Indonesia

Context:The financial system appears to be broadly resilient, has strong capital and liquidity buffers but remains relatively small and dominated by banks, especially few stateowned banks.Household and corporate indebtedness and public debt are low.The macroprudential policy framework features both financial stability and development objectives.The recently passed Financial Sector Omnibus Law (FSOL) will make notable reforms to the financial sector.Findings: The increase in banks' holdings of government bonds and loans to state-owned enterprises has tightened the "sovereign-bank nexus," but banks appear to be resilient.Credit risk tends to be higher in pandemic-hit industries and highly leveraged corporations.Non-financial corporations' (NFCs) FX exposures have moderated, and associated systemic risks appear contained.Systemic risk identification and analysis is broad and mostly sufficient, although there are data gaps related to households, corporates, and non-bank financial institutions (NBFIs).As a major exporter of coal and given the presence of carbon intensive firms, Indonesia's financial sector is exposed to transition risks from climate change.The authorities have made substantial progress in enhancing banking sector oversight.The financial safety net and crisis management framework for banks has improved.The FSOL will demand the authorities to implement new reforms, while gaps in capacity, supervisory intensity, and coordination exist.Policy advice: The mission recommends strengthening loan quality recognition by banks and risk assessment of small banks.Corporate and banks FX liquidity analysis could be integrated to identify systemic FX risks which can inform the setting of micro-and macroprudential policy instruments.The macroprudential policy (MPP) framework should clearly prioritize financial stability while development goals should be managed with a distinct set of measures.As NBFIs grow in significance, the systemic risk framework should be extended, and new policy instruments introduced to cover NBFIs too.The authorities should enhance supervisory effectiveness by continuing to improve the risk assessment methodology, better integrating certain supervisory activities and intensifying scrutiny in assessing corporate governance and risk management practices.Strengthening independence of the supervisor and providing clarity on primary supervisory objectives is important.Indonesia's resolution framework should be more closely aligned to the FSB Key Attributes, including regarding the bail-in tool, and should cover financial conglomerates in the framework.Authorities should not delay resolution of weak banks by providing liquidity assistance from the deposit insurance fund.