The Case for Interest Rate Caps in Indonesia (Part 1)
Originally published in 2018
‘Fintech’ has evolved into a pejorative in Indonesia. Due to a slew of scandals involving predatory, payday lenders, consumers are rightfully voicing their displeasure and regulators are beginning to crack down on such damaging practices.
The national regulator, OJK, has implemented a series of consumer protection regulations, including limiting the use and access of customer data, and also in restricting lenders from contacting the customer’s acquaintances.
These are steps in the right direction, though the biggest hurdle remains unbroached: usury.
There are 60+ registered fintech lending companies in the country. Of these, the overwhelming majority offer an undifferentiated product: 14–21 day loans of $50–100 USD at interest rates exceeding 1% per day (plus administration, origination and collections fees). Many of these also claim to be increasing financial inclusion in Indonesia.
Setting usury laws (legal restrictions on maximum interest rate) is not as straightforward as it may seem. There is considerable evidence against the effectiveness of interest rate caps.
Research from the World Bank has shown that rate caps can result in “… the withdrawal of financial institutions from the poor, … the increase in illegal lending, … an increase in the total cost of the loan through additional fees and commissions.”
Separate research by CGAP found that in Africa, “financial service providers find it difficult to recover costs and are likely to grow more slowly, reduce service delivery in rural areas and other more costly markets, become less transparent about the total cost of loan, and even exit the market entirely
These arguments are structurally sound; however, it is important to note that interest rate caps imposed on these research markets are much more restrictive than what’s currently being charged to Indonesian consumers. Absolute rate caps around the world include annual maximums of 24% (West African bloc), 27% (Bangladesh) and 36% (Thailand and China); these are far removed from the 400%+ APR charged by Indonesian fintech players.
The gap between 36% APR and 400% APR is, obviously, quite large. From a regulatory standpoint, imposing a rate cap somewhere in that range will serve the dual purpose of protecting consumers while also encouraging a healthy business environment where smart organizations can thrive. In fact, further World Bank research has found that “caps set at high levels do not seem to affect the market and can help limit predatory practices by formal lenders.”
OJK has made encouraging progress to improve the lending landscape from the consumer’s perspective. To deepen consumer protection and encourage good business practice, we look forward to supporting OJK in the implementation of an interest rate cap.
Sources:
- Complaints in local media about predatory lending practices
- List of OJK-registered fintech lending companies in Indonesia (as of August 2018)
- (Additionally, there are 182 lenders that are operating without regulatory approval.)
- CGAP research on interest rate caps in Africa
- World Bank research on interest rate caps around the world
- World Bank research on the theory and practice of interest rate caps
