* Sukuks could help fund US$200bn in projects
* Malaysia may provide template for neighbor
* Regulatory hurdles have to be cleared
Sept 19 (IFR) - Indonesians often complain that neighbouring
Malaysia is stealing their traditional dances and costumes for
its tourism marketing. If they were to take something in return,
however, they could do worse than replicate Malaysia's approach
to Islamic finance.
Islamic finance in Asia is a distinctly Malaysian affair.
Indonesia, an emerging regional powerhouse with the world's
biggest Muslim population, does not even figure. Indonesia needs
to address this shortcoming. Islamic finance could help it solve
two of its biggest financing challenges: funding infrastructure
and reducing its dependency on foreign borrowing.
The prospect is especially tantalising because Indonesia is
in a position to learn from Malaysia's experience and develop
its own Islamic capital markets much more quickly. It could even
exploit the deep liquidity pool that Malaysia has built.
Take infrastructure. Indonesia plans to spend US$200bn on
infrastructure between now and 2014. Progress, however, has been
slow.
Indonesia has been clearing the legal obstacles. It was a
long time coming, but the country recently passed laws that
allow the government to acquire forcibly land that has been
earmarked for infrastructure projects - long thought to be the
biggest legal hurdle to the infrastructure build-out.
The other hurdle is figuring out where the money is going to
come from. Infrastructure finance requires long tenors, and
Indonesia's banks - though very well capitalised - are facing
strong regulatory pressure to shorten lending maturities in
accordance with Basel III requirements. Foreign banks are facing
the same issue, on top of lending crises in their home markets,
so are in no position to fill in that gap.
Islamic finance, however, could step into the breach. Like
project financing, Islamic bonds - or sukuk - are asset-backed
or asset-based structures, making them well-suited to financing
infrastructure.
Malaysia has used sukuk to fund infrastructure projects
ranging from ports and airports to roads and bridges. More than
40% of all sukuk originated in Malaysia are destined for
infrastructure finance.
Indonesia has been building a regulatory framework for
Islamic finance but is yet to make the key change required for
sukuk to become a viable project financing tool - the
distinction between beneficial and legal ownership.
Beneficial ownership is when a person or entity enjoys some
of the benefits of property rights without actually holding
legal title to the property. Beneficial ownership is essential
in Islamic structures where investors, instead of earning
interest, gain income derived from an asset - even when they do
not hold that asset's legal title.
Indonesia clearly understands the importance of recognising
beneficial ownership, because the sovereign's two global sukuk
have involved selling the beneficial interests to certain
properties. It now needs to pass laws that will allow domestic
issuers to use the same beneficial ownership framework.
As well as financing infrastructure, a domestic sukuk market
would also help Indonesian corporates reduce their dependency on
foreign borrowing.
Ever since borrowing too much short-term dollar debt in the
run-up to the Asian financial crisis 15 years ago, Indonesia has
worked hard to develop a local currency debt market. The rupiah
bond market has had one of its busiest markets ever this year,
printing Rp45.5trn (US$4.8bn) of bonds so far. But that still
pales in comparison to Indonesian bond issuance offshore, which
stands at US$9.2bn year to date. The development of a sukuk
market could help address this imbalance.
About 210m of Indonesia's 240m people are Muslims, creating
a large pool of natural demand for Islamic finance products. It
is the government, however, that needs to provide the top-down
part of the equation in the form of the necessary regulations
and tax incentives that will ensure Islamic finance becomes a
viable option.
Indonesia also lacks the large pool of liquidity that
Malaysia's pension funds provide, and that is another area for
government action. But Indonesian sukuk issuers would at least
be able to tap Malaysia's pool of money almost immediately -
much as Middle Eastern issuers are already doing.
Malaysia is the world leader in Islamic bonds, and its
geographic, cultural and linguistic proximity to Indonesia - the
very thing that leads to arguments over the heritage of
traditional dances and costumes - is something that should make
replicating its Islamic finance prowess easier. If it becomes a
success, no one will care whether it was home-grown or not.
(Reporting By Nachum Kaplan)