1. INDONESIAN ISLAMIC BANKING: CURRENT PERFORMANCE AND PROSPECT Associate Professor Rifki Ismal Guest Lecture in the Singapore Management University (SMU) Singapore, 2-3 April 2013 1

2. UNDERLYING ECONOMIC AND BANKING CONDITIONS 2

3. ECONOMIC PERFORMANCES GDP is among the highest one in ASIA Inflation in January 2013 remained subdued and arrive at 4.57%(yoy) which is within target range of 4.5%±1% Headline Inflation Source: Indonesia Statistic Bureau (BPS), Bloomberg, Moody’s (Ministry of Finance Presentation on Feb 28, 2013

4. Exchange Rate  Rp is relatively stable between Rp9600/USD- Rp9700/USD with a monthly average of Rp9654/USD Roles of Banking in the Domestic Economy  The role of the Indonesian banking is not yet optimal to support the real sector. Credit to GDP ratio is relatively low compared to the ASEAN countries  The Indonesian Credit to GDP ratio stands between 26%-32%, almost the same as Philippines and Brunei. While others, especially Thailand and Singapore has more than 100% credit to GDP ratio. Malaysia is following them with a growing ratio from 96% to 112% ECONOMIC PERFORMANCES

5. Sound Financial Sector  The banking industry is more resilient, as indicated by level of CAR above the minimum level of 8% (17.3% at the end of Dec’2012) and gross NPLs is at level below 5% (1.9% in Dec’2012).  Further improvement in National banking intermediation is also reflected in progressively improving credit growth, recorded in December 2012 at 23.1% (yoy), in which investment credit, working capital credit, and consumption credit grew by 27.4% (yoy), 23.2% (yoy), and 19.9% (yoy), respectively. BANKING PERFORMANCES

6. Labor ProductivityMinimum Wage Unemployment RatePoverty Level 6 Source: Ministry of Finance Presentation on Feb 28, 2013 OTHER INDICATORS

7. The A. T. Kearney FDI Confidence Index: Indonesia's ranking rose from 20  9 International surveys on investment prospects highlight Indonesia as one of the most attractive investment destinations.. UNCTAD: Indonesia's ranking rose from position 6  4 as a prime investment destination 2012-2014 The Economist: Indonesia ranks third major investment destination in Asia in 2013 Source: A.T. Kearney, February 2012 Source: UNCTAD, July 2012Source: The Economist, January 2013 7 Ranking ‘07‘10‘12 111 532 643 324 1055 1176 7247 4108 21209 162110 18-11 81812 202313 12 14 81115 --16 13 17 --18 24-19 22920 15-21 --22 623 24 25 Source: Ministry of Finance Presentation on Feb 28, 2013 OTHER INDICATORS

8. THE INDONESIAN ISLAMIC BANKING INDUSTRY 8

9. 9 SUPPORTED REGULATIONS AND ACTS Central Bank Act No. 23 of 1999 (amended by Act No. 3 of 2004). Banking Act No 7 of 1992 (amended by Act No. 10 of 1998). Deposit Insurance Act No. 24 of 2004 Islamic Banking Act No. 21 of 2008. Islamic Sovereign Bond (Sukuk) Act No. 19 of 2008. Government Law No. 25 of 2009 (income tax for sharia transactions). Tax Neutrality in Government Law no. 42 of 2009. Microfinance Act No. 20 of 2008 Zakah (Islamic levy) Act No. 23 of 2011. Waqf (endowment) Fund Act No. 41 of 2004.

10. UNIQUE VALUES OF THE INDONESIAN IB Sharia Based with Selected Sharia Compliance contracts. Real sectors oriented (around 80% financing for SMEs). Domestic Orientation (strong domestic demand, market share is still 3.8%) Coopetion with Conventional Banks An independent National Sharia Board and Fatwa Issuance Comprehensive structure of Islamic bank and non bank Financial Institutions Retail Banking instead of Investment Banking A High Annual Growth of Islamic Banking Industry (+/- 40% per year). An Average of 101% Financing to Deposit Ratio in the last 2 Decades An Increasing Trend of Investment Based Financing Social Driven Islamic Banking Development More than 200 million are Moslem Population and Support Islamic Banks Robust Domestic Economy (Less Affected by Global Financial Crisis) Supportive Social and Political Situation

11. To create Leading Islamic Banking Industry, efficient and to be chosen by public to support sustainable economic growth (visi 2020) High Quality HR Supported Infrastructures Strategic Alliances Development of Products & Markets Regulation and Effective Supervision Effective Banking Structures Effective Utilizing of Depositors 7 Pillar of Development Legal foundations, related regulatory standards, standard setting, and fatwas SyariahAkhlaqUkhuwah Aqidah BLUE PRINT OF ISLAMIC BANKING 1 2 3 4 5 6 7

12. 12 ECONOMIC AUTHORITIES IN INDONESIA

13. Medium and Large Business Small and Micro Business Bank Umum Konvensional Bank Umum Syariah UUS Existing BPRS New BPRS New BPR Existing BPR Existing Community Existing Community New Community New Community Investors of BPR/S SMEs Financing is done by: Conventional Banks Islamic Banks Islamic Banking Windows Islamic Rural bank Rural Bank New Investors Baitul Maal Watamwill (BMT) BMT FINANCING TO SMEs

14. Executing ICB IRB MSMEs MSMEs MSMEs MSMEs Joint Financing ICB IRB Channeling ICB IRB Based on Mudharaba Based on Wakala Based on Musharaka LINKAGE MODELS

15. ExecutingICB/BPRS BMT MSMEs MSMEs MSMEs MSMEs Joint Financing ICB/BPRS BMT Channeling ICB/BPRS BMT Based on Mudharaba Based on Wakala Based on Musharaka LINKAGE MODELS

16. Indonesia’s IB (BUS+UUS) average growth in last 5 years reach 37% for asset then 36% for financing and 38% for deposits. Whereas in 2012, the growth for asset (±34%) value Rp. 195 T, financing (±44%) value Rp.147,5 T and deposit (±28%) value Rp.147,5 T. Rp. Triliun ISLAMIC BANKING PERFORMANCES

17. Advantages as Islamic banks during current global uncertain periods: 1.Profit and loss sharing system will be beneficial and provide fair return to all parties. With this system, islamic banks will promote social welfare as the benefit receivers need to pay zakah as part of social contribution while complying to the shariah principle. 2.The products offered by islamic banks always use real sector transaction as its underlying; therefore, the impact of islamic financial transaction can be significant to promote economic growth 3.Reduce potential excessive speculation since islamic finance prohibits the speculative motive. Derivatives products are prohibited by islamic principles because of the existance of gharar 4.In the case of Indonesia: a.Islamic banks nature is to focus on developing small and medium enterprises as the underlying, and there are relatively small risks involved b.Exposure to currency risk, financial sector is relatively small ISLAMIC BANK: PROMOTE FINANCIAL STABILITY

18. 18 INTERNATIONAL RECOGNITION The 4 best Islamic finance industries in the world (BMB Islamic index called Islamic Finance Country Index-IFCI, published in the Global Islamic Finance Report/GIFR) in 2011 Bank Indonesia is the best central bank in the world which promotes Islamic finance (IFN) 2012 Bank Muamalat Indonesia is the most innovative Islamic bank in the world (IFN) 2012 The world rank number 5 as the top lead arrangers for global aggregate Sukuk (Thompson Reuters Zawya Sukuk Perceptions and Forecast Study 2013)

19. PROSPECT 19

20. ECONOMIC PROSPECT Projection for 2013:  The industrial sector remains the largest contributor to growth.  The agricultural sector will grow by about 4%, supported by productivity improvement programs, land, and diversification of products.  Transport and communications, construction, and trade are the sector with the highest growth. Source: Ministry of Finance Presentation on Feb 28, 2013

21. OUTLOOK: ISLAMIC BANKING INDUSTRY

22. 1.Bank Indonesia in its capacity will facilitate link and match program between islamic banks and industry which is prioritized by the government, such as infrastructure, agriculture, as well as others. 2.Focus Group Discussions and business match will be the main forum to match supply and demand between banks and productive sectors.  BI have facilitated several FGDs and have received positive feedbacks. In return, this will help promoting resilience of islamic banks, as well as generate higher asset growth, so that asset share of islamic banks compared to that of in conventional will gradually increase  projection of 15-20% in the next decade BANK INDONESIA POLICIES

23. THANK YOU

24. Associate Professor Rifki Ismal is both central banker and lecturer. He earned bachelor degree in economics from University of Indonesia, master degree in economics from University of Michigan, Ann Arbor (USA) and PhD in Islamic economics and Finance from Durham University (England). An Associate Professor in Islamic Banking and Finance is from the Australian Government (Australian Center for Islamic Financial Studies). He has published more thirty papers in international journals and a book titling Islamic Banking in Indonesia: New Perspective in Monetary and Finance (John Wiley and Sons, March 2013) SHORT BIO