to growth concern the banking sector generally

Bashar Al-Natoor, Fitch Ratings

“Some issues holding back growth are Islamic finance-related,” Mr Al-Natoor says. “But the biggest barriers to growth concern the banking sector generally.”

As the world’s largest archipelago, the development of the sector faces unique challenges. Beyond the five main islands, a lot of Indonesia’s population lives in rural communities scattered across thousands of smaller islands. As a result, more than half of the country remains unbanked, according to the World Bank.

“Bankability in Indonesia remains really low. Awareness of financial products is an issue — many people are unaware and need to be given the right offering,” Mr Al-Natoor says.

Government push

The Indonesian government has thrown its weight behind developing sharia-compliant finance in the country. In January, president Joko Widodo unveiled a ‘sharia economy brand’ to be used by government bodies and other stakeholders to boost awareness of Islamic finance products.

The National Committee for Islamic Economy and Finance, meanwhile, is behind several initiatives.

This year saw the formation of Bank Syariah Indonesia, following the merger of the three largest state-owned Indonesian banks’ sharia subsidiaries. In addition, two regional banks — Bank Riau Kepri and Bank Nagari — have converted into sharia banks.

Further regional development banks will be encouraged to become sharia-compliant alongside more Islamic pension funds, according to reports. Other plans to increase Islamic financial assets include processing the payroll of state-owned firms through Islamic banks.

“The government has strategic plans for Islamic finance, which tie into other initiatives such as fintech,” Mr Al-Natoor says. The Indonesian Fintech Association, for example, has been tasked with raising awareness of digital sharia-compliant products in schools.

“The uptake of technology is also a factor, particularly over the past year when everyone has been locked down, which has accelerated demand for digital products,” he adds.

On top of this, GDP growth is expected to grow 4.3% this year, according to the International Monetary Fund, after falling 2.1% in 2020 due to the pandemic.

“These tailwinds should spur growth in Islamic finance, which will continue to outpace conventional peers,” Mr Al-Natoor says. Islamic finance grew 8% last year, compared to conventional banks, which saw demand contract almost 4%, according to Fitch.

“The merger of the state banks’ sharia subsidiaries will create a stronger Islamic finance player on the ground and the government push is changing the dynamic, but there’s definitely a long way to go,” Mr Al-Natoor adds. “The potential is huge, but there are lot of challenges.”


All fields are mandatory

The Banker is a service from the Financial Times. The Financial Times Ltd takes your privacy seriously.

Choose how you want us to contact you.

Invites and Offers from The Banker

Receive exclusive personalised event invitations, carefully curated offers and promotions from The Banker

For more information about how we use your data, please refer to our privacy and cookie policies.

Terms and conditions

Top 1000 2023

Request a demonstration to The Banker Database

Join our community

The Banker on Twitter