Mortgage lending in Indonesia: Potential and obstacles

Ari Pitoyo, CFA, Head of Research

Declining interest rates, rising purchasing power and a favorable demographic structure all would seem to be highly supportive of growth in mortgage lending.

Data on Bank Indonesia's website shows that outstanding mortgage loans amounted to nearly Rp 73 trillion as of December 2006. Despite the doubling of fuel prices in 2005, this figure is up 30 percent year on year -- higher than overall lending growth, which concurrently increased by close to 14 percent. But just how large is the potential and what are the obstacles?

Estimating the potential market for mortgage loans in Indonesia is not easy given that the available statistics on the number of households living in self-owned homes are limited, as is income data.

For a rough estimation, however, we can start with the number of credit cards issued. A total of 8.6 million credit cards are in circulation in Indonesia. Assuming that each person holds two cards, this means there are potentially 4.3 million cardholders.

The Global Property Guide estimates that the home ownership rate exceeds 80 percent in Jakarta, Taipei and Singapore. We then apply a discount of 30 percent assuming Jakarta accounts for 40 percent of Indonesia's credit cards. Another discount needs to be applied for defaulting cardholders, say 10 percent, which leaves a potential 2.58 million cardholders.

Assuming a conservative estimate of Rp 100 million in average loan size, the potential market would then be around Rp 258 trillion.

So, what is preventing mortgage lending from booming? Is there inadequate housing supply or are there problems in the banking system? Apparently, asymmetries exist in that domestic banks are more risk-averse than foreign-owned banks.

Higher risk aversion in some domestic banks may be connected to lingering trauma from the 1998 economic crisis, while not all foreign bankers will have experienced the crisis firsthand.

Could this be the problem? As revealed in Infobank's February 2007 edition, the top three mortgage lenders account for 39 percent of total mortgages. These three lenders are Bank Tabungan Negara (BTN) on Rp 13.9 trillion, Bank Mandiri on Rp 7.4 trillion, and Bank Niaga on Rp 7 trillion.

In our opinion, the problem seems to lie in the banking system. Property loans are considered to have been the main culprits for the fallout during the 1998 economic crisis.

Back then, every developer had their own bank, and banks were double-leveraging on the same projects, financing both contractors (or developers) and buyers.

To boost sales, most developers offered so-called buyback guarantees, under which the developer guaranteed to buy back the property if the buyer defaulted. Prudence seemed to have been forgotten as bankers advanced loans willy-nilly to their own groups. Today, long after the crisis, the trauma apparently persists, and real estate is lumped together with textiles as one of the sectors best avoided.

Could the effects of the crisis be repeated? Probably not. Foreign-owned banks now hold more than 40 percent of domestic banking-sector assets, and the rest are mostly owned by state banks. Hence, it is less likely for money to be channeled to own-group developers nowadays.

Bank Indonesia also applies stricter rules to prevent a systematic collapse. What needs to be watched out for at all times are multiple leveraging and mark-ups.

Another problem impeding mortgage lending in Indonesia concerns the legal aspects. As Indonesia drifts further away from authoritarian rule, land problems are becoming pervasive given that government institutions frequently lack proper land documentation.

Enforcement creates further headaches as legal documents can be rendered useless by less authoritative documents. For example, land titles are frequently contested by claimants holding nothing more than girik (land documents signed by village heads).

This creates difficulties for the banks in repossessing collateral in the case of defaulted loans. According to the Wall Street Journal, quoted by the Global Property Guide, protection of property rights in Indonesia is rated at 4 (low), down there with China, Cambodia, the Philippines and a number of countries in Central Asia.

Transaction costs are another impediment to the expansion of mortgage lending. According to the Global Property Guide, "roundtrip" transaction costs in property transactions are generally below six percent in China, Hong Kong, Japan, Malaysia and Singapore. On the other hand, total costs in Taiwan, Thailand, Indonesia, the Philippines and South Korea are above ten percent, with costs in Indonesia, in fact, being close to 15 percent. For these countries, the bulk of the costs is made up of real estate agent fees, and sales and transfer taxes ("roundtrip" transaction costs in the sale of property are made up of registration costs, real estate agent fees, legal fees, and sales and transfer taxes).

An interesting side conclusion from the Global Property Guide is that those Asian countries with higher transaction costs tend to have bigger slums and less affordable housing.

So, legal problems are a major issue. But do they provide a compelling reason for the bankers to shun mortgage lending? Ideally, a lack of legal certainty should just add another layer to the loan screening process, rather than discourage lending altogether.

Compared to other types of loans, the consumer sector has one of the lowest non-performing-loan (NPL) levels. For example, consumer loans at state lender Bank Mandiri have an NPL rate of approximately 5 percent, while the commercial NPL rate stands at slightly over 24 percent. Similar NPL rates are also found in the case of Bank Negara Indonesia (BNI), at 7.4 percent vs. 17.5 percent (all figures are as per 30 September 2006).

Legal problems are not specific to the property sector. Banks still hold the bargaining power as the loan amounts are small. Just reduce the level of risk aversion and let the loans flow.

Disclaimer: This article is for informational purposes only; despite utmost attention to detail, PT Bahana Securities does not warrant the accuracy of the figures given in this article.
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