Indonesian banks' loan growth to hit 12% as operating environment improves

But a key downside risk is the corporate sector's still high external debt level.

According to Moody's, Indonesian banks will benefit from an improving operating environment in the coming 12-18 months.

"Economic growth should pick up due to supporting macroeconomic policies and a stronger market for the country's key commodities. Our baseline scenario assumes real GDP growth of 5.2% in 2017 and 5.3% in 2018, compared to 5.0% in 2016."

Here's more from Moody's:

The 2017 budget has increased allocation to infrastructure spending to IDR 387.3 trillion (appox. USD 29.8 billion) from IDR 313.5 trillion in 2016. The expanded budget will go into supporting several initiatives that include toll roads and low cost public housing, amongst others.

Policy rates were reduced over 2016, supporting loan growth. The central bank conducted multiple cuts to its policy rate and reserve ratio requirements over 2016. Current policy rate, the 7-day (Reverse) Repo Rate (BI-7 day RR Rate), is at 4.75%, down from 5.25% since its being used as a policy target starting August 2016.

Improving domestic sentiment is reflected in a stabilization of vehicle sales, where car sales had recorded positive growth over 2016 and the first three months of 2017, and the decline in motorcycle sales had somewhat stabilized from the low of 2015. We consider this a good proxy of consumer confidence and a sign that stabilizing commodity prices are beginning to have a positive impact on disposable income.

Indonesia's external environment will also benefit from a stabilization in commodity prices. In 1Q 2017, commodity exports in USD terms recorded a significant year-on-year increase following several years of weakness on account of higher prices. A continuation of this stabilization will benefit Indonesia's commodity exports, which account for around 60% of the country's total exports and 24% of GDP.

These developments bode well for continue recovery in corporate sales growth, which hit a bottom in 2015.As revenues pick up we expect stronger corporate profits to sustain the investment cycle and also fuel employment growth.

The favorable backdrop above underpins our expectation that loan growth will see a pick-up to a 11-12% pace in this outlook, from its multi-year low of 9% in 2016. Loan growth in Infrastructure and construction (around 10% of system loans) related loans in particular may pickup, in line with the enhanced government spending on infrastructure projects.

A key downside risk to the operating environment remains the corporate sector's still high external debt level. Private sector external debt in the system doubled from USD83 billion at end-2010 to hit a peak of USD168 billion at end-2015, before falling to USD160 billion at end-March 2017, helped in part by more stringent measures on foreign currency borrowing from 1 January 2015 onwards which included tighter hedging requirements. Nevertheless, current stock of external debts will still subject the heavy corporate borrowers to risks of Rupiah volatility and capital outflows.