NEWS

The government is targeting economic growth in 2016 of 5.3%. To realize this target, the government directs the 2016 State Budget to be more expansive and productive. This is reflected in the deficit pegged at Rp 273 trillion (2.1% of GDP).

Not only that, the government cut energy subsidies (fuel and electricity) significantly, enlarging the portion of infrastructure spending, and increasing the portion of regional transfers and village funds, thereby further accelerating economic growth in the region.

Even so, the expansion of government spending must still be supported by private sector investment (corporate investment). However, the portion of government spending is only around 8% of the Gross Domestic Product (GDP). Meanwhile, private sector investment reaches 30% of GDP.

That is why in the first-quarter report of the Indonesian economy released by the World Bank recently stated that achieving the target of economic growth in 2016 is highly dependent on increasing the capacity of private sector investment.

Of course, so that the investment capacity of the private sector can be realized is greatly influenced by the availability of funding sources (funding) with cheap interest funds (cost of funds).

Unfortunately, the financial sector, particularly banks which currently dominate financial assets in Indonesia, cannot yet provide a cheap source of funding. Bank lending rates are still relatively high.

Currently, bank lending rates are at the level of 11-13%. Loan interest rates for MSMEs can be above 20%. High-interest rates will be very burdensome, especially in the midst of purchasing power that has not fully recovered.

As a result, some private sectors utilize cheap funding sources from abroad. On the one hand, foreign loans have a positive impact on driving the economy.

However, on the other hand, foreign loans (let alone not hedged) increase the risk of mismatch and trigger macroeconomic disability, especially the exchange rate, when uncertainty increases. Foreign loans are a dilemma.

Pressing deposit rates

That is why the government, Bank Indonesia (BI), and the Financial Services Authority (OJK) pay great attention so that the loan interest rates can be reduced.

The government is targeting until the end of 2016, loan rates can drop below 10% alias single-digit rate, such as the People's Business Credit (KUR) interest rate. Declining interest rates on these loans are expected to further stimulate the economy.

It should be noted that the components forming the loan interest rate consist of three components, namely (i) fund interest costs (fees paid by banks to public funds, in the form of savings, current accounts, and deposits), (ii) operational costs (overhead), and (iii) profit margin.

Of the three forming components, the government, BI, and OJK only "force" so that the first and second components can be suppressed and optimized. There is also, the third component, which can not be forced, because it has the potential to cause turmoil.

Considering that the largest component forming the loan interest rate is the cost of funds, the government, BI and OJK will force the deposit rate to be cut.

The government's step to influence the decline in deposit rates is to ask SOE banks to eliminate the practice of giving special interest rates from funds from big depositors. This special rate can reach 100 bps-200 bps from the applicable deposit interest rate.

Coordinating Minister for the Economy Darmin Nasution stated, ideally deposit rates are only 1% above the inflation rate. That is, if inflation is currently at the level of 4.42%, the deposit rate should be at the level of 5.42%. In fact, the deposit rate remained at 7% -8%.

Meanwhile, BI's move to influence the decline in deposit rates is to cut the BI Rate. During January-March 2016, BI cut the BI rate by 75 bps to 6.75%.

BI Rate is still likely to go down in the future, given the easing of inflationary pressures. A decrease in the BI Rate will encourage a decrease in the LPS Rate which has been the reference for determining deposit rates.

BI will also gradually reduce monetary operations interest rates so that the BI Rate reduction will be more effective. However, the response to the decline in deposit and credit interest rates is still very low. Although the BI Rate has been cut by 75 bps, new deposit rates have fallen by around 7 bps and credit rates have fallen by 4 bps.

In addition to going through the interest rate channel, BI also relaxed the Minimum Mandatory Demand Deposit (GWM) interest rate of 100 bps to 6.5%, which was effectively in effect (16/3). This is expected to maintain the availability of liquidity in the banking system.

While the OJK step is to set an upper limit (capping) deposit interest rates. In October 2014, OJK has imposed a capping deposit rate of 225 bps above the BI Rate for Commercial Banks Business Activities (BUKU) III and Commercial Banks Business Activities (BUKU IV) of 200 bps.

Not only that, the FSA will also release regulations that reduce capping deposit rates a maximum of 100 bps above the BI Rate plus incentives.

Encourage Efficiency

In addition to reducing deposit rates, encouraging efficiency in operational costs can also reduce the reduction in loan interest rates. It must be recognized that the level of banking efficiency in Indonesia is still relatively low. This is reflected in the ratio of Operational Costs to Operating Income (BOPO) which is currently above 80%. Far above the banking BOPO now.

Besides through BOPO, according to Stiglitz and Weiss (1981), indicators of spread interest rate and Net Interest Margin (NIM) can also be used to show the level of banking efficiency.

The higher, the more inefficient. At present, Indonesia's banking NIM is above 5%. Far above the banking NIM in the region at the level of 3-4%.

For this reason, OJK is expected to continue to produce regulations that can drive improvements in banking efficiency. One of them is by encouraging branchless banking so that it is expected to cut overhead costs.

In addition to suppressing deposit rates and efficiency, the authorities also need to continue to encourage financial market deepening, so that the banking sector does not continue to depend on public deposits, but can find new sources of funding, for example through the capital market.

The government is also expected to minimize the crowding-out effect of the issuance of Government Securities (SUN) by providing a reasonable yield. It must be acknowledged that the government has also contributed to the resistance in reducing lending rates so far.

Written by: Desmon Silitonga-Analyst PT. Capital Asset Management.

This article has also been published in KONTAN daily, Wednesday (3/23/2016).