Outlook for Indonesia's Banking System Remains Stable, Says Moody's

Moody's Investors Service says that the outlook on the Indonesian banking system remains stable, reflecting Moody's expectation that the country's banks will continue to report strong financial fundamentals, including high profitability and capital levels, despite an economic slowdown that will put some pressure on asset quality.


"Non-performing loans will likely rise moderately, given the combination of loan growth rates in excess of 20% for the past several years, and slowing economic growth," says Srikanth Vadlamani, a Moody's Vice President and Senior Analyst.


"Nonetheless, the banks are well-positioned to withstand any deterioration in asset quality and to maintain strong capital levels. In particular, they have strong buffers in terms of high profitability and capital. Moreover, both corporate and household balance sheets remain healthy," adds Vadlamani.


Moody's conclusions were contained in its just-released "Indonesia Banking System Outlook", which expresses Moody's expectation of how bank creditworthiness will evolve in this system over the next 12-18 months.


The report looks at the banking system in the five categories of operating environment; asset quality and capital; funding and liquidity; profitability and efficiency; and system support. While Moody's assesses the first two categories (operating environment and asset quality and capital) as deteriorating, the other three categories are stable.


The overall stable outlook for the banking system has been effective since January 2010.


Moody's expects Indonesia's GDP growth to slow to 5.4% this year, from 5.8% last year and an average of 6.0% between 2007 and 2012.


Moody's report points out that declining demand for many of Indonesia's commodity exports have dragged down associated revenues and led to an increase in the current account deficit. The decline in foreign exchange reserves and depreciation of the local currency have in turn led the central bank to increase interest rates to curb inflation.


According to Moody's report, the lagged effects of the measures by the central bank will likely hurt economic growth this year. Nevertheless, growth in underlying domestic demand will remain a key economic driver.


The report also says that Indonesian banks will maintain healthy capital ratios even under an adverse scenario, where non-performing loans are assumed to rise to around six times the current levels.


In addition, the banks' liquidity profiles should remain stable over the next 12-18 months, given that loan growth is expected to slow.


On profitability, Moody's report says Indonesian banks will remain amongst the most profitable globally. In addition, while net interest margins could trend down from the 5.8% seen in September last year -- due to rising deposit costs -- such contractions should be marginal.


Moody's adds that it expects the Indonesian government (Baa3 stable) to continue to provide strong support to the banks.


However, the report points out that the banking system faces some transition risks, as responsibility for banking sector supervision has recently been transferred to the financial services authority from the central bank. The two entities will therefore have to coordinate micro and macro prudential regulations.


Moody's also says that the stable outlook on the Indonesian banking system is consistent with Moody's stable outlook on the Indonesian government's Baa3 rating.


Moody's rates nine of the 10 largest banks in Indonesia by assets. The nine banks accounted for 59% of system assets at end-September 2013. All nine banks are rated Baa3 for local and foreign currency deposits, and all the ratings carry stable outlooks.

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