Sharia Banking Industry in Indonesia 2010

INDONESIAN COMMERCIAL NEWSLETTER

November 2010

ISLAMIC BANKING BUSINESS GROWS 35.6% PER YEAR

Backgrounds

In the past five years, sharia banking in Indonesia has expanded rapidly though still far smaller in size or market share compared to conventional banking.

The number of sharia banks has risen from year to year. According to Bank Indonesia, by October 2010, the country had 11 units of sharia general banks (BUS), 23 sharia business units (as part of conventional banks) and 149 units of sharia people credit bank (BPRS), with number of offices totaling 1,388 units.

The growing number of units has been followed with strong annual growth of 35% in their assets - from Rp 26.7 trillion in 206 to Rp 86 trillion in October 2010. Similarly the amount of third party funds held by the Islamic banks has increased to reach Rp 69.1 trillion in October in 2010 from Rp 20.7 trillion in 2006. The market share of sharia banks is relatively small or only around 3.1% of the total assets of Rp 223 trillion of the banking industry in the country in 2010.

The leapfrogging growth of the sharia banking industry in the country has promoted a number of conventional banks to open their units of sharia banking or subsidiaries operating in the sharia banking industry.

In 2010, there were five new sharia banks bringing the total number to 11 from only 6 in 2009. The new sharia banks or units were owned by a number of conventional banks. The new Islamic banks or units were BCA Syariah, Panin Syariah, Victoria Syariah, Maybank Syariah and Bank Jabar Syariah.

BCA, the country's largest private bank launched its sharia subsidiary named BCA Syariah in the first quarter of 2010. In mid 2009, BCA acquired Bank UIB at a price of Rp 248.26 billion, and later it converted into an Islamic bank to focus sharia operations in consumer retail market and small and medium business.

Meanwhile, Bank Negara Indonesia (BNI), a state lender, spun off its sharia business unit into an independent sharia subsidiary named BNI Syariah with a capital of around Rp 1 trillion. BNI Syariah plans to establish cooperation with the Islamic Corporate for the Development (ICD).

In September 2010, Maybank Indocorp was converted into a sharia bank named Maybank Syariah. Maybank Indocorp was 96.83% owned by Malaysia's Maybank (Malayan Banking Bhd), which also controls Bank Internasional Indonesia (BII).

Characteristic of products

The basic principles of sharia banks are different in characteristics from conventional banks as follows.

Savings

Al-wadi'ah is purely a form of saving entrusted by one party to another party either individuals or corporations to be returned whenever the depositor wants.

The bank as the recipient of the saving fund could utilize it in what is known as giro in conventional banking system. The entire profit raised from the utilization of the fund goes to the bank. In compensation the depositor is guaranteed the security of his fund and entitled to other giro facilities.

The giro accounts in sharia banks are managed under deposit system known as Giro Wadiah, as basically, giro accounts are public funds held by banks, used as a means of payment and could be withdrawn any time.

Profit sharing

Al-Mudharabah is business cooperation contract between two parties with the first party to provide the entire (100%) capital to be managed by the other party. The profit from business under mudharabah is split according to the agreement in the contract and losses are on the investor as long as the losses are not cause by negligence of the manager, but on the contrary if the losses are caused by the negligence of the fund manager, the manager is responsible for the losses.

The mudharabah transaction system is used on financing. The al-mudharabah principle is applied in raising fund through savings and deposits and in financing working capital.

The investor (fund owner) under the al-mudharabah principle receives no interest as is in the case of conventional banking. The system is profit sharing. In practice, the profit sharing for saving is 55-56% of the total profit of investment by bank. In conventional banking the interest entitled to the investors is around 11%-12%.

In financing business, a trader could ask for financing service like al-mudharabah. First the trade needs to calculate the profit and the split to go to the investor from the trade to be financed under the system.

Deposits in sharia banks are managed by way of investment or mudarobah, therefore they are called Mudharabah Deposits. Sharia banks pay no interest on the deposits but they pay part of the profit under an agreed ratio. Some time deposits are also managed under the mudharobah system such as old savings, hajj savings and Mudharabah Education Savings. The time deposits may be withdrawn until they reach maturity date.

Al-Musyarakah

This is a form of cooperation between two parties or more in a business. All parties contribute to the capital. The business profit and risks are shared by all participants under an agreement unlike in conventional banking in which bank serves as the financer. Bank and clients contribute to the capital to be used in a venture.

The Principles of Al-Murabahah

This principle is used in sale and purchase transaction of certain goods at a certain price. The profit to be earned by the seller is set by both the seller and the buyer. The seller is required to tell the basic price of the goods to be paid by the buyer plus the profit.

In the case of conventional banking the investor is entitled to a certain interest rate, but in sharia banking, the profit from the venture is split according to a contract. For example, the profit ratio is 60:40 which means 60% of the profit for the investment will go to the client and 40% to the bank.

Development of sharia general bank (BUS)

A sharia general bank (BUS) is independent sharia bank not a business unit or part of a conventional bank.

The first BUS is PT Bank Muamalat Indonesia (BMI), which came on line in 1992.

Shari banking business began to attract more investors marked with the operation of PT. Bank Syariah Mandiri (BSM), a subsidiary of state lender Bank Mandiri, which is the country's largest bank in asset. Later PT. Bank Mega Syariah followed in 2001. In 2009, there were two new shariah banks - PT. Bank Bukopin Syariah and PT. BRI Syariah.

In 2009, the number of BUS operating in the country rose to 5 units including Bank Muamalat Indonesia, Bank Syariah Mandiri, Bank Mega Syariah, Bank Bukopin Syariah and Bank BRI Syariah.

Sharia banks continued to pick up with five new units in 2010 bringing the total number to 11 banks. The five new units coming on line in 2010 are BCA Syariah, Panin Syariah, Victoria Syariah, Maybank Syariah and Bank Jabar Syariah.

The number of sharia bank offices totaled 1,388 units in 2010 not including 1,625 units of channeling office. Sharia banks are allowed to establish a service unit in an operation area of a Bank Indonesia office or province to allow sharia banks to operate more efficiently. For example, Bank Pembangunan Daerah (BPD) Jabar which already has an branch office in Jakarta, will be able to establish a sharia auxiliary branch office in Jakarta to handle distribution of financing and savings.

Sharia Business Units (UUS)

Basically sharia business units (UUS) are not different in their function or operation from BUS. The different lies in their status. BUS is independent in their operation. They are not part of the system of conventional banks. UUS are not independent as they are a division of a conventional bank, which pays and receives interest.

The minimum capital requirement for a UUS is Rap 2 billion, Rap 1 billion for a branch office and Rap 500 million for an auxiliary branch.

Currently there have been 23 conventional banks diversifying business by opening UUS offering sharia banking services. Among the banks are Bank Danamon, Bank Internasional Indonesia, and HSBC, BTN, Bank Permata and others.

Demand for sharia banking services has increased especially in predominated Muslim regions.

Among banks owned by regional administrations already having sharia bank branches are Bank NTB, Bank Sumut, Bank Aceh, Bank Sumsel, etc. Earlier UUS were opened by BPD DKI Jakarta, BPD Jabar, BPD Riau, BPD Kalbar, BPD Kalsel and BPD Sulsel.

In 2009, the number of UUS was 2 units less as Bukopin and BRI spun off their units to become an independent sharia bank (BUS) using the name of PT. Bank Bukopin Syariah and PT. BRI Syariah. In 2010 the number of UUS was reduced further by 4 units with those BCA, BNI, Bank Jabar and Panin Bank becoming BUS.

Based on official figures of Bank Indonesia, by the end of 2010, the number of UUS was reduced to 23 units from 28 units a year before. .............

See list of contents>>